I am at a loss for words. I still can’t believe what I have just learned! Earlier this year I had decided to start a Roth IRA and finally start saving for retirement, since I’m not “employed” and don’t have any company retirement plan in existence and I won’t for a while yet. I have been doing a fair amount of research, and had pretty much decided to go with a Vanguard Roth IRA. I was just being lazy and not setting it up yet — but yesterday I found out the most horrible news. Apparently, my fellowship is considered “taxable income” but not “earned income.” This means that unless I find another way to earn roughly $4000 a year and have it show up in box 1 of the Form W-2, then I can’t even set up an IRA!!
Proof is in the pudding:
Yes. The proof is on IRS publication 970 page 5:
“You can set up and make contributions to an IRA if you receive taxable compensation. Under this rule, a taxable scholarship or fellowship is compensation only if it is shown in box 1 of Form W-2, Wage and Tax Statement.”
A fellowship is taxable income, but in most cases it’s not considered compensation, or “earned income” (so it’s taxable income in the same sense that you have to pay taxes on dividend income). I must say that it frustrated me to no extent when I first found out that congress actually took the time to specifically disallow in the tax code graduate students from saving for retirement – especially since we’re already at a disadvantage by postponing earning real income for years, but that’s the way it works.
That said, if you receive any other form of compensation (for instance, if your fellowship requires that you also hold a certain number of TA/RA hours to meet the required needs of your school expenses) this portion will count as earned income. Also, if your in a situation that would allow you to hold a side job (I know this can be almost impossible in most research related fields) where you could earn roughly $4000 in a year, that would work.
I really do not know enough about self employment to advise you further, possibly Johnathan could do a brief article sometime in the future on some of the in and outs of how self-employment works.