Is It Worth It to Make a Non-Deductible, Non-Roth IRA Contribution?

The following is a post by MPFJ staff writer, Kevin Mercadante, who is a professional personal finance blogger, and the owner of his own personal finance blog, He has backgrounds in both accounting and the mortgage industry.

The widespread popularity of 401(k) plans has made IRAs – at least traditional IRAs – something of a minor league play these days. Most people will take them only if they are able to get a tax deduction for the contribution. If they can’t – or they merely think they can’t – they may not even bother making a contribution of all.

That’s not always the right choice. In fact, in most cases, it’s the equivalent of leaving money on the table. Here’s why…


The Basics of Traditional IRAs

For 2014, you can contribute up to $5,500 toward an IRA, plus an additional $1,000 under the “catch-up provision” if you’re 50 or older. This is unchanged from 2013. You can make a full contribution, and deduct the full amount of the traditional IRA contribution from your income taxes, if neither you nor your spouse are covered by a pension plan through your employer.

But even if you or your spouse are covered by a retirement plan at work, you can still contribute the full amount to an IRA, but there are limits as to how much of the contribution you can deduct for income tax purposes.

If you are covered by an employer sponsored retirement plan. If you are single, you can deduct the entire amount of the IRA contribution for tax purposes if your modify adjusted gross income, or MAGI (click here for a definition of MAGI;), does not exceed $60,000. At that income level, your deduction begins to phase out, up to $70,000, where disappears completely.

If you are married filing jointly, you can take the full IRA deduction on a MAGI of up to $96,000. At that income level, your deduction begins to phase out, up to $116,000, where disappears completely.

If you are NOT covered by an employer sponsored retirement plan, but your spouse is. You can take a full IRA deduction if your combined MAGI does not exceed $181,000. At that income level, your deduction begins to phase out, up to $191,000, where it disappears completely.

Statistically at least, that means that most people are entitled to take a tax reduction on the full amount of their traditional IRA contribution, even if they or their spouse are covered by an employer pension plan.

But what if your income level exceeds these limits? Is it still worth it for you to make a traditional IRA contribution – even if you won’t get a tax deduction for it?



Your traditional IRA contributions may not be tax deductible, but your investment gains will still be tax deferred

People often forget that while the tax deductibility of retirement contributions is a nice feature, the real power of tax-sheltered retirement plans is the ability of your money to grow on a tax-deferred basis. Any money that you put into a retirement plan – including an IRA – can grow without regard to tax consequences. That enables faster growth as a result of the full compounding of investment returns.

This is a benefit that you should never forgo, even if the actual contributions are not deductible for income tax purposes.


Building tax diversification into your retirement plan

While it’s true that the inability to deduct your IRA contributions is a limitation, there is a back-end benefit that kicks in when you retire. The non-deductible contributions that you made into your IRA will not be subject to income tax when the money is withdrawn. No tax savings on the way in, no tax paid on the way out. Simple.

This means that at least some of your retirement portfolio will come back to you free from tax consequences. This will provide you with a certain amount of tax diversification, already built into your retirement portfolio.


More rapid accumulation of retirement assets

There’s an even more obvious benefit to putting money into an IRA even if it isn’t tax-deductible. The more money that you save for retirement, the more quickly it will grow.

Imagine making the maximum 401(k) contribution each year. Now calculate in the impact of annual contributions of $5,500, or $6,500, on top of that. If you’re maxing out your 401(k) contribution at $17,500 per year, adding an additional $5,500 through an IRA will increase your annual retirement funding by more than 30%.

With or without a tax deduction for the actual contributions, adding money to an IRA is a way of getting more investment capital into a tax sheltered investment plan. That’s always a solid strategy, and a necessity if early retirement is a goal.


Having more control over your retirement assets

Though 401(k) plans are the best way to accumulate large amounts of retirement capital for most people, they’re not always the best investment vehicles. Since the plan is run by your employer – or your employer’s trustee – you will have little control over the plan, other than deciding allocations. And those allocations are usually restricted to a limited number of investment options.

An IRA, by contrast, is completely under your control and therefore self-directed. You can choose the investment company that you hold the account with, and do so in a way that will not only maximize investment choices, but also give you the ability to trade what you want.

For example, let’s say that you like to trade individual stocks. A typical 401(k) plan won’t provide that ability. Your investment choices are typically limited to a small number of funds, a single family of funds, or maybe company stock. But with your IRA, you’ll be able to trade not only stocks, but also funds in any fund family you choose.

An IRA will provide you with the kind of investment flexibility that a 401(k) plan – or other employer-sponsored retirement plan – typically won’t.

Consider contributing to an non-deductible IRA even if you can’t take the tax deduction for the contributions you’re making and do not qualify for contributing to a Roth IRA. There are just too many advantages to doing so.

How about you all? Have you ever made non-deductible IRA contributions? Why or why not? What do you feel some of the advantages or disadvantages would be? 

Share your experiences by commenting below! 

Reference sources: IRS IRA Contribution Limits, 2014 IRA Contribution and Deduction Limits – Effect of Modified AGI on Deductible Contributions If You ARE Covered by a Retirement Plan at Work, and 2014 IRA Contribution and Deduction Limits – Effect of Modified AGI on Deductible Contributions if You are NOT Covered by a Retirement Plan at Work.

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