A Roth IRA is a great way to save for retirement, especially with the perks of tax-free growth and withdrawals—but before you can take advantage of these benefits, it's important to understand the rules around earned income.
Unlike with other retirement accounts, like a traditional IRA or a 401(k), Roth IRA contributions are made with after-tax dollars, which means you won't owe taxes on your investments or earnings when you withdraw them in retirement—provided you follow certain rules.
One big question people often have is whether you need earned income to contribute to a Roth IRA. In this article, we’ll explore what is considered earned income for Roth IRA, break down the rules and exceptions related to Roth IRA contributions, and provide key insights to help you navigate these regulations.
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So, can you contribute to a Roth IRA without earned income?
No, you can’t. You need earned income to contribute directly to a Roth IRA. The idea behind this rule is that Roth IRAs are meant to help you save for retirement using the money you earn from working.
To align with this goal, contributions must come from active work, not from passive sources like investments. This keeps the account focused on savings from your actual earnings, maintaining its role as a retirement tool.
What is earned income for Roth IRA?
According to IRS guidelines, earned income is any income you receive from working. Examples of earned income include:
- Wages and salaries: The most common form of earned income, received from an employer
- Tips: Money received from customers or clients, often in the service industry
- Bonuses: Additional compensation awarded by an employer, typically based on performance
- Self-employment income: Earnings from running your own business or freelance work
“If you paid taxes on it, it generally counts,” says Matthew Argyle, chartered financial analyst (CFA), certified financial planner, and IRS-enrolled agent. “This also includes taxable scholarships, alimony and separate maintenance from pre-2019 divorces, and exercised non-qualified stock options.”
What doesn’t count as earned income:
- Rental income: Money received from renting out property is considered passive income, not earned income.
- Interest: Income from savings accounts, certificates of deposit (CDs), or other interest-bearing investments
- Dividends: Earnings from owning shares in companies
- Pensions and annuities: Payments from retirement plans or annuities
Roth IRA contribution rules
When it comes to contributing to a Roth IRA, there are specific rules and limits to be aware of:
- Annual contribution limits: For 2024, the maximum contribution to a Roth IRA is $7,000 if you’re under 50. If you’re 50 or older, you can contribute up to $8,000. These limits apply to your combined contributions across all your IRAs.
- Income limits: Your ability to contribute to a Roth IRA also depends on your income. For 2024, the ability to contribute starts to phase out if your modified adjusted gross income (MAGI) is above $146,000 for single filers or $228,000 for married couples filing jointly. Contributions are completely phased out once MAGI exceeds $161,000 for singles and $240,000 for married couples.
Exceptions to the earned income rule
If you don’t have earned income, you’ll need to explore other strategies or exceptions to contribute to a Roth IRA. There are certain exceptions and strategies, such as spousal contributions or converting traditional IRAs, that can still allow for Roth IRA involvement under different circumstances.
Spousal Roth IRA
Only one spouse working? No problem! “The non-working spouse can still contribute to a Roth IRA up to the maximum limit, as long as you're filing your taxes as ‘married filing jointly,’” Argyle says. “For example, if Sarah works as a physician's assistant and Sam stays at home with the kids, Sam can open and fund a Roth IRA using Sarah's income—simple as that.”
In fact, a spousal Roth IRA can have major benefits for single-income households,” says Andrew Gosselin, a certified public accountant and Chief Financial Strategist at The Calculator Site. “It allows for huge tax-advantaged retirement savings and stability for the non-working partner,” Gosselin says. “The tax-free growth and withdrawals are awesome, especially if the non-working spouse is in a higher tax bracket later on. It’s an impactful way to build financial security.”
Scholarships and fellowships
Some taxable scholarships and fellowship grants may count as earned income, making you eligible to contribute to a Roth IRA. For this to apply, these scholarships or grants must be reported as taxable earned income on your tax return. This is often applicable to students who receive stipends for research or teaching positions. Be sure to verify that your scholarship or fellowship income meets the IRS's criteria for earned income.
Disability benefits
Certain disability-related payments can also qualify as earned income, provided they meet specific IRS guidelines. For example, if you're receiving disability payments from an employer-funded plan that are subject to tax, you might be eligible to contribute to a Roth IRA. However, this does not apply to Social Security Disability Insurance (SSDI) or Supplemental Security Income (SSI) benefits, as these are not considered earned income.
Non-taxable combat pay
Non-taxable combat pay received by military personnel can be treated as earned income for Roth IRA purposes. This allows service members to contribute to a Roth IRA even though their combat pay is not subject to federal income tax. It's a valuable opportunity for those serving in combat zones to save for retirement while benefiting from the Roth IRA’s tax advantages.
Roth IRAs for children
Setting up a Roth IRA for your children is a smart strategy often overlooked. “If you own a business, you can hire them and contribute their earnings to a Roth IRA,” Argyle says. “The best part? If they’re under 18, you’re off the hook for employment taxes on those earnings.”
The work must be legitimate and well-documented, such as managing social media or assisting with business activities—but regular family chores do not qualify. This is a great way to start building a tax-advantaged retirement fund early for your kids.
What happens if you contribute to an IRA without earned income?
The IRS imposes a 6% penalty for contributing to Roth IRA without earned income on any excess amount that remains in the account. This penalty applies to contributions made beyond the allowable limit based on earned income.
In addition to penalties, if the excess contributions are not corrected, the IRS may require you to pay taxes on any earnings generated from those contributions. These taxes can add up if the excess funds are left in the account for an extended period.
If you discover that you've contributed to a Roth IRA without earned income, you could take these steps to rectify the situation:
- Remove the excess contribution: “The key is being aware—once you're there, you're already ahead,” Argyle says. “So if you're at that point, here are your options: Take out the money and roll it over to next year—assuming you will have earned income.”
- Adjust your tax filings: Ensure your tax filings reflect the removal of excess contributions. This might involve amending your return to include any taxes owed on earnings generated from the excess amount.
Can I convert an IRA to Roth without earned income?
Roth IRA conversions allow you to move funds from a traditional IRA to a Roth IRA. Interestingly, converting funds does not require earned income.
This is different from making new contributions. During conversion, you pay taxes on the converted amount, but once in the Roth IRA, future growth and withdrawals follow the usual tax-free rules. So, even if you don’t have earned income, you can still benefit from the Roth IRA’s tax advantages through conversions.
Tips for avoiding mistakes with Roth IRA contributions
To make sure you’re on the right track with your Roth IRA contributions and avoid common pitfalls, follow these tips:
Verify your income type
Before contributing to your Roth IRA, ensure you have the appropriate type of income. Earned income, such as wages, salaries, or self-employment income, is required for making contributions. Passive income, such as interest or rental income, does not qualify. Double-check your income sources to confirm they meet the IRS requirements for Roth IRA contributions.
Consult with a financial advisor or tax professional
Given the complexities of tax rules and contribution limits, it’s wise to consult with a financial advisor or tax professional. “It can be problematic to contribute if you don't completely understand the income requirements,” Gosselin says. “People should constantly check their precise income and restrictions, consult with professionals, and keep thorough contribution records to avoid problems.”
Plus, a financial advisor can also assist with optimizing your overall retirement strategy.
Use a contribution checklist
A checklist can help you keep track of key details and avoid mistakes. Here’s an example:
- Confirm earned income: Verify that you have sufficient earned income to support your contributions.
- Understand contribution limits: Check the annual contribution limits and ensure you don’t exceed them.
- Monitor contribution deadlines: Be aware of deadlines for making contributions and adjustments.
- Maintain accurate records: Keep detailed records of all contributions and withdrawals.
- Review IRS guidelines regularly: Stay updated with any changes in IRS rules or contribution limits.
FAQs
Can I contribute to a Roth IRA if I am not working?
Generally, no. You can’t contribute to a Roth IRA if you don’t have earned income. Earned income includes wages, salaries, tips, and self-employment income. However, if you’re not working but your spouse is, you may still be able to contribute through a Spousal Roth IRA. Additionally, there are some exceptions, such as receiving taxable alimony (for agreements finalized before 2019) or having disability-related income that qualifies as earned income under specific circumstances.
Can you have a Roth IRA if you make too much money?
There are income limits for contributing to a Roth IRA. For 2024, the ability to contribute starts to phase out for single filers with a modified adjusted gross income (MAGI) over $146,000, and for married couples filing jointly with a MAGI over $228,000.
If your income exceeds these limits, you may not be eligible to contribute directly, but you can explore a backdoor Roth IRA strategy. This involves contributing to a traditional IRA first and then converting it to a Roth IRA, allowing you to bypass the income limits while still enjoying the benefits of a Roth IRA.
Can I contribute to a Roth IRA if I don't have earned income but my spouse does?
Yes, you can contribute to a Roth IRA if your spouse has earned income, even if you do not. This is possible through a Spousal Roth IRA, where your spouse’s earned income is used to fund the contributions up to the annual limit.
What happens if you put money into a Roth and you had no earned income?
If you contribute to a Roth IRA without having earned income, you will face a penalty. The IRS imposes a 6% penalty on the excess contributions that remain in the account. You should remove the excess contribution to avoid further penalties and correct any tax filings.
Is there a Roth IRA minimum income requirement?
There is no specific minimum income requirement for contributing to a Roth IRA, but you must have earned income to make contributions. In 2024, the contribution limits are $7,000 per year for individuals under 50 and $8,000 for those 50 and older. The amount you can contribute is also subject to income limits based on your filing status.