Traditional IRAs

Definition

The term Traditional IRA is used to describe individual retirement accounts established by the Tax Reform Act of 1986.  Traditional IRAs offer individuals the opportunity to defer the payment of federal income taxes on the growth of money placed into the account until withdrawn.

Explanation

Traditional IRAs are held in what are called custodial accounts with financial institutions such as a bank or brokerage house.  Money placed into the account can be invested into any asset the financial institution allows, including Certificates of Deposits, mutual funds, bonds or even common stocks.

Subject to income phase out limits, the contributions to a Traditional IRA may be tax deductible.  Earnings are allowed to accrue to these accounts free from income taxes until withdrawn.

Anyone with taxable compensation, and under the age of 70 1/2 by the end of the calendar year, can set up an account.  Contributions to Traditional IRAs are limited to the lower of taxable compensation or $5,500 in 2015 and 2016.  An additional catch up contribution of $1,000 is available to individuals age 50 or older by the end of the calendar year.

Qualified distributions, or withdrawals, can be taken starting after age 59 1/2.  At age 70 1/2, Traditional IRAs have minimum required distributions.  This is money the IRS expects the accountholder to remove from their account each year starting at age 70 1/2.  Non-qualified withdrawals are subject to additional tax penalties.

Our article on Traditional IRA has up-to-date information on contributions, rollovers, as well as deduction phase-out thresholds.

Related Terms

Roth IRA, SIMPLE IRA, 401k plans