Understanding Spousal IRAs: A Comprehensive Guide for Couples

As a Chartered Financial Analyst with over 20 years in the field I’ve helped guide thousands of new graduates in managing over $2.6 billion in assets and debt. In this comprehensive guide, we’ll talk about Spousal Individual Retirement Accounts (IRAs). This informative guide will help couples understand and leverage the benefits of a Spousal IRA, providing a strong foundation for future financial planning.

What is a Spousal IRA?

A Spousal Individual Retirement Account (IRA) is a specialized kind of retirement account designed specifically for married couples. This can be either a Traditional or a Roth IRA.

This type of IRA allows a working spouse to contribute to an IRA in the name of a non-earning spouse, helping both parties save for retirement and enjoy the tax advantages associated with such accounts. With a Spousal IRA, couples have an opportunity to double their retirement savings, ensuring financial security and stability in their golden years. It’s a practical and effective tool to boost your retirement savings while gaining the tax benefits.

Comparing Spousal IRAs with Traditional and Roth IRAs

While Spousal IRAs share many characteristics with Traditional and Roth IRAs, there are key differences that make them uniquely beneficial for couples.

Similarities

1. Contribution Limits: Like Traditional and Roth IRAs, Spousal IRA contributions are capped at $7,000 annually (as of 2023), or $8,000 if you’re age 50 or older.
2. Tax Advantages: All three types of IRAs offer tax advantages. Traditional and Spousal IRAs provide tax deductions on contributions (subject to income limits), while Roth and post-tax Spousal IRAs offer tax-free earnings and withdrawals in retirement.
3. Investment Options: The range of investment vehicles (stocks, bonds, mutual funds, etc.) are the same across Traditional, Roth, and Spousal IRAs.

Differences

1. Eligibility: Unlike Traditional and Roth IRAs, Spousal IRAs are specifically designed for married couples where one spouse has little or no income. The income-earning spouse can contribute to the Spousal IRA, effectively doubling the couple’s retirement savings capacity.
2. Income Restrictions: Roth IRAs have income limits for eligibility. If a couple’s income exceeds these limits, they cannot contribute to a Roth IRA, but they can still contribute to a Traditional or Spousal IRA.
3. Tax Filing Status: To contribute to a Spousal IRA, couples must file their taxes jointly. This requirement doesn’t apply to Traditional and Roth IRAs.

Eligibility and Requirements

To be eligible for a Spousal IRA:

1. Marital Status: You must be married. The IRS only recognizes Spousal IRAs for legally married couples.
2. Tax Filing Status: Your tax filing status must be “married filing jointly.” If you’re married but file separately, you won’t be eligible to contribute to a Spousal IRA.
3. Income: At least one spouse must have taxable compensation. This includes wages, salaries, tips, bonuses, commissions, and self-employment income.
4. Age: For Traditional Spousal IRAs, distributions must begin by age 72. Roth Spousal IRAs have no age limit.

Contribution Limits and Rules

The IRS sets annual contribution limits for Spousal IRAs, which may change from year to year due to adjustments for inflation. Below is a breakdown of these limits for last few years:

2023: The limit for total contributions to all traditional and Roth IRAs (including Spousal IRAs) was $6,500 – $7,500 if you were age 50 or older.

2024: For 2024, the IRS increased the total contributions for all traditional and Roth IRAs (including Spousal IRAs) to $7,000 ($8,000 if you’re age 50 or older).

Please note that these limits apply to the total contributions made to all your IRAs (including Spousal, Traditional, and Roth) in any given year. As a couple, if each spouse has an IRA, you could potentially double these amounts. For example, in 2024, a couple could contribute a total of $14,000 (or $16,000 if both are age 50 or older) across all their IRAs.

Understanding Catch-Up Contributions for Those Over 50

A unique provision of the IRA rules, including Spousal IRAs, is the opportunity for individuals aged 50 and up to make ‘catch-up’ contributions. This feature acknowledges the reality that many people may not start saving for retirement until later in life and are allowed to contribute an additional $1,000 per year to their IRA. Simply put, a person who is 50 or older can contribute $8,000 annually instead of the standard $7,000. This additional investment can accelerate the growth of retirement savings, helping older savers make significant strides in catching up to their retirement goals. It’s a powerful tool that can substantially affect the size of your retirement nest egg, ensuring a secure and comfortable retirement.

Tax Implications and Benefits

Traditional and Roth Spousal IRAs have distinct tax advantages which can benefit couples in different income situations and phases of their lives.

Traditional Spousal IRA – Tax Deductions

1. Immediate Tax Deductions: Contributions to a Traditional Spousal IRA can be tax-deductible in the year they are made. This means you could potentially lower your current taxable income, and thus, your current tax bill.
2. Tax-Deferred Growth: Investments in a Traditional Spousal IRA grow tax-deferred, meaning you won’t pay taxes on gains, dividends, or interest until you withdraw the funds in retirement. This allows your money to compound over time without the friction of yearly taxes.

Roth Spousal IRA – Tax-Free Growth and Withdrawals

1. Tax-Free Growth: After paying taxes on the initial contributions, investments in a Roth Spousal IRA grow tax-free. This means you won’t owe any taxes on gains, dividends, or interest.
2. Tax-Free Withdrawals in Retirement: Withdrawals from a Roth Spousal IRA are tax-free in retirement, provided certain conditions are met. This is a significant benefit for those who expect to be in a higher tax bracket in the future, as it allows you to lock in your current lower rate.

Please note, it’s always advisable to consult with a tax professional when planning your retirement strategy. They can help you understand how these tax rules apply to your specific situation and choose the best type of IRA for your financial goals.

Phase-Out Ranges for Spousal IRA and Their Application

Phase-out ranges are vital in determining the tax-deductibility of contributions to both Traditional and Roth Spousal IRAs. If your income falls within certain limits, your ability to contribute to a Roth IRA or deduct contributions to a Traditional IRA may be limited.

Traditional Spousal IRA – Phase-Out Ranges

For Traditional Spousal IRAs, if the income-earning spouse is covered by a workplace retirement plan, the tax deduction for Spousal IRA contributions is phased out if the couple’s income is:

1. 2023: Between $116,000 and $136,000.
2. 2024: Between $123,000 and $143,000.

If the income-earning spouse is not covered by a workplace retirement plan, but the non-income-earning spouse is, the phase-out range for the income-earning spouse’s contributions is:

1. 2023: Between $218,000 and $228,000.
2. 2024: Between $230,000 and $240,000.

Roth Spousal IRA – Phase-Out Ranges

For Roth Spousal IRAs, the ability to contribute begins to phase out (decreases) once your income reaches a certain level and disappears entirely once it crosses the upper limit of the phase-out range. These ranges are:

1. 2023: Between $218,000 and $228,000.
2. 2024: Between $230,000 and $240,000.

Remember, your specific situation may vary, and tax laws change frequently. Therefore, it’s always recommended to consult an accountant when planning your retirement savings strategy. They can provide guidance on how phase-out ranges apply to your situation, helping you make informed decisions that align with your retirement goals.

Opening a Spousal IRA

Setting up a Spousal IRA involves a few straightforward steps. Here’s a simple guide to help you navigate through the process:

1. Identify the Right Provider: Start by identifying a trustworthy and suitable IRA provider. This could be a bank, an online brokerage firm, or a robo-advisor. Consider factors like investment choices, fees, customer service, and user experience while making your choice. We can help you with this process at FitBUX using our hybrid robo-advisor. Feel free to Contact Us if you have any questions on how to select the right provider.

2. Choose Between Traditional and Roth: Depending on your financial situation, retirement goals, and tax considerations, decide whether a Traditional or Roth Spousal IRA suits you best.

3. Open an Account: Visit the provider’s website and look for the option to open an IRA. You will typically find this under the “Investing” or “Retirement” sections. Follow their instructions to set up the account.

4. Fill Out Application: You’ll need to fill out an application form with your details, such as name, address, Social Security Number, and employment information. Since this is a Spousal IRA, the account should be under the name of the non-income-earning spouse. However, the funding can come from the income-earning spouse.

5. Fund the Account: Decide how you want to fund the account. You can do this via a check, a wire transfer, or a direct deposit from a bank account. Follow your provider’s instructions to set this up. Remember to stay within the contribution limits.

6. Choose Investments: Once the account is funded, you can choose your investments. Be sure to diversify your portfolio based on your risk tolerance and investment goals.
7. Set Up Automatic Contributions: To make the process easier, consider setting up automatic contributions. This ensures regular deposits into your Spousal IRA and helps you take advantage of dollar-cost averaging.

If you have any questions or uncertainties about whether a Spousal IRA is the right strategy for your retirement planning, do not hesitate to reach out to us at FitBUX. Our team of financial experts are always available to help you evaluate your specific situation.

Real-Life Scenarios and Examples

Let’s go over some examples with some of our FitBUX members now:

Example 1: A Spouse with No Income

First we have John and Mary, where John is the primary income earner, and Mary is a stay-at-home parent. Even though Mary does not earn an income, they can leverage a Spousal IRA to contribute towards Mary’s retirement savings. By doing this, they increase their household’s overall retirement savings while potentially benefiting from tax deductions.

Example 2: Maximizing Retirement Contributions

Lisa and Peter are both working, but Lisa’s income is significantly lower than Peter’s. They have already maximized contributions to their individual IRAs and are looking for ways to further increase their retirement savings. By taking advantage of a Spousal IRA, they can make additional contributions to Lisa’s IRA, thereby increasing their total retirement savings and potentially benefiting from tax advantages.

Example 3: Lower Taxable Income for Higher Earning Spouse

Sarah is a high-earning executive, and her husband, Mark, is working part-time while focusing on their family. Their tax consultant suggests they contribute to a Traditional Spousal IRA for Mark, lowering their current taxable income and thus, reducing their immediate tax liability. This strategy allows Sarah and Mark to save more effectively for retirement while optimizing their tax situation.

Common Pitfalls and How to Avoid Them

1. Exceeding Contribution Limits: One common mistake is contributing more than the annual limit to a Spousal IRA. The IRS imposes penalties for excess contributions. To avoid this, it’s crucial to track how much you are contributing each year.
2. Not Understanding Income Limits: Another common pitfall is misunderstanding the income limits for tax-deductibility. If you earn too much, you may not be able to deduct your full contribution to a Traditional IRA or make a contribution to a Roth IRA. Understanding the phase-out ranges for both types of IRAs can help you avoid unexpected tax bills.
3. Not Regularly Reviewing Your Investment Strategy: As with any investment, it’s vital to regularly review your Spousal IRA investment strategy to ensure it aligns with your financial goals and risk tolerance. If market conditions or your personal circumstances change, you may need to adjust your investments accordingly.
4. Overlooking the Impact of Taxes: Finally, it’s essential to understand the tax implications of Traditional and Roth IRAs. While Traditional IRAs offer tax-deferred growth and tax-deductible contributions, Roth IRAs offer tax-free growth and withdrawals. Consider your current tax bracket and where you expect to be in retirement to choose the most beneficial option.

By avoiding these pitfalls, you can maximize the benefits of a Spousal IRA and secure a financially stable retirement.

Managing Your Spousal IRA

Guidelines on Contribution Tracking and Adjustments

1. Establish a System for Tracking: It’s crucial to have a system in place for tracking your Spousal IRA contribution. You could utilize financial management software, a simple spreadsheet, or even a dedicated notebook for this purpose. Remember to include the date, amount, and the type of IRA (Traditional or Roth) in your records.
2. Regularly Review Your Contributions: Set aside time, perhaps quarterly or biannually, to review your contributions. This not only helps you ensure you’re not exceeding the annual limit, but also allows you to adjust your contributions based on changes in income, financial goals, or tax laws.
3. Understand the Adjustment Process: If you find that you’ve over-contributed to your Spousal IRA in a particular year, it’s important to understand how to correct this. You can withdraw the excess contributions and any earnings on those contributions before the due date of your tax return. If you discover the excess after this date, you may be liable for additional taxes, so it’s essential to correct errors as soon as possible.
4. Keep Up-to-Date with IRS Guidelines: IRS guidelines regarding income limits, tax-deductibility, and contribution limits can change year-to-year. Stay informed about these changes to make accurate adjustments to your contributions and avoid penalties.
5. Professional Advice: Given the complexities of IRA contributions and taxes, consider seeking advice from a tax professional. They can provide personalized guidance based on your specific financial situation and ensure you’re making the most of your Spousal IRA.

Conclusion

In this article, we’ve explored the concept of a Spousal IRA and how it can be a flexible and advantageous tool for retirement planning. Examples illustrated the various scenarios where a Spousal IRA can be beneficial, such as for spouses with no income, when you want to maximize retirement contributions, or for lowering taxable income for higher-earning spouses. We also discussed common pitfalls and how to avoid them, including exceeding contribution limits, understanding income limits, regularly reviewing your investment strategy, and understanding tax implications.

If you have any further questions about a Spousal IRA, or if you need personalized advice, don’t hesitate to reach out to us at FitBUX. We’re here to help guide you on this financial journey, and one of our experts would be more than happy to schedule a call with you to address your concerns. Remember, the key to a successful retirement strategy is understanding your options and making informed decisions.