Annual contribution limits for retirement accounts are common knowledge, but account owners don’t often consider that the ability to contribute is conditional. Account owners must show ‘compensation income’ in order to qualify for contributions.
Eligible forms of compensation income include salaries, self-employment income, wages, commissions, taxable alimony, nontaxable combat payments, and some other forms of income. Qualifying income must exceed contribution limits in order for the account owner to contribute the maximum amount. For example, if an IRA owner received $4,000 in compensation income during a tax year, they would not be eligible to contribute up to the maximum limit of $5,500. Instead, they would only be eligible to contribute up to $4,000.
Income from annuities, rental properties, dividends, pensions, deferred compensation, and most nontaxable forms of income are ineligible funds.
Fortunately, compensation income is not mandatory in order to rollover accounts. An IRA rollover could help consolidate account maintenance, offer tax benefits, and preserve long-term tax-deferred growth depending on the type of account. When managing multiple retirement accounts, consider that the Internal Revenue Service permits only one rollover per year.
The EPI study referenced above detailed a shift from defined-benefit plans (pensions) to defined-contribution plans (employer contributions). While this trend still offers employees funds for the future, the change occurs during another trend: Less engagement with employer-based plans. No matter how an account is maintained—whether employer-based or non-employer-based—account owners still need to satisfy compensation income in order to contribute.