First Earned Income: When an IRA Becomes Relevant

What counts as earned income for IRA purposes?

The IRS defines earned income for IRA contribution purposes as wages, salaries, tips, professional fees, and net self-employment earnings. Net self-employment earnings are gross self-employment income minus the deductible portion of self-employment tax. Common sources of earned income for young workers include wages from a part-time job, tips received in a service role, net earnings from freelance or contract work, and net earnings from a sole proprietorship such as lawn care or tutoring.

Income that does not qualify includes allowance from a parent, gifts, interest, dividends, capital gains, rental income, pension or annuity distributions, and Social Security income. Nontaxable combat pay is treated as earned income for IRA purposes; this is a specific exception for military service members.

Self-employment earnings require recordkeeping. A teenager who earns $800 from lawn care must be able to document those earnings if the IRS ever examines the contribution. A simple spreadsheet tracking each job, date, and amount collected is sufficient.

What is the contribution limit for someone with a small amount of earned income?

The annual IRA contribution limit for 2026 is $7,000 (or $8,000 if age 50 or older). However, the limit cannot exceed the person's actual earned income for the year. This means the effective limit for a young person with limited earnings is the lesser of $7,000 or their total earned income for the tax year.

Examples:

• Earned $500 in babysitting: maximum IRA contribution is $500.
• Earned $2,000 in part-time wages: maximum IRA contribution is $2,000.
• Earned $9,000 from a summer job: maximum IRA contribution is $7,000 (the statutory cap applies).

Contributions can be made for a given tax year up to the tax filing deadline (typically April 15 of the following year). A person who earns $600 from freelance work in 2026 has until approximately April 15, 2027, to make the 2026 contribution. Both traditional and Roth IRAs use the same earned income test and the same annual limit, shared across both account types.

Should a young person choose a traditional or Roth IRA?

For most young workers with low earned income, a Roth IRA is generally more favorable. The primary reason is the tax rate at time of contribution. A teenager or young adult earning a modest amount in wages is typically in the 0% or 10% federal income tax bracket. Contributing to a Roth IRA means paying tax now at that low rate and receiving tax-free growth and tax-free qualified withdrawals in retirement, when tax rates may be higher.

A traditional IRA provides a deduction at the time of contribution, which reduces current taxable income. When current taxable income is already low enough that little or no tax is owed, the deduction has limited value. The withdrawal in retirement will then be taxed at ordinary income rates, potentially at a higher rate than today.

Roth IRA eligibility phases out at higher income levels ($146,000 for single filers in 2026, with full phase-out at $161,000). Most young first-time earners are well below these thresholds. Check current IRS guidelines for updated phase-out figures, as they are adjusted annually for inflation.

There is no requirement that the person opening a custodial IRA supply the contribution funds personally. A parent or grandparent may provide the money for the contribution, as long as the amount contributed does not exceed the minor's actual earned income for the year.

Frequently Asked Questions