Non-Deductible TIRA Contributions

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letahl
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Non-Deductible TIRA Contributions

Post by letahl »

Is there any reason to make non-deductible TIRA contributions before taxable other than locking the money up so you don't spend it on an indoor pool? Or any reason NOT to do so other than having to file an 8606?

I'm having a hard time wrapping my mind around the math. I reviewed old threads and these types of contributions seem disfavored, but mainly people complain about the forms and math.

We are in high tax bracket now, probably lower in retirement but who knows. (Mid-40s.)

Thanks.
Statistical
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Re: Non-Deductible TIRA Contributions

Post by Statistical »

Backdoor Roth

Contribute $6k non-deductible and then convert it to Roth. Since it is after tax the conversion is tax free. It requires all your trad IRA to be empty of pre-tax funds though to avoided the dreaded pro-rata rule.

If you aren't doing a backdoor Roth then don't do an after-tax contribution it could actually increase your taxes compared to taxable because gains will be taxed upon withdrawal as regular income vs LTCG in retirement which are likely 0% or 15%.
Last edited by Statistical on Thu Jun 30, 2022 9:11 pm, edited 2 times in total.
mhalley
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Re: Non-Deductible TIRA Contributions

Post by mhalley »

In general, non deductible ira contributions without the associated back door Roth are not considered to be worth the increased tax complexity in the withdrawal phase. A taxable account still has pretty good tax efficiency so that is the way to go.
https://darrowwealthmanagement.com/blog ... to-an-ira/
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FiveK
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Re: Non-Deductible TIRA Contributions

Post by FiveK »

Pretty much what Statistical and mhalley said. See also the Non-deductible traditional IRA - Bogleheads wiki for more details.
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cchrissyy
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Re: Non-Deductible TIRA Contributions

Post by cchrissyy »

Or any reason NOT to do so other than having to file an 8606?
my reason is because i want the money to get long term capital gains rates, and the step-up on death. therefore i want it in a taxable brokerage account.
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Topic Author
letahl
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Re: Non-Deductible TIRA Contributions

Post by letahl »

Statistical wrote: Thu Jun 30, 2022 8:41 pm Backdoor Roth

Contribute $6k non-deductible and then convert it to Roth. Since it is after tax the conversion is tax free. It requires all your trad IRA to be empty of pre-tax funds though to avoided the dreaded pro-rata rule.

If you aren't doing a backdoor Roth then don't do an after-tax contribution it could actually increase your taxes compared to taxable because gains will be taxed upon withdrawal as regular income vs LTCG in retirement which are likely 0% or 15%.
I think I don't qualify for backdoor Roth but I can't remember why. Maybe because I have an old sep or a solo 401k? Joint income is too high to qualify for a Roth but I thought that was the idea of the backdoor.
Statistical
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Re: Non-Deductible TIRA Contributions

Post by Statistical »

letahl wrote: Thu Jun 30, 2022 9:40 pm
Statistical wrote: Thu Jun 30, 2022 8:41 pm Backdoor Roth

Contribute $6k non-deductible and then convert it to Roth. Since it is after tax the conversion is tax free. It requires all your trad IRA to be empty of pre-tax funds though to avoided the dreaded pro-rata rule.

If you aren't doing a backdoor Roth then don't do an after-tax contribution it could actually increase your taxes compared to taxable because gains will be taxed upon withdrawal as regular income vs LTCG in retirement which are likely 0% or 15%.
I think I don't qualify for backdoor Roth but I can't remember why. Maybe because I have an old sep or a solo 401k? Joint income is too high to qualify for a Roth but I thought that was the idea of the backdoor.
Solo (or regular) 401(k) wouldn't cause an issue. A SEP or Simple IRA would. You can roll the SEP IRA (and any other trad IRA) into a solo or normal 401(k).
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FiveK
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Re: Non-Deductible TIRA Contributions

Post by FiveK »

letahl wrote: Thu Jun 30, 2022 9:40 pm I think I don't qualify for backdoor Roth but I can't remember why. Maybe because I have an old sep or a solo 401k? Joint income is too high to qualify for a Roth but I thought that was the idea of the backdoor.
Everyone with earned income qualifies to use the backdoor Roth process.

The solo 401k won't affect whether it would be a good idea for you, but the SEP IRA might. If you can roll the SEP into a good 401k, then that problem goes away.
petulant
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Re: Non-Deductible TIRA Contributions

Post by petulant »

Stocks held in a taxable brokerage account have better tax characteristics than a nondeductible traditional IRA, as others pointed out. This is not necessarily the case for bonds, which benefit from tax deferral until withdrawals begin.

One reason to use the nondeductible traditional IRA is to preserve a year's IRA contribution amount in advance of a future Roth conversion. For example, OP seems to have income above the Roth contribution limits while having traditional accounts that would make a Roth conversion taxed on a pro rata basis. (It's the SEP IRA, not the solo 401(k).) However, in the future, the SEP IRA might be withdrawn or rolled over to another account. In that case, a Roth conversion could be performed with the nondeductible traditional IRA assets, incurring taxes only on the growth. Strategically, the nondeductible traditional IRA would be invested in bonds during the interim, while stocks would be held in other accounts (like a 401(k)), minimizing taxes due at the time of conversion.

One reason to not use the nondeductible traditional IRA is that, if you like it for some reason despite the bad tax treatment, a non-qualified investment-only annuity from a provider like Fidelity would perform similarly, though with a 25 bps annual fee. Fidelity's investment-only annuity has typical index fund options available though with expense ratios around 10 bps. These annuities do not have a maximum annual contribution. The big complaint about these annuities is just what others mentioned above--you can get better tax treatment for stock assets in a taxable brokerage account. So if there's some kind of magical draw to dumping money in an account with reduced accessibility despite suboptimal tax treatment, these are around.
billfromct
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Re: Non-Deductible TIRA Contributions

Post by billfromct »

Contributing to a non-deductible traditional IRA (not for back door Roth IRA purposes) is the best way to turn long term capital gains, 15% Federal income tax rate for most people, to ordinary income, 22% or 24% Federal income tax rate for most moderate income people.

bill
X528
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Re: Non-Deductible TIRA Contributions

Post by X528 »

Isn't the tax-free compound growth still valuable?

It seems like the age at which withdraws must be made keep going up.

What about asset protection? Aren't IRA assets protected in case one gets sued?
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JoMoney
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Re: Non-Deductible TIRA Contributions

Post by JoMoney »

X528 wrote: Fri Jul 01, 2022 6:30 am Isn't the tax-free compound growth still valuable?

It seems like the age at which withdraws must be made keep going up.

What about asset protection? Aren't IRA assets protected in case one gets sued?
If you're investing in stocks or something that may qualify for lower capital gain or qualified dividend rate, then no... the "tax-free compound growth" inside an IRA would result in paying ordinary income tax rates on those gains, which may be at a higher rate than the capital gain/qualified dividend rate in a taxable account.
If you're investing in things like corporate bonds or REITs that would have distributions taxed at ordinary income tax rates anyway, then it doesn't matter, and being able to defer the taxes until a time that you potentially are in a lower tax bracket might make sense.
The potential judgement protections of an IRA may make it worth considering in that regard.
The ability to convert the IRA money to Roth IRA may be beneficial.
If you're doing lots of trading or taxable transactions, doing it inside of an IRA can save a whole lot of tax paperwork headaches.
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backpacker61
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Re: Non-Deductible TIRA Contributions

Post by backpacker61 »

I contributed to a non-deductible tIRA for a little over 30 years; from 1987 when they were first allowed, until recently. All those years of filing Form 8606's was something of a pain, but I recently rolled everything except the non-deductible basis from the tIRA into my employer's 401(K) plan, and then did a Roth conversion on just the non-deductible basis. (I had to transfer an old Rollover IRA into my employer plan also). You can investigate the possibility of rolling your SEP into your employer 401(K) or 403(B) plan if you have one, and then Roth-convert the non-deductible basis. Actually, I still do contribute to the non-deductible tIRA, but Roth-convert the contribution almost immediately, so the tIRA is usually empty, or nearly so.

If you can't roll the SEP into an employer plan, a non-deductible tIRA still could be useful as a vessel for holding tax inefficient investments, such as taxable bonds or REITs, which will be taxed the same whether held in a taxable account or an IRA.

One thing I would keep in mind is that tax laws change over the years; anticipating what these could be is impossible, of course, but having assets in tax-advantaged accounts (of whatever type) can shield assets from these changes as least for a time. When I began my first real job, dividends were taxed as ordinary income (no such thing as "qualified dividends", those began in 2003), so there was always an advantage to tax-deferring those.

IRA's also provide some asset protection from legal judgements, the degree of protection depending on which state you live in.
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Statistical
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Re: Non-Deductible TIRA Contributions

Post by Statistical »

X528 wrote: Fri Jul 01, 2022 6:30 am Isn't the tax-free compound growth still valuable?

It seems like the age at which withdraws must be made keep going up.
Not significantly if your taxable account has efficient passive funds. If in the 22% tax bracket (15% LTCG) the tax drag on VTI for example is around 0.3%. In retirement if the difference in taxes is 22% vs 15% then it would take 7%/0.3% = 24 years before non-deductible just barely comes out ahead by a tiny amount. If in the 24%/15% brackets tax drag is only a bit higher ar 0.32% but now you have a 9% spread = 29%. If in retirement you are in the 0% LTCG bracket it will never come out ahead.

Consider also the RMD on a trad IRA (non-exist for taxable account) and the restrictions on early withdrawal for trad IRA (none-exist for taxable account).

What about asset protection? Aren't IRA assets protected in case one gets sued?
Potentially depending on the state. The OP income likely means he has substantial assets both in protected and unprotected accounts. $6K IRA vs taxable contribution isn't going to move the needle on that much.
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