Publication 590
Individual Retirement Arrangements (IRAs)

For use in preparing 2002 Returns

1. Traditional IRAs

Important Changes for 2002

Increased traditional IRA contribution and deduction limit.   Generally, the most that can be contributed to your traditional IRA for 2002 is the smaller of the following amounts:

• Your compensation that you must include in income for the year, or
• $3,000 (up from $2,000).

If you reached age 50 before 2003, the most that can be contributed to your traditional IRA for 2002 is the smaller of the following amounts:

• Your compensation that you must include in income for the year, or
• $3,500 (up from $2,000).

For more information, see How Much Can Be Contributed? in this chapter.

You may be able to deduct a larger amount as well. See How Much Can I Deduct? in this chapter.

Modified AGI limit for traditional IRA contributions increased.   For 2002, if you are covered by a retirement plan at work, your deduction for contributions to a traditional IRA will be reduced (phased out) if your modified adjusted gross income (AGI) is between:

• $54,000 and $64,000 for a married couple filing a joint return or a qualifying widow(er),
• $34,000 and $44,000 for a single individual or head of household, or
• $-0- and $10,000 for a married individual filing a separate return.

For all filing statuses other than married filing separately, the upper and lower limits of the phaseout range increased by $1,000. See How Much Can I Deduct? in this chapter.

Rollovers of distributions from employer plans.   For distributions after 2001, you can roll over both the taxable and nontaxable part of a distribution from a qualified plan into a traditional IRA. If you have both deductible and nondeductible contributions in your IRA, you will have to keep track of your basis so you will be able to determine the taxable amount once distributions from the IRA begin.

For more information, see Rollover From Employer's Plan Into an IRA in this chapter.

Rollovers of deferred compensation plans of state and local governments (section 457 plans) into traditional IRAs.   Prior to 2002, you could not roll over tax free an eligible rollover distribution from a governmental deferred compensation plan to a traditional IRA.

Beginning with distributions after 2001, if you participate in an eligible deferred compensation plan of a state or local government, you may be able to roll over part or all of your account tax free into an eligible retirement plan such as a traditional IRA. The most that you can roll over is the amount that qualifies as an eligible rollover distribution. The rollover may be either direct or indirect.

For more information, see Kinds of rollovers to an IRA in this chapter.

Kinds of rollovers from a traditional IRA.   For distributions after 2001, you can roll over, tax free, a distribution from your traditional IRA into a qualified plan, including a deferred compensation plan of a state or local government (section 457 plan), and a tax-sheltered annuity (section 403(b) plan). The part of the distribution that you can roll over is the part that would otherwise be taxable (includible in your income). Qualified plans may, but are not required to, accept such rollovers. For more information, see Rollovers under Can I Move Retirement Plan Assets? in this chapter.

Participants born before 1936.   If you were born before 1936, you may be able to use capital gain and averaging treatment on certain lump-sum distributions from qualified plans, but you will lose the opportunity to use capital gain or averaging treatment on distributions from a qualified plan if you roll over IRA contributions to that plan. You can retain such treatment if the rollover is from a conduit IRA. For more information on conduit IRAs, see IRA as a holding account (conduit IRA) for rollovers to other eligible plans under Rollover From One IRA Into Another in this chapter.

No rollovers of hardship distributions into IRAs.   For distributions made after 2001, no hardship distribution can be rolled over into an IRA. For more information about what can be rolled over, see Rollover From Employer's Plan Into an IRA in this chapter.

Hardship exception to the 60-day rollover rule.   Generally, a rollover is tax free only if you make the rollover contribution by the 60th day after the day you receive the distribution. Beginning with distributions after 2001, the IRS may waive the 60-day requirement where it would be against equity or good conscience not to do so.

For more information, see Time Limit for Making a Rollover Contribution in this chapter.

Credit for IRA contributions.   For tax years beginning after 2001, if you are an eligible individual, you may be able to claim a credit for a percentage of your qualified retirement savings contributions, such as contributions to your traditional IRA. To be eligible, you must be at least 18 years old as of the end of the year, and you cannot be a student or an individual for whom someone else claims a personal exemption. Also, your adjusted gross income (AGI) must be below a certain amount.

For more information, see chapter 5.

Change in exception to the age 59½ rule.   Generally, if you are under age 59½, you must pay a 10% additional tax on the distribution of any assets from your traditional IRA. However, if you receive distributions as part of a series of substantially equal payments over your life (or life expectancy), or over the lives (or the joint life expectancies) of you and your beneficiary, you do not have to pay this additional tax even if you receive distributions before you reach age 59½. If these payments are changed (for any reason other than death or disability) before the later of the date you reach age 59½ or 5 years after the first payment , you generally are subject to the 10% additional tax. You must pay the full amount of the additional tax that would have been due if your payments had not been substantially equal periodic payments. You must also pay interest. If your series of substantially equal periodic payments began before 2003, you can change your method of figuring your payment to the required minimum distribution method at any time without incurring the additional tax. For distributions beginning in 2002, and for any series of payments beginning after 2002, if you began receiving distributions using either the amortization method or the annuity factor method, you can make a one-time switch to the required minimum distribution method without incurring the additional tax. For more information, see Annuity under Age 591/2 Rule in this chapter. Rules for figuring your required minimum distribution are explained under Minimum Distributions in this chapter.

Important Changes for 2003

Modified AGI limit for traditional IRAs.   For 2003, if you are covered by a retirement plan at work, your deduction for contributions to a traditional IRA will be reduced (phased out) if your modified adjusted gross income (AGI) is between:

• $60,000 and $70,000 for a married couple filing a joint return or a qualifying widow(er),
• $40,000 and $50,000 for a single individual or head of household, or
• $-0- and $10,000 for a married individual filing a separate return.

For all filing statuses other than married filing separately, the upper and lower limits of the phaseout range increase by $6,000. For more information, see How Much Can I Deduct? in this chapter.

Deemed IRAs.   For plan years beginning after 2002, a qualified employer plan (retirement plan) can maintain a separate account or annuity under the plan (a deemed IRA) to receive voluntary employee contributions. If the separate account or annuity otherwise meets the requirements of an IRA, it will only be subject to IRA rules. An employee's account can be treated as a traditional IRA or a Roth IRA.

For this purpose, a qualified employer plan includes:

• A qualified pension, profit-sharing, or stock bonus plan (section 401(a) plan),
• A qualified employee annuity plan (section 403(a) plan),
• A tax-sheltered annuity plan (section 403(b) plan), and
• A deferred compensation plan (section 457(b) plan) maintained by a state, a political subdivision of a state, or an agency or instrumentality of a state or political subdivision of a state.

Simplified rules for required minimum distributions.   There are new rules for determining the amount of a required minimum distribution for a year beginning after 2002. The new rules, including new life expectancy tables, have been incorporated into this chapter and appendix C. You can determine the amount of a required minimum distribution for 2002 using either the rules in this edition of the publication or the rules in the edition for use in preparing 2001 returns. The rules are explained at When Must I Withdraw IRA Assets? (Required Distributions) in chapter 1 of both editions of the publication.

Switch from election to take balance by end of fifth year.   A designated beneficiary who has elected to take the entire balance in the account by the end of the fifth year following the year of the owner's death may be able to switch to receiving the balance over the beneficiary's life expectancy. For more information, see Switch from election to take balance by end of fifth year under Figuring the Required Minimum Distribution in this chapter.

Statement of required minimum distribution.   If a minimum distribution is required from your IRA for 2003, the trustee, custodian, or issuer that held the IRA at the end of 2002 must either report the amount of the required minimum distribution to you, or offer to calculate it for you. The report or offer must include the date by which the amount must be distributed. The report is due January 31, 2003. It can be provided with the year-end fair market value statement that you normally get each year. No report is required for section 403(b) contracts (generally tax-sheltered annuities) or for IRAs of owners who have died.

Introduction

This chapter discusses the original IRA. In this publication the original IRA (sometimes called an ordinary or regular IRA) is referred to as a traditional IRA. Two advantages of a traditional IRA are:

1. You may be able to deduct some or all of your contributions to it, depending on your circumstances, and
2. Generally, amounts in your IRA, including earnings and gains, are not taxed until they are distributed.

What Is a Traditional IRA?

A traditional IRA is any IRA that is not a Roth IRA or a SIMPLE IRA.

Who Can Set Up
a Traditional IRA?

You can set up and make contributions to a traditional IRA if:

1. You (or, if you file a joint return, your spouse) received taxable compensation during the year, and
2. You were not age 70½ by the end of the year.

You can have a traditional IRA whether or not you are covered by any other retirement plan. However, you may not be able to deduct all of your contributions if you or your spouse are covered by an employer retirement plan. See How Much Can I Deduct, later.

Both spouses have compensation.   If both you and your spouse have compensation and are under age 70½, each of you can set up an IRA. You cannot both participate in the same IRA.

What Is Compensation?

Generally, compensation is what you earn from working. For a summary of what compensation does and does not include, see Table 1-1. Compensation includes the items discussed next.

Wages, salaries, etc.   Wages, salaries, tips, professional fees, bonuses, and other amounts you receive for providing personal services are compensation. The IRS treats as compensation any amount properly shown in box 1 (Wages, tips, other compensation) of Form W-2, Wage and Tax Statement, provided that amount is reduced by any amount properly shown in box 11 (Nonqualified plans). Scholarship and fellowship payments are compensation for IRA purposes only if shown in box 1 of Form W-2.

Commissions.   An amount you receive that is a percentage of profits or sales price is compensation.

Self-employment income.   If you are self-employed (a sole proprietor or a partner), compensation is the net earnings from your trade or business (provided your personal services are a material income-producing factor) reduced by the total of:

1. The deduction for contributions made on your behalf to retirement plans, and
2. The deduction allowed for one-half of your self-employment taxes.

Compensation includes earnings from self-employment even if they are not subject to self-employment tax because of your religious beliefs.

When you have both self-employment income and salaries and wages, your compensation includes both amounts.

Self-employment loss.   If you have a net loss from self-employment, do not subtract the loss from your salaries or wages when figuring your total compensation.

Alimony and separate maintenance.   For IRA purposes, compensation includes any taxable alimony and separate maintenance payments you receive under a decree of divorce or separate maintenance.

What Is Not Compensation?

Compensation does not include any of the following items.

• Earnings and profits from property, such as rental income, interest income, and dividend income.
• Pension or annuity income.
• Deferred compensation received (compensation payments postponed from a past year).
• Income from a partnership for which you do not provide services that are a material income-producing factor.
• Any amounts you exclude from income, such as foreign earned income and housing costs.

When Can a Traditional IRA
Be Set Up?

You can set up a traditional IRA at any time. However, the time for making contributions for any year is limited. See When Can Contributions Be Made, later.

How Can a Traditional IRA
Be Set Up?

You can set up different kinds of IRAs with a variety of organizations. You can set up an IRA at a bank or other financial institution or with a mutual fund or life insurance company. You can also set up an IRA through your stockbroker. Any IRA must meet Internal Revenue Code requirements. The requirements for the various arrangements are discussed below.

Kinds of traditional IRAs.   Your traditional IRA can be an individual retirement account or annuity. It can be part of either a simplified employee pension (SEP) or an employer or employee association trust account.

Individual Retirement Account

An individual retirement account is a trust or custodial account set up in the United States for the exclusive benefit of you or your beneficiaries. The account is created by a written document. The document must show that the account meets all of the following requirements.

1. The trustee or custodian must be a bank, a federally insured credit union, a savings and loan association, or an entity approved by the IRS to act as trustee or custodian.
2. The trustee or custodian generally cannot accept contributions of more than $3,000 ($3,500 if you are 50 or older). However, rollover contributions and employer contributions to a simplified employee pension (SEP), as explained in chapter 3, can be more than this amount.
3. Contributions, except for rollover contributions, must be in cash. See Rollovers, later.
4. You must have a nonforfeitable right to the amount at all times.
5. Money in your account cannot be used to buy a life insurance policy.
6. Assets in your account cannot be combined with other property, except in a common trust fund or common investment fund.
7. You must start receiving distributions by April 1 of the year following the year in which you reach age 70½. See When Must I Withdraw IRA Assets? (Required Distributions), later.

Individual Retirement Annuity

You can set up an individual retirement annuity by purchasing an annuity contract or an endowment contract from a life insurance company.

An individual retirement annuity must be issued in your name as the owner, and either you or your beneficiaries who survive you are the only ones who can receive the benefits or payments.

An individual retirement annuity must meet all the following requirements.

1. Your entire interest in the contract must be nonforfeitable.
2. The contract must provide that you cannot transfer any portion of it to any person other than the issuer.
3. There must be flexible premiums so that if your compensation changes, your payment can also change. This provision applies to contracts issued after November 6, 1978.
4. The contract must provide that contributions cannot be more than $3,000 ($3,500 if 50 or older), and that you must use any refunded premiums to pay for future premiums or to buy more benefits before the end of the calendar year after the year in which you receive the refund.
5. Distributions must begin by April 1 of the year following the year in which you reach age 70½. See When Must I Withdraw IRA Assets? (Required Distributions), later.

Individual Retirement Bonds

The sale of individual retirement bonds issued by the federal government was suspended after April 30, 1982. The bonds have the following features.

1. They stop earning interest when you reach age 70½. If you die, interest will stop 5 years after your death, or on the date you would have reached age 70½, whichever is earlier.
2. You cannot transfer the bonds.

If you cash (redeem) the bonds before the year in which you reach age 59½, you may be subject to a 10% additional tax. See Age 59½ Rule under When Can I Withdraw or Use IRA Assets, later. You can roll over redemption proceeds into IRAs.

Employer and Employee
Association Trust Accounts

Your employer or your labor union or other employee association can set up a trust to provide individual retirement accounts for employees or members. The requirements for individual retirement accounts apply to these traditional IRAs.

- Continue -