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Congress has limited who can contribute to a Roth IRA based upon income. A taxpayer can contribute the maximum amount listed at the top of the page only if their Modified Adjusted Gross Income MAGI is below a certain level the bottom of the range shown below. Otherwise, a phase-out of allowed contributions runs proportionally throughout the MAGI ranges shown below.
Excess Roth IRA contributions may be recharacterized into Traditional IRA contributions as long as the combined contributions do not exceed that tax year's limit. The lower number represents the point at which the taxpayer is no longer allowed to contribute the maximum yearly contribution. The upper number is the point as of which the taxpayer is no longer allowed to contribute at all. People who are married and living together, but who file separately, are only allowed to contribute a relatively small amount.
However, once a Roth IRA is established, the balance in the plan remains tax-sheltered, even if the taxpayer's income rises above the threshold. The thresholds are just for annual eligibility to contribute, not for eligibility to maintain a Roth IRA. To be eligible, one must meet the earned income minimum requirement.
In order to make a contribution, one must have taxable compensation not taxable income from investments. If a taxpayer's income exceeds the income limits, they may still be able to effectively contribute by using a "backdoor" contribution process see Traditional IRA conversion as a workaround to Roth IRA income limits below.
The one exception is for a "spousal IRA" where a contribution can be made for a spouse with little or no earned income provided the other spouse has sufficient earned income and the spouses file a joint tax return. The government allows people to convert Traditional IRA funds and some other untaxed IRA funds to Roth IRA funds by paying income tax on any account balance being converted that has not already been taxed e.
Prior to , two circumstances prohibited conversions: These limitations were removed as part of the Tax Increase Prevention and Reconciliation Act of One major caveat to the entire "backdoor" Roth IRA contribution process, however, is that it only works for people who do not have any pre-tax contributed money in IRA accounts at the time of the "backdoor" conversion to Roth; conversions made when other IRA money exists are subject to pro-rata calculations and may lead to tax liabilities on the part of the converter.
The pro-rata calculation is made based on all traditional IRA contributions across all the individual's traditional IRA accounts even if they are in different institutions. Returns of your regular contributions from your Roth IRA s are always withdrawn tax and penalty-free.
First, the seasoning period of five years since the opening of the Roth IRA account must have elapsed, and secondly a justification must exist such as retirement or disability.
The simplest justification is reaching Becoming disabled or being a "first time" home buyer can provide justification for limited qualified withdrawals. In addition, the beneficiary may elect to choose from one of two methods of distribution. The first option is to receive the entire distribution by December 31 of the fifth year following the year of the IRA owner's death.
Do you still recommend a traditional IRA even if it will be non-deductible over a roth? I am already maxing out my K and HSA. If you can only contribute to a non-deductible Traditional IRA, you might as well just go with a Roth. You are masterful at taking our ridiculously complicated tax code and simplifying it to demonstrate how big of an impact we can have on our financial situations by paying attention to a few key details.
Hi MF, Love the content. My question is this: I have a portion of income that is not taxed at all, enough that I can max out contributions to a Roth or Traditional IRA, along with the k in either flavor also.
Or is it better to invest in the Traditional versions to push the effective tax even lower??? If none of your income is taxed anyway, you should just go directly into the Roth so that that money is never taxed. Thanks for all this information! In time I hope to understand it all, or at least a lot more than I do right now as a self-confessed and slightly ashamed newbie! As I said, a newbie. How does this work out for those of us in states where traditional IRA contribution are taxed?
Is the traditional IRA still a good deal? I think it is, but it makes things a little more complicated for some. Are you aware of this? And if so, do you have a backup plan? Hey Richard, check out this post! Great article, you wrote about things I have never even thought about, and that is amazing given my CPA certification.
Your analysis has proven me wrong. I do not think I have enough to live on for the five year period. Is there anyway around this? I have almost enough to retire today, though, at age Would you recommend a home equity line of credit, interest only with a 10 year period, to fund early retirement, take the tax deduction IF you itemize, and forgo an early withdrawal penalty, while you wait and convert? Hi Dan, why not just work part time doing something you enjoy to pay for your expenses for the first five years?
Thank you so much for what you do for others, and especially for young people like me. I am 25 years old, and after following your advice, I started a Roth account and a brokerage account. I apologize for bothering you, but could you kindly help me with a calculation? I just received a job offer with the following terms:. I understand there are restrictions but i am not sure how they are calculated?
Check out this post that my buddy Jeremy at Go Curry Cracker wrote. If you do a rollover to a Roth, you just have to pay taxes on that rollover but you could then take that amount out of the Roth, penalty free. I am currently living abroad and we are thinking of traveling for a year or so prior to returning to America and not making any income.
Would I be able to convert to Roth and not pay any taxes and use the foreign earned income exclusion? If so, that would be sweet!
Can I get your help on a general plan of action for the next 10 years maybe less? I have some immediate plans to save on taxes by moving to a no-state income tax area, or even go out of country to get the federal income exclusion.
But what should we be doing with our investments in order to follow your path of early retirement? Total net worth right now is about 1MM mostly in our house though: Hey telecommuter, check out this post and this post for why maxing out your tax-advantaged accounts could really supercharge your savings while you are both still working!
Were you able to take advantage of the foreign income exclusion? Yes, I will be taking advantage of the foreign earned income exclusion though when that time comes!
The foreign earned income exclusion is only for Federal Taxes, right? Is there an equivalent exclusion for State taxes? I learned about GCC this past week and found this article through them. You all have made it seem very realistic and doable and I am now addicted to your blogs. Thank you for the plethora of information and the assistance you provide to everyone!
Not sure how those things would factor in or not. Here are a couple of posts that highlight why I think the Traditional route is best for those hoping to retire early though: Does a restriction exists to withdraw monies in an IRA?
Does the money has to sit in the IRA for a minimum of five years? Does an age restriction exists for widthdraws? When you do a rollover from a Traditional IRA to a Roth, the rollover amount can be withdrawn prior to age Depending on how you have things setup and your drawdown plan.
So it might look something like this: My plan is to live entirely off of dividend income, so I was concerned that too large a percentage of that dividend income would be tied up in the Roth.
But you are right that turning the tax-free growth into taxable growth, just so that I can access it earlier, is too much of a sacrifice. I made a contribution to a Roth, realized my AGI would fall under the threshold and put the money back in a traditional IRA for the tax savings.
Would you happen to know? I currently love my job and could see myself here until regular retirement, but the future is uncertain and you never know what will happen even 5 years from now. Phil, did you ever get an answer? I too will probably not retire crazy early, maybe not early at all, but I still want to be making the best decisions. Wish I had found it sooner, as it has changed my perspective on how to slant Roth vs Traditional. I saw in another post you mentioned an interest in looking into property management, so I wonder if you have thought how this would impact your laddered conversions.
My husband and I have 9 kids at home and a single income. We also have two rentals, one of which we are selling when it becomes vacant in July. Any thoughts or suggestions for our situation would be welcomed. Hi, I have learned a lot from your site and jlcollins site. Thank you for sharing the knowledge. I think you need to update your article to include the loss of ACA subsidies due to the Roth conversion increase in income.
Once this is factored in it almost becomes uneconomic to do the conversion. If you figure a way around this I would be all ears. I assume most early retirees will face this. I seem to be missing some vital bit of information. How then is one able to make a transfer of funds to a Roth IRA and skirt this penalty starting at age 40? I know this article has been up for a while, but hoping someone smarter than me has some thoughts….
I have been following this strategy and contributing to an IRA in addition to maxing out my employer-sponsored K. Does this change the strategy? Should I worry about maxing out my tax sheltered accounts and using the IRA ladder , or would I be better off using that money to get more real estate? I was curious how you file your taxes, i. I was listening to one of your podcasts and reading the post in the roth ira ladder. But you said your wife does and will work probably longer than you so how do you avoid her taxable income raising your joint income while you are performing these roth conversions?
You do a great job and I have learned a ton! Thanks for all the education. I need this tax knowledge. I learned a lot from the information! Hey all, just want to make sure I understand something.
Hey MadFientist, Just came across this from another blogger. Wow I punched in numbers and I could convert 50k a year to a Roth if all goes according to plan without paying taxes on it. Thanks for doing the research. You have changed my mindset on what investment vehicle to choose. What Traditional IRA would you recommend? It appears Vanguard has a number of options available.
Also how much should be put in for best yield? You cannot take a tax deduction i. Without the tax benefit up front, the Roth IRA wins out. Contributions to your k or b , b , HSA, and your standard deduction and personal exemption should be subtracted from your gross income to calculate your MAGI.
I work for a state university, and have access to a b. I had a question about how contributing to a Roth vs. Traditional in a State with no income tax, like Texas, changes the decision. I was always under the assumption since having no income tax is such a great benefit, I should contribute to a roth account.
However, based on another post you made here http: I am now contributing to a Traditional IRA and k but every year I seem to go back and forth between which is better. If I make roughly 50K a year and is the head of household, what benefits do I get around tax time?
It also seems like a TRAD vs. Roth is the best idea. At lower tax brackets, that savings might not be that much. If you plan on retiring to a state with taxes, you would want to move your money to the Roth before you go. This tips the scales in favor of Traditional contributions for even more people.
I found this article that discusses some of the ramnifications: What the effective tax rates are on your contributions is very relevant. Depending on the expected effect tax rates, it might never make sense to contribute to a Roth regardless of how much income you can generate. If something sounds too good to be true e. So if someone owned their own business and could set up an individual k via vanguard and funnel business and personal contributions to that up to 18k limit for individual and 56k total max per year, according to the vanguard site: Would you recommend maxing that out that before setting up an IRA?
I guess it would depend on which one lowered the tax bil the most, ya? I do have a question though, does this guidance change for going folks working towards FI that are constantly maxing their ks? Assuming one maxes it for fifteen years or so straight out of University and has a total contribution of over k before gains does it bring up the Roth vs IRA debate again? Not helpful when you make more money than the income limit!
I used to be in the boat of maxing out taxable accounts to fund early retirement. My wife also has access to a b account which is the best of both worlds. Money is invested pretax and can be withdrawn penalty free and tax free at any time.
Good points made in the article, but it seems worth emphasizing as others in the comments have mentioned that IRA deductions go away above certain income limits depending on filing status. This may not alter strategies for many, but would likely for those not able to deduct contributions to a traditional IRA.
Love the content you have, and am currently trying to get my husband on board with reaching FI. We max out our k , b , and HSA. Am I correct in thinking this? If not, where should we be investing our money? Thank you for all the time and hard work you put into creating quality content!
Or would you recommend to contribute to the Roth IRA instead? Put your money directly into a Roth IRA. My wife and I both max out our k accounts through work. So in total, last year we both put 51k into our k accounts. I found out that we can make non-deductible contributions to a Traditional IRA. Then I could convert them to Roth if I wanted to from this article, it seems like I should wait to convert, which makes sense. But if I can convert our k to a Traditional after we leave that job, then to a Roth at a later date — does it make sense to still make additional non-deductible contributions to a Traditional?
B max out our Traditional IRAs before maxing out our k, then contribute to our ks up to the deductible limit? And he is going to have income next year and I will hopefully only have passive income. I am hoping we can contribute to traditional IRAs next year but we may not be able due to income restrictions; however, I am keeping that in my back pocket if it is available. All good problems to have. I do like the long term analysis of traditional vs.
I think those are good things to keep in mind. So what happens if you max out your traditional IRA every year? That is nowhere near the savings rate necessary for our income level. What basket should I fill after maxing out the tIRA? Should I max out rIRA, then traditional? I have a defined compensation pension plan through work. I loved it then and still do. I have used this tip in the past…thanks to your knowledge sharing. This year our modified AGI disqualifies us for a deduction of our traditional ira contributions.
I assume this only works if you meet the qualifications for deduction set by the irs? Thanks so much for the post MF. My wife has a so we are maxing is out along with my TSP and hopefully we get to her b. I guess my question is when would be the best time to use this …maybe after a the roth conversion ladders is complete?
I realize the is sweet because you can take it out early…but it does ultimately get taxed as ordinary income. What might be a good strategy for drawing on the ? I will post this again because I never heard any rebuttals or replies for that matter. For all those who may retire earlier through military service…I think it may be flawed logic to say the smart choice is always Roth: When I retire from the military 9 years and counting I will more than likely move to an area that has state taxes Oregon or California.
Thoughts on this type of mix? As none of those scenarios seems to be my case, I think Traditional may be superior for the majority of my tax advantaged savings while in the military. I have been active duty Army for the past six years and plan to retire after exactly 20 years in service. I am exempt from state taxes right now but will most likely have to pay state taxes in retirement.
Going forward, I plan to contribute to traditional funds to maximize the time frame for tax-deferred growth and then begin to transition to Roth contributions as I get over the 10 year mark and my retirement starts coming into sight.
I know the traditional funds provide a great value in that my money will grow tax-deferred. For my situation and yours, I think we have something to gain by contributing to both traditional and Roth funds.
Hi MF, this may have been covered in the previous comments, so if this is a repeat I apologize. Is there a way to covert it to traditional without any crazy penalties or taxes? Let that money compound. Thanks for rewriting this. And your deductions are reduced at incomes lower than that. Thanks to everyone who suggested that I mention the income limits for tax-deductible IRA contributions.
Thanks for the clarification. I already changed my strategy based on this but its nice to hear it from you. I would hate to hear others jumped on this not realizing the irs limitations. Also thanks for your travel cards posts. We also may travel further now knowing the power of points for great credit! Thanks for the clarification of what seems obvious.
I would love to see an expose of the mechanics of all this. Like actual copies of someones documents used to do these conversions or more specifics pointing to how to do this. It sounds nice in theory, but I imagine in practice you can easily be prone to screw ups. Are you worried about the contribution side or the conversion ladder? That is around the income amounts where capital gains start being taxed. That is 38, for singles and 77, for couples above the standard deduction.
There is a third consideration mentioned for some people in these comments, and that is the subsidies for the ACA health insurance plans. I am less familiar with that, but you can search these comments if that is a concern to you. What would you recommend to those who have brief access to a traditional IRA but will soon be subject to income limits? I would rather save on taxes now, however I will be earning above the deductible limit next year, and am wondering if the additional taxes I have to pay due to my Traditional IRA balance when doing a backdoor Roth IRA are worth it or if I should just contribute to a Roth this year.
I will be receiving a pension of about 25 to 30K inflation adjusted. Seems like there are a bunch of hoops to jump through to get our money out of the tax advantage account. Would it make more sense in my situation to use an taxable account since I will be needing the money in ten years? Are you truly going to retire not work or just leave your job and draw a pension along with working?
Are you eligible and plan to draw the pension at ish, or do you need to live off other funds until you can collect the pension? Will you be social security eligible?
It seems like you will only need a relatively small percentage of it each year to make up a gap between your pension and spending. The rest can continue to grow and you would want to select the best account type to facilitate that growth. But that tax structure has only been in place since Tax policy changes over time, and a future congress could easily reverse that.
Having money in a Roth would probably ensure to a slightly higher degree that future earnings are not taxed. Admittedly, the Roth has only been around since , but changing the terms of the Roth would be more difficult that changing the terms of the general income tax.
You might also want to consider the tax situation in the state you will retire in. They may also have more favorable treatment for drawing down tax advantaged accounts like a k as a senior than in a taxable account. Thanks for the great insight! I mean, the tax benefit would be nice, but it gets phased out, and not at a very high income level.
If you have a retirement plan at work, your tax deduction for the IRA starts disappearing above a certain income level. For my wife and I, there is no reason to contribute to a traditional IRA. Our income is high enough that the tax benefit is completely eliminated.
Sure, I guess the gains would be protected, but using a traditional IRA is damn close to just putting it into a taxable account for us. The phaseout is a payout to the financial firms. Its unfortunate that your wife has a lousy plan. If it is a smaller company perhaps she can rally her co-workers and talk to HR and slip in the word fiduciary. She should at least contribute up to the match in the k. Due to the affordable care act, converting Traditional to Roth will mean a significant loss in health subsidies.
I love my job so not looking at retiring per se; so how someone handle their K? So for planning treat them the same. The bigger question becomes how good is your k. Mine is good, so I load it up. But as Norm says there can be duds. I would still consider contributing because it lowers your MAGI. Which could make you eligible for deducting your IRA. I would be over the cap and I use this strategy. Remember to include all your fees!
I was wondering if there were any suggestions on how to remedy this situation? Is there a recommended HSA broker to transfer it to with low fees, etc? Nick, This is a quick response based on my own history — I am sure someone will give you a more considered opinion. I now have due to large corp finding a better one my HSA with http: The fees are not bad and the investment choices are mostly Vanguard funds that I have. They just removed a bunch of hi-fee mutual funds and TDFs.
I am holding on of course to my receipts in case I need the cash reimbursement vs a medical bill. Nick, are the fees because you have a low balance, or just general administrative fees regardless? I assume still go with the traditional IRA and then convert to a Roth once our income drops below the Roth limit when we semi-retire? Are you talking about money in the ks, or money you want to save for retirement beyond the ks?
You can then do the backdoor Roth for additional savings. When you put the money in the nondeductible IRA it has been taxed, so you just turn around and convert it to a Roth the next day or two. That allows me to get close to the max on my k, but that does not allow any money to go into a Traditional IRA.
Or, the employer might have a SEP not a k. This is one of my all time favorite posts. Does it make sense to continue maxing out the ROTH as well? Or, am I better off putting it in taxable investments? ArchiLife, it sounds like you are doing great. It seems to me if you have managed to get money into a Roth you should let it grow there for as long as possible and it should be the last money you draw on in life, not the first.
To me it seems that as I was approaching FI 5 years or less depending , I would beef up my taxable account to cover expenses. So in a perfect world, you could convert Trad to Roth tax free, wait the 5 year period then withdraw the conversion amounts from the Roth to live on.
I do agree taxable money should be used before withdrawing from Roths in most situations though. During the ten year from 50 to years-old of no earned income, how much per year can my wife and I convert from the traditional IRA to the Roth without paying tax?
It is based on your deductions. This changed some, and perhaps got simpler, with the tax changes that happened after you posted your question. Perhaps a bit higher if you still have children dependents at Of course this amount will change over time for inflation and back-and-forth about tax policy.
You can still convert money to the Roth if you are taking distributions. A final factor might be if you plan to move to a state with different tax scheme eg from one with income tax to one without after you turn It is a degenerate example of the traditional vs.
Roth discussion trying to make a specific point about FI. That is why he talks about the traditional retirement track and the FI track. He is not trying to address all the variables of traditional retirement. His Fi example is specifically targeted for someone who is reaching FI early, and is having minimal or no earned income in FI.
If you expect to reach FI, but then continue to work because you like it, not because you have to, then this strategy may not be relevant to you. What it is attempting to show is that if you do get money into a traditional IRA pre-tax, either by direct contributions or k rollover, you can use periods of low or no earned income extended unemployment, FI without working to gradually convert amounts up to your deductions and not pay tax on it.
And, if you get far enough along with the conversion, the earnings that would have been taxed when you withdrew them from the traditional IRA will be moved to the Roth and go untaxed. I have just discovered your blog yesterday through jcollins. However, I have recently decided that I need some diversification at the very least in some tax-advantaged retirement accounts.
I want to retire in 6 years, or at least have the total option to work if I want. I wanted to move some or all of these into a similar Vanguard account with only 1 or 2 funds. I am totally lost on the best way to approach this ie. I would appreciate any feedback! Vanguard should be able to help you with this and initiate the transfer. Both types of Roths offer the same valuable benefit: As long as you follow the rules, all of your money comes out tax-free in retirement.
But there are a handful of ways in which the two accounts differ. But first, take these two steps:. If your employer offers a company match in your k , contribute enough to the k to qualify for that free money. Because … free money. A hugely important savings strategy is to find low-cost investments. Now, k plans vary widely, and the investments offered in your plan may be amazing — or awful.