Traditional IRAs are a more common investment choice than Roth IRAs. According to research by the Investment Company Institute, as of 2016 nearly 26% of U.S. households owned a tradition IRA, versus just 17% who owned a Roth IRA.
It seems that for many, the lure of the upfront tax break from a traditional IRA is more appealing than the long-term tax benefits associated with a Roth IRA!
What is a non-deductible Roth IRA?
With Roth IRAs, you’re allowed to contribute up to $5,500 each year ($6,500 for those 50 and older). There’s no upfront tax break like there is with a traditional IRA. But a Roth can be spent tax-free in retirement, unlike a traditional IRA.
Sometimes I hear people worry about a future Congress coming along and cheating people by taxing Roth accounts in retirement. Well, anything is possible, but it’s not something I actively worry about.
As of 2018, people who earn above $120,000 to $135,000 as a single person or more than $189,000 to $199,000 as a married couple filing jointly typically can’t do a Roth. If that’s you, you should know about a special opportunity that’s commonly called a backdoor Roth, or a non-deductible IRA.
High-income earners can choose to open a non-deductible IRA, up to $5,500. And then, if you jump through a few hoops, you are able to convert that money to a Roth immediately. It’s one extra step, but it offers you the opportunity.
Who should move a regular IRA into a Roth? Consider it if you are younger (specifically under 40) and have a traditional IRA and the free cash to pay the earnings tax. In addition, any wealthy retirees facing required minimum distributions should consider doing this, too. But if you are on the cusp of retirement, there’s really no point to convert to a Roth — especially if you have a pension and other sources of income.
Fidelity.com has a calculator to help you decide if it’s the right move for you.
Remember, in general, tax rates are likely to go higher over the years no matter which political party is in power. That means it may make more sense to skip the deduction of a traditional IRA now to avoid tax later with a Roth IRA.