How to Contribute or Rollover to an IRA for Tax Purposes

The search for ways to avoid paying taxes is never-ending. Contributing to a traditional IRA is one way to cut your tax bill during the contribution year, as IRA contributions are deductible. Roth IRA contributions cannot be deducted when you file, but you can withdraw your principal and earnings tax-free at retirement age. Rolling money from a traditional IRA to a Roth can also prove tax-advantageous.

Step 1

Contribute the maximum to a traditional IRA. As of 2012, that amount is $5,000 fo those under 50 and $6,000 for those 50 and older. Since these contributions can be deducted at tax-filing time, the more you put into your account, the more you'll save on taxes for the year. You'll also avoid capital-gains taxes. When you take money out of a traditional IRA, however, you have to pay income tax on the amount.

Step 2

Put as much as you can in a Roth. Roth contributions cannot be used for a tax deduction. But at retirement age, all the money in the account is withdrawn tax-free. You avoid not only capital-gains taxes, but ordinary income taxes as well. Even though withdrawing Roth principal incurs no tax liability, you're better off leaving your contributions in the account to accumulate earnings.

Step 3

Roll traditional IRA money into a Roth. You'll have to pay income tax when you effect the rollover. But you'll pay no taxes when you take distributions at retirement. Report the rollover, or conversion, as income when you file your yearly return.