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How to Send Your Tax Refund Straight to Your IRA

This week, Gail explains how the federal government has made it simpler for us to save for retirement.

Dear Friends:

The federal government is making it simpler for us to save for retirement: if you’re due a refund on your 2006 tax return, you can instruct the IRS to send all or part of this amount directly to your IRA.

Click here to visit FOXBusiness.com's Tax Planning Center.

Starting this year, you can tell the IRS to split your refund and send it to up to three different accounts by attaching Form 8888 , “Direct Deposit of Refund to More Than One Account,” to your tax return.* Potential accounts eligible for direct deposit include checking and savings accounts, a Health Savings Account, Coverdell Education Savings Account, and, of course, your IRA.

In addition to being safer than having the refund check sent to your mailing address, direct deposit by the IRS gets the money into your account(s) sooner.

If you file your taxes “married/joint,” you can direct that your refund go to an account owned by both spouses (such as a savings account) or to an IRA owned by one (or each) spouse.

But it’s up to you to ensure that the money ends up in the right account. As explained on the Internal Revenue Service Web site, www.irs.gov: “The IRS assumes no responsibility for taxpayer or preparer error.”

If you would like to take advantage of this opportunity when you file your 2006 tax return, you need to take the following steps:

1) Confirm that your financial institution will accept direct deposits from the IRS for the specific type of account you want your money sent to. (For instance, a bank might be set up to accept direct deposits for savings accounts, but not IRAs.)

2) Make sure you already have an account established.

3) Verify both the account number and “routing” numbers. These will have to be provided to the IRS. Double-check that you entered these numbers correctly on the IRS form!

In the case of IRA contributions, it’s up to you to verify that your IRA custodian has credited the deposit to the correct year. The IRS will not provide any information about this.

For instance, if $3,000 hits your IRA account in March, is this a contribution for 2006 or 2007? If there are no instructions from the IRA owner, the default for an IRA custodian is to earmark the deposit as a contribution for the current year, i.e. 2007.

This can be a disaster! If, when computing your tax liability, you reduced your taxable income by $3,000 based on making an IRA contribution for 2006, you essentially took a deduction you weren’t entitled to. Unless you correct this by April 16th of this year (April 15th falls on a Sunday, so we get an extra day to file our taxes), you will have to file an amended return.

On a related note, don’t expect the IRS to perform miracles. If you mail your tax return too close to the April 16th deadline for making a 2006 IRA contribution (there are no extensions), you run the risk that your direct deposit may not make it in time.

This is so important I’m going to repeat it: make sure the account and routing numbers you give the IRS are correct. If they don’t match up, your financial institution will bounce the check back to the IRS. Your refund will then be sent to you via a check.

Furthermore, the IRS is only responsible for getting your refund to your IRA account. Once you verify that it’s been deposited, you need to instruct your IRA custodian as to how you want it invested.

Direct deposits of tax refunds can be sent to a traditional, Roth, or SEP IRA. SIMPLE IRAs are not eligible.

All of these rules may sound like a pain, but they’re in place to protect you by making sure your money ends up in your account — not someone else’s.

Click here to visit FOXBusiness.com's Tax Planning Center.

The IRS expects 3.8 million tax returns will request direct deposit of some or all of the refund amount due. You can check where your refund stands and whether your deposit has hit your account(s) by visiting the IRS Web site. Click on “Where’s my Refund?”

Hope this helps,
Gail

*Form 8888 is used only if you want your refund to go to two or three accounts. If you only want it sent to a single account, you can simply indicate this on the “direct deposit” line found on your tax return.

If you have a question for Gail Buckner and the Your $ Matters column, send them to: yourmoneymatters@gmail.com, along with your name and phone number.