Whether you realized that you didn’t contribute as much to your IRA last year as you wanted to, or you’ve received a year-end bonus or another form of cash that you want to invest, there’s still time to make IRA contributions that count toward last year’s annual limit. When you make a contribution this year that counts towards last year’s limit, it’s called a carryback contribution. These types of contributions can serve many purposes and come with a range of benefits.
What is a Carryback Contribution?
A carryback contribution is a deposit to a Roth or Traditional IRA between January 1st and April 15th (or tax day) that is designated as a contribution for the previous year.
How Do You Make a Carryback Contribution?
To make a carryback contribution, you must:
- Have earned taxable income in the previous tax year.
- Have not reached the annual IRA contribution limit for the previous year.
- Make the contribution before you file your taxes for the previous year or Tax Day, whichever comes first.
To ensure your contribution is counted toward the previous year’s annual contribution limit and that the deduction is taken from your income taxes, you or the IRA account holder must provide the financial institution with a written statement saying said contributions should be designated as a carryback. Your financial institution may have other specific requirements or processes to designate contributions as carryback so make sure you check with your account administrator for instructions.
How Much Can You Contribute?
The IRS sets the annual contribution limits for all retirement accounts each year. The IRA contribution limit for 2022 was $6,000, in 2023 it’s $6,500. If you turned 50 or older by the end of the tax year, you can contribute an additional $1,000 “catch-up” for a total of $7,000 in 2022 and $7,500 in 2023.
The maximum amount you can contribute to your IRA is the lesser of: your annual income for the taxable year or the annual contribution limit. Your carryback contribution can total the difference between your maximum allowable annual contribution and the amount you contributed during the previous year.
What if You Don’t Have an IRA Yet?
If you haven’t yet set up an IRA, you still have time to do so and make a carryback contribution up to your annual limit. The great thing about carryback contributions is that they don’t just apply to people who already have an IRA. Even people who didn’t have an active IRA before the end of the previous year can open and fund an account before they file their taxes (or tax day) and apply those contributions to the previous year.
Are Carryback Contributions Tax-Deductible?
For the most part, yes. Contributions made to a Traditional IRA are tax-deductible in the year they are made (or the year for which they’re designated) and distributions are subject to the appropriate income tax. If you aren’t covered by a workplace retirement plan in the form of a 401k, your entire carryback contribution will be eligible for deduction on your previous year’s taxes.
If you are covered by a 401k, your ability to deduct your Traditional IRA contributions will depend on your income and filing status.
|Filing Status||Modified AGI||Deduction|
|Single or Head of Household||$68,000 or less||Full Deduction|
|Single or Head of Household||$68,001- $77,999||Partial Deduction|
|Single or Head of Household||$78,000 +||No deduction|
|Married Filing Jointly or Qualified Widow(er)||$109,000 or less||Full deduction|
|Married Filing Jointly or Qualified Widow(er)||$109,001- $128,999||Partial Deduction|
|Married Filing Jointly or Qualified Widow(er)||$129,000 +||No Deduction|
|Married Filing Separately||Less than $10,000||Partial Deduction|
|Married Filing Separately||$10,000 or more||No Deduction|
To clarify, you can always contribute up to your annual limit (i.e. the lesser of the IRS limit or your annual income), you just might not be able to deduct the full amount from your tax bill. That’s because the IRS doesn’t want the favorable tax treatment these accounts receive to disproportionately benefit wealthy taxpayers.
Who Should Consider Making Carryback Contributions?
There are many benefits to making carryback contributions, which include:
- Maxing out your retirement savings.
- Growing your savings at a faster rate because of compound interest.
- Saving money on your taxes.
- Putting extra cash flow to work instead of spending it.
These benefits can apply to anyone, but for people in the following situations, a carryback contribution might be especially advantageous:
- You received a bonus or other unexpected cash flow at the end of the year or early this year. Making a carryback contribution enables you to put this influx of cash to work without dipping into this year’s contribution limit.
- You earned more last year than you expect to earn this year. In this scenario, taking the tax deduction on last year’s taxes might save you more money.
- You didn’t max out last year’s contributions but expect to have increased cash flow this year and the ability to contribute more. If you have the ability to contribute more than the annual limit this year, and didn’t max out last year, making a carryback contribution enables you to take full advantage of your improved financial circumstances and max out your savings.
- You’ve maxed out your 401k. In this scenario, a carryback contribution would allow you to maximize your total retirement savings opportunities.
Should You Make a Carryback Contribution if You Can’t Deduct It?
This will depend on your personal financial circumstances and the other investment opportunities available to you. But there are many benefits to funding your retirement savings accounts, separate from the tax deductions. The principal benefit is that you are investing in your future and taking advantage of compound interest.
According to the EBRI, there is currently a retirement savings gap between what is estimated Americans will need to live comfortably when they retire, and what they have saved. Even the “baby boomer” generation, which is the wealthiest generation in US history, is facing a cash flow crisis in retirement. The fact of the matter is, inflation, market forces and the exponential rise in the cost of medical care has all but ensured that people underestimate what they will need to have saved in order to retire.
So, the more you can save for your golden years, the better. Making a carryback contribution helps you to save more because it allows you to max out your retirement savings deposits for both the previous and present tax years. And the more you save, the faster your savings grow because of the way those earnings compound over the years.
Want to Open an IRA? Icon can Help
Icon Savings Plan is the most cost-efficient way to save for retirement. As long as you earned taxable income last year, we can help you open an IRA and make a carryback contribution to get started on your retirement savings goals. If you’re ready to take control of your financial future, reach out today.
*Disclaimer: This is not tax advice. Please consult a tax expert before making any decisions.