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Ask a Fool: Is a Nondeductible Traditional IRA Contribution Ever Worth Making?

By Matthew Frankel, CFP® – Sep 14, 2018 at 6:00AM

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If you don't qualify for the tax deduction, you probably should pick a more beneficial strategy for investing your retirement dollars.

Q: I want to invest in an IRA in addition to my 401(k) so I can buy some individual stocks, but I make too much to qualify for the Traditional IRA deduction or to make a Roth IRA contribution. Is it worth making a non-deductible traditional IRA contribution?

The short answer is "probably not."

To bring readers up to speed, anyone who has earned income can contribute to a Traditional IRA, regardless of their income level. However, if you earn more than a certain threshold and can participate in an employer's retirement plan such as a 401(k), you may not be able to take a tax deduction for your contributions.

Now, there are still some benefits to making non-deductible Traditional IRA contributions. The most significant one is tax deferral. Even if you can't deduct your contributions, your investments can grow and compound without annual capital gains or dividend taxes. You won't have to pay a penny in taxes on your gains until you withdraw them. This can be a valuable feature, especially when it comes to fixed-income investments like bonds or high-dividend stocks.

Having said that, there are almost always better choices -- foremost among them, increasing your contributions to your employer's plan or using the backdoor Roth IRA strategy.

While you generally can't buy individual stocks through your employer's 401(k) or other qualified plan, you are allowed to contribute up to $18,500 of your salary to such accounts for 2018 -- which adds up to a big potential exclusion from your taxable income. And, if you're over 50, the limit jumps to $24,500.

If you're determined to get more of your money into individual stocks, though, there is a rule that says that anyone, regardless of income, can convert a Traditional IRA to a Roth IRA. So, you could make a non-deductible contribution to a traditional IRA, then convert the account into a Roth, which will allow you to enjoy tax-free withdrawals when you eventually retire.

The bottom line is that in the vast majority of cases, one of these two options is preferable to simply making nondeductible IRA contributions.

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