In the United States, you have to pay federal income tax on your wages from work and on most other types of income. However, prior to paying tax, you can deduct certain eligible expenses, such as health insurance premiums, from your gross income. Having made these deductions, you pay income tax on the remainder of your income, which the Internal Revenue Service refers to as your adjusted gross income.
A Roth individual retirement account (IRA) contribution has no effect on your AGI, but a Roth IRA withdrawal may have an impact on your AGI.
How IRAs Work
The Internal Revenue Service allows you to invest funds in certain tax-qualified types of retirement accounts that include traditional IRAs. You make contributions to these accounts on a pre-tax basis, which means that like health insurance premiums, these retirement contributions actually reduce your AGI.
Roth IRAs work differently than other kinds of retirement accounts because you invest in a Roth on an after-tax basis. Funds in your Roth and in other retirement accounts grow tax-deferred. Therefore, Roth IRAs provide you with a long-term rather than short-term tax benefit.
Calculation of Your MAGI
You can only make an annual contribution to a Roth IRA if your annual income does not exceed certain limits. The IRS announces Roth income limits on an annual basis but rather than determining eligibility based upon your AGI, the IRS determines your eligibility to contribute to a Roth IRA based on your modified adjusted gross income.
You calculate your MAGI by adding back some of the deductions that you made to calculate your AGI. You add back any deductions you made for traditional IRA contributions, student loan interest fees and certain other kinds of tax deductible expenses. If your MAGI exceeds the maximum limit, then you cannot contribute to a Roth.
Limits to Roth IRA Contributions
As of the time of publication, people aged 50 or older can make annual contributions of up to $7,000 to Roth IRAs, while younger taxpayers can only contribute up to $6,000. Married people filing jointly cannot contribute if their MAGI is $208,000 or more. As a single tax filer, you can only contribute if your MAGI amounts to less than $140,000. If married but filing separately, you cannot contribute if you have a MAGI of $10,000 or more.
Roth contributions have no impact on your ability to invest in other types of pre-tax retirement accounts.
Read More: Can a Large Sum Be Put Into a Roth IRA?
Taxes on Roth IRAs
Roth IRA withdrawals have no impact on your AGI if you keep your money in a Roth for at least five years and if you wait to make withdrawals until you reach the age of 59 1/2. You can also avoid paying taxes on Roth withdrawals if you hold the Roth for five years and become disabled or use the money to buy a first-time home.
If you withdraw from your Roth in any other circumstances, then you have to pay a 10 percent tax penalty on your account earnings but you pay no tax on your principal withdrawals. Furthermore, premature withdrawals of earnings are included in your AGI. Therefore, your Roth impacts your AGI at the time of withdrawal rather than at the time of contribution.
Read More: Roth IRA Monthly Contributions vs. Lump Sum