• Traditional IRAs offer tax-deferred savings.tax forms image by Chad McDermott from Fotolia.com
  
  Traditional IRAs were passed into law in 1974 to provide people who did not have an opportunity to use a tax-advantaged retirement savings plan through their employer. As of 2010, anyone can contribute, even if covered by an employer plan. However, to maximize the benefits of using a traditional IRA without incurring penalties, you need to know the rules set by the Internal Revenue Service.
  
  

Participation and Deduction Eligibility

• To contribute to a traditional IRA, you must be under 70 1/2 years old, and you must have earned income. Earned income is defined by the IRS to be income that you receive from performing work for someone else or from working in a business that you own. Examples include wages, tips and self-employment income.
  
  If you meet the two requirements for participation, and neither you nor your spouse can participate in a retirement plan through your job, you can deduct your traditional IRA contribution from your income taxes. However, if either or both you and your spouse are covered, you may not deduct your contribution from your taxes, if your modified adjusted gross income exceeds the annual limits based on your filing status. These limits change each year and can be found in IRS publication 590.
  
  

Contribution Limits

• You can only contribute up to the lessor of the annual contribution limit or your total earned income for the year. The annual contribution limit can be changed annually, if necessitated by inflation. For 2010, the maximum contribution equals $5,000. However, if you are at least 50 years old, the IRS permits an additional $1,000 contribution--making the 2010 limit $6,000. If you exceed these limits, you must pay a six percent penalty on the excess amount as long as it remains in the account.
  
  

Withdrawing Funds

• You must report money taken out of a traditional IRA as taxable income, regardless of when and why you take a distribution. Money can be taken out of a traditional IRA at any time and for any reason, but unless you are at least 59 1/2 years old, you will usually have to pay a 10 percent early withdrawal penalty on top of any income taxes on the money.
  
  Exceptions that permit an early withdrawal of the money without penalty include if you become permanently disabled; if you have medical or dental costs that exceed 7.5 percent of your adjusted gross income; for college expenses, including vocational school; or up to $10,000 to purchase your first home.
  
  During the year that you turn 70 1/2, you must start taking money out of the account. This is known as required minimum distributions. The size of the distribution is determined by your age and the value of the account. If you fail to take these required distributions, you must pay a 50 percent penalty on the amount you did not withdraw. Required minimum distributions must be included in your taxable income even though the government requires you to take them.