If you hurry, you can still lower your 2022 tax bill.
Yes, it’s true. While most tax-saving actions must be completed by year-end to count for that year’s return, taxpayers can continue making contributions to their individual retirement account (IRA) until the tax filing deadline—Tuesday, April 18th this year.
In 2023, you can contribute up to $6,500 to an IRA – $7,500 for those over 50. Your investments will grow tax-free until you begin withdrawing funds (after age 59.5), at which point you’ll owe taxes on those distributions. This is excellent news for anyone who hasn’t yet contributed or hasn’t maxed out their contribution for the year.
You might want to make a last-minute contribution to your IRA for several reasons— read on to learn more.
Contributions to traditional IRAs may be tax-deductible, meaning you can reduce your taxable income and potentially lower your tax bill. Roth IRA contributions are not tax-deductible, but withdrawals in retirement are tax-free. (Just a reminder that Roth IRAs do have income limits, but even those exceeding the limits can convert a traditional IRA into a Roth through a legal loophole known as the backdoor Roth IRA.)
As you prepare your tax return, plug in an IRA contribution and see exactly how much your tax bill will decline. For example, someone in the 24% income tax bracket who contributes $6,500 to an IRA would see a little more than $1,500 off their tax bill.
Boosting Retirement Savings
The money you contribute to your IRA can be invested in various assets such as stocks, bonds, mutual funds, or exchange-traded funds (ETFs). Over time, these investments can grow and earn interest, dividends, or capital gains, helping your retirement savings accumulate even faster.
And let’s not forget one of the most powerful benefits of contributing to an IRA—the power of compound interest. Interest earned on your contributions is reinvested and earns additional interest over time. This compounding effect can help your retirement savings grow exponentially, especially if you start contributing early and make regular contributions over time.
If you’re over 50, you can make additional “catch-up” contributions to your IRA; last-minute contributions can help you take advantage of this opportunity. And while last-minute funding can be helpful to ensure that you’re taking full advantage of the benefits of your IRA account, it’s best to make regular contributions throughout the year to maximize your savings potential.
How to Make an IRA Contribution
If you have a financial advisor, they will be able to help you with making a contribution to an existing IRA account or help you open a new account if necessary. Here are the steps you can take on your own to get this accomplished, if you are not working directly with a professional::
- Choose the type of IRA that is best for you. The most common types of IRAs are traditional and Roth. Traditional IRAs allow you to deduct contributions from your taxable income. In contrast, contributions to Roth IRAs are made with after-tax dollars (meaning no tax benefit today, but during retirement, all withdrawals are tax-free and without minimum distributions). Business owners and self-employed professionals might be interested in SEP (Simplified Employee Pension) IRAs. They’re like traditional IRAs, funded with pre-tax earnings, and withdrawals are taxable in retirement.
- Open an IRA account. Many options exist, including banks, brokerage firms, and other financial institutions. When choosing, consider the investment options offered, as well as fees and costs, too. Typically, you’ll need the following documentation and information:
- Your government-issued ID (a driver’s license or passport)
- Your personal information (name, phone number, address, date of birth, and Social Security number)
- Details on your beneficiaries or who you’d like to inherit the account upon your death
- Your preferred contribution method
- Banking details or information on your other 401k or IRAs (if you’re doing a rollover)
- Fund your IRA and begin making investments. Now you can make your contribution! Typically this can be done via rollover, check, or electronic payment—in some cases, you may be able to link your bank account and directly transfer funds. The more you can contribute, the better for your future, but you can’t contribute more than the IRS’ annual limits. And remember, on its own, an IRA is not an investment—it’s an account that holds the investments you choose, so don’t leave out this critical step!
Does A Last-Minute IRA Contribution Make Sense for You?
This will largely depend on your unique financial situation. While high-income earners eligible for a deduction might see the most significant benefit from a last-minute contribution, even someone in a lower tax bracket could still see tax savings.
If you didn’t maximize your contributions in 2022, or you’re just looking to lower your tax bill, a last-minute contribution to your IRA can be a smart move if it makes sense for your financial situation and retirement goals. It’s important to remember that regular contributions throughout the year are the best way to maximize your savings potential, keeping you on track to reach your retirement goals. If you need support with your retirement planning, schedule a 15-minute introduction call today!