Contribution Limits & Eligibility

• Although anyone with earned income is eligible to contribute to a traditional IRA, you may or may not be able to take a tax deduction on your contribution. Generally, you can deduct the entire amount of your IRA contribution if you are not covered by a plan at work. If you are covered by an employer plan, the amount of your deduction is phased out as your income rises. The exact matrix of deductibility is published by the IRS every year in IRS Publication 590 and uses a combination of your tax filing status and your adjusted gross income to determine the amount of your deduction. This same publication provides the annual contribution limit for IRAs.
  
  

Distributions

• Even though a contributory IRA is intended to be a long-term savings and investment account, the IRS lets you take withdrawals from the account at any time. However, you may be subject to taxes and penalties on your withdrawal depending on your age and the purpose of your distribution. Once you reach the age of 70 1/, the IRS requires you to take money out of your contributory IRA on an annual basis. The amount you must withdraw is based on a calculation in Appendix C of IRS Publication 590 that factors in the value of your account and your life expectancy.
  
  

Taxation

• Almost all distributions from a contributory IRA are taxable upon distribution, regardless of when or why you take them. The sole exception is if you made any nondeductible contributions to your IRA, in which case you have already paid tax on that money and can withdraw it tax-free. The IRS considers IRA distributions to be ordinary income, taxable at your regular income tax rate.
  
  

Penalties & Prohibitions

• If you take money out of your contributory IRA before you reach age 59 1/2, you must generally pay a 10 percent penalty in addition to income tax. The IRS classifies these distributions as "early withdrawals" as anything earlier than 59 1/2 is not considered to be ordinary retirement age. Certain exceptions to this penalty exist, such as distributions due to excess medical expenses, disability or the first-time purchase of a home. The IRS also restricts certain investments and transactions from a contributory IRA, such as investments in collectibles and investment real estate. If you violate the IRS restrictions, your account may lose its status as an IRA, rendering it immediately taxable.