1. Traditional deductible IRAs. Every year, the lesser of the maximum IRA contribution limit or your earned income can be contributed. Contributions are deductible on your current-year tax return and all earnings are tax deferred until withdrawn. At withdrawal, deductible contributions and earnings are taxed at ordinary income tax rates. Contributions can only be made until the year you reach age 70 1/2, when you must start taking minimum required distributions.
   
   If you and your spouse aren't participants in a company-sponsored pension plan, you can make deductible contributions regardless of the amount of your adjusted gross income (AGI). A spouse who isn't an active participant can make a contribution even if his/her spouse is a participant, as long as the couple's AGI does not exceed $150,000 to $160,000. Active participants can make deductible contributions as long as their AGI in 2003 is less than $40,000 for single taxpayers and less than $60,000 for married couples filing jointly. Contributions are phased out for married taxpayers filing jointly with AGI between $60,000 and $70,000 (scheduled to gradually increase to $80,000 to $100,000 by 2007) and for single taxpayers with AGI between $40,000 and $50,000 (scheduled to increase to $50,000 to $60,000 by 2005).
   
   
2. Roth IRAs. Contributions are not deductible on your current-year tax return, so contributions are made from after-tax dollars. However, as long as the distribution is qualified, all earnings are withdrawn federal income tax free. Again, the lesser of the maximum contribution limit or your earned income can be contributed every year. Contributions can be made at any age, even past age 70 1/2, and no mandatory withdrawals are required.
   
   Contributions can be made by single taxpayers with AGI less than $95,000 and married taxpayers filing jointly with AGI less than $150,000. It doesn't matter whether you are a participant in a company-sponsored pension plan. Contributions are phased out for married taxpayers filing jointly with AGI between $150,000 and $160,000 and for single taxpayers with AGI between $95,000 and $110,000.
   
   
3. Traditional nondeductible IRAs. Contributions are not deductible on your current-year tax return, but earnings are tax deferred until withdrawn. At withdrawal, earnings, but not contributions, are taxed at ordinary income tax rates. Contributions must stop at the year you reach age 70 1/2, when you must start taking minimum required distributions. All taxpayers, regardless of income or pension plan participation, can make contributions.

Contributions

The maximum annual contribution will increase from $3,000 in 2003 to $4,000 in 2005 to $5,000 in 2008, with adjustments for inflation after that. Individuals age 50 and over can make additional catch-up contributions of $500 in 2003 to 2005 and $1,000 starting in 2006. Based on current tax law, however, those limits will go back to $2,000 in 2011 unless further legislation is passed.

Withdrawals

With all three types of IRAs, you may make withdrawals without penalty starting at age 59 1/2 (with a Roth IRA, the distribution must also be made at least five tax years after your first contribution to also not be subject to income tax). Withdrawals before age 59 1/2 are assessed a 10% federal income tax penalty in addition to any income taxes, unless the distribution is made:

1. due to death
2. due to disability
3. in annual withdrawals in substantially equal amounts over your life expectancy or the life expectancy of you and your beneficiary
4. for deductible medical expenses in excess of 7.5% of AGI
5. to pay medical insurance when a person has received unemployment compensation provided certain conditions are met
6. to pay up to $10,000 of qualified first-time home buyer expenses
7. to pay for qualified higher education expenses

In addition, for Roth IRAs, income taxes will be assessed on earnings if withdrawals are made for items 3, 4, 5, or 6. You may withdraw Roth IRA contributions at any time with no penalties or income taxes assessed.

Which IRA should you choose?

With so many different rules, it can be difficult to decide which alternative to select. Consider these points:

• A Roth IRA is always a better alternative than a traditional nondeductible IRA. While both have nondeductible contributions, qualified distributions from a Roth IRA are federal income tax free, while taxes must be paid on the earnings in a nondeductible IRA.
  
  
• When deciding between a traditional deductible IRA and a Roth IRA, consider your current marginal income tax bracket and your expected bracket at withdrawal. If your marginal tax bracket will be the same at both times, either IRA will produce a similar result. Declining marginal tax rates may make a deductible IRA a better alternative, while increasing marginal tax rates may make the Roth IRA a better alternative.
  
  
• If you can make the maximum IRA contribution to a Roth IRA, this will result in a larger after-tax balance than making maximum contributions to a deductible IRA. This result occurs because you are essentially funding the tax bill with funds outside the Roth IRA. With the traditional deductible IRA, income taxes are assessed on the IRA assets. To offset the Roth IRA's advantage, you would also have to invest the tax savings from your traditional IRA contribution.
  
  
• Some of the Roth IRA's features may make it a good option for you. If you don't think you'll need to make withdrawals after age 70 1/2, the Roth IRA can continue to grow on a tax-free basis. Or, if you may need your contributions before age 59 1/2, you may withdraw Roth IRA contributions at any time with no tax consequences.