Spousal IRA deductibility
If both spouses work and are married filing jointly, and one is an active participant in their employer sponsored retirement plan and one isn’t, who gets the spousal IRA treatment? Is it the one with the lower salary or the one who is not the active participant?
For example, JIll is an active participant with a salary of $8,000 and John is not an active participant and has a salary of $120,000, and they have an AGI of $125,000. Who gets to use the higher spousal IRA phase-out of $159,000 – $169,000 for 2008?
Thanks
BruceM
Permalink Submitted by Alan Spross on Wed, 2008-02-13 20:08
Bruce,
The participating spouse is subject to the lower MAGI phaseout and the non participating spouse is subject to the 159-169 joint MAGI phaseout, but only if filing jointly with a participating spouse. Their individual salary breakdown is immaterial.
Therefore, Jill cannot deduct any part of her IRA contribution, but with a MAGI of 125,000 John can deduct all of his contribution. He would go into phaseout if their MAGI passed 159,000. The solution for Jill in this situation is to contribute to a Roth IRA, which she can do with a joint MAGI of 125,000. She gets a Roth contribution and he gets the deduction for a TIRA contribution, which they probably need at this income level.
Use of the spousal contribution rules where a higher earner provides some earned income to subsidize a contribution for the lower earner does not affect the above at all.
Permalink Submitted by BruceM on Thu, 2008-02-14 17:25
Thanks Alan
Your explanation is also my understanding of how the spousal IRA works, until I recently came on the following out of the College for Financial Planning’s study guide:
“If both spouses have earnings, the spouse who earns the least is the spouse who is eligible for the spousal IRA. For example, if John earned $35,000 and Jane earned $500, Jane is eligible for the spousal IRA, not John”
Now, this doesn’t say who is an active participant. But if neither is, then the spousal IRA deductibility wouldn’t matter, as there wouldn’t be a phase out. And if both are AP’s, then again the spousal IRA rules wouldn’t apply as they would both be subject to the MFJ phaseout.
How would you interpret this?
BruceM
Permalink Submitted by Denise Appleby on Thu, 2008-02-14 17:41
Hi Bruce,
You may want to look at them as two separate issues, as combining them can confuse the issue
[b]Issue 1 [/b]is the [url=http://www.retirementdictionary.com/Spousal-IRA.htm%5Dspousal IRA[/url]. In which case, the information from CP would be correct. Here, the nonworking spouse ( or spouse who has little or no income) uses the working spouse’s compensation for purposes of having eligible compensation for funding an IRA.
[b]Issue 2[/b] would be the issue of deductibility, which Alan addressed. This is the issue that is affected by the [url=http://www.retirementdictionary.com/active-participant.htm%5Dactive participant[/url] status.
Permalink Submitted by Alan Spross on Thu, 2008-02-14 19:37
Bruce,
As Denise indicated, to show how separate these two issues are, consider a modification of your example so that Jill has only 3,000 of taxable compensation, but wants to increase her contribution to the max allowed under the spousal contribution provision.
She can do this by using some of John’s taxable compensation. However, using some of his compensation does not change the fact that SHE is still a plan participant and he is not. She still cannot deduct any of her contribution and should therefore make her full contribution to a Roth IRA. And despite having some of his taxable compensation used by Jill, John still remains uncovered and can deduct his TIRA contribution in full with the stated joint MAGI.
In other words, the “participant” status never changes between spouses, even though one of them may apply a spousal contribution to their respective IRA account.
Permalink Submitted by BruceM on Fri, 2008-02-15 18:24
Alan and Denise
Yes, the spousal IRA rule makes sense as you’ve described. What is still stumping me is the statement from te CFFP’s study material…unless, I suppose, it is simply stating the obvious, although what difference would it make if both had an income vs. only one had an income?
The only situation I can think of where this may make a difference is if Jill’s earned income was, say, $500 and John’s was $3,000. Under spousal IRA rules, Jill could contribute from $500 to $3,500 to her TIRA and John could contribute only $3,000 or an amount reduced from this by whatever Jill uses in addition to her income….he could not contribute more. Now, lets say their MAGI is between $105,000 and $159,000 and John is an active participant. By tranferring his earned income to Jill, they can get a $3,500 deduction, whereas any part of his $3,000 he would elect to contribute would have to be after tax (to either a TIRA or Roth). But this all seems like an unlikely combination of events, almost to the point of not mentioning it….so not sure why the study material does.
Anyway, thanks for the input
BruceM
Permalink Submitted by Alan Spross on Fri, 2008-02-15 20:27
I guess the key observation here is that a couple with one low non participant earner, and one higher earning participant, and not able to max out their IRA contributions could allocate the available funds to the lower earning spouse and get the tax deduction instead of to the higher earning spouse who would not get the deduction or have to make a Roth contribution.