Form 8606 is used by US taxpayers to itemize non-deductible contributions to an independent retirement account (IRA), which is a scheme for saving money for retirement. The form is important because it can exempt the person from paying taxes on corresponding distributions from the IRA. It must also be completed when converting one type of IRA to another.
Form 8606 is a tax form from the Internal Revenue Service. Taxpayers use it to itemize any non-deductible contribution to an independent retirement account, or IRA. There are several other circumstances when Form 8606 is included.
An IRA is a scheme through which US citizens can save money for their retirement. It is the US equivalent of what is more commonly known in other countries as a private pension plan. In some situations, the person’s contributions (money paid into the IRA) are tax deductible. This is designed to make saving for retirement more attractive.
Whether a contribution is deductible depends on a rather complex set of criteria. This takes into account the filing status of the taxpayer, whether they are filing individually or jointly, whether their employer is also contributing to the IRA, and their income. Depending on the combination of factors, they may be allowed a full or partial deduction of the tax, or it may be declared totally non-deductible.
When contributions are not deductible, they must be listed on Form 8606. This may not seem important since the person will not need to pay taxes on these contributions. However, it is important, because if non-deductible contributions are made, the person may be exempt from paying taxes on the corresponding part of the payments that they later receive from the IRA, which are known as distributions. If Form 8606 is not filed, the contributions will later be treated as if they were deductible, which means the person ends up paying taxes on both the income they use to pay the contributions and the distributions they receive from the IRA.
Form 8606 must also be completed if the individual has received distributions from an IRA during that year and has made non-deductible contributions during that year. The information on the form will help the IRS decide how distributions and contributions match up. Generally, when a distribution is shown to match a prior nondeductible contribution, that distribution will not be taxed.
A taxpayer must also complete Form 8606 if they convert one of the three types of IRAs, known as a Traditional, SIMPLE, or SEP IRA, to another type known as a Roth IRA. This is because a Roth IRA does not allow tax deferral. This means that, in most cases, contributions to an IRA are considered non-deductible regardless of an individual’s circumstances, while distributions are generally not taxable.
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