I was looking at my ProjectionLab plan and I noticed that it wasn't contributing to my traditional IRA accounts. When I looked into it, it said that it won't contribute to an IRA if your income is above the max for tax deductions. I had IRAs so engrained in my thinking, that this was the first time I had even thought about whether a traditional IRA was even getting me anything since my income is too high to take the deduction. I'll obviously continue contributions to my 401K, but should I switch to making contributions to a taxable brokerage account instead of our traditional IRAs?
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Epiphany6129
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3 replies
Replies (3)
BostonFI
6 months ago
Tax on capital gains from a brokerage account may be more favorable than tax on distributions from your tIRA. Either way, you're paying tax on the basis now so the difference is in how earnings will be taxed. LTCG tax for most people is 15%. Since you have both pre-tax and post-tax dollars in your tIRA, tax on tIRA distributions will be pro-rata (pro-rated) but will use the less favorable earned income tax brackets. You might run some scenarios to model how much of your tIRA balances will be earnings versus basis by the time you're taking distributions.
If that's too complicated to model, tax diversification is a good way to hedge your bets and maintain flexibility. Split savings across pre-tax, tax-sheltered (Roth) and taxable accounts.
WCI has a great tutorial on the backdoor Roth IRA conversion.
The backdoor conversion is a specific maneuver which requires $0 traditional IRA balances. If you have a non-zero balance in any traditional, rollover, SEP or Simple IRAs, you can still convert your pre-tax IRA dollars into a Roth IRA, but that conversion would be a regular Roth conversion not a backdoor Roth conversion and so subject to tax via the pro-rata rule.
Since you have tIRA balances, to do a proper backdoor Roth IRA conversion you would first need to convert all your tIRA balances to Roth by doing regular Roth conversions, paying tax as you convert. You can do this conversion over one or more years to control the tax owed.
If your tIRA balances are large, zeroing them out to enable future backdoor conversions may not be worth it. If the tax on converting is manageable and you would then have many years ahead of tax-free backdoor Roth IRA conversions, then it may be worth it. You'll need to decide.
scmattd
6 months ago
Read up on ‘back door Roth’ and ‘mega back door Roth’. I would do those sequentially before brokerage.
I love the FIRE flowchart on reddits FI page.
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