If you are not eligible to contribute to a Roth or make a deductible contribution to a traditional IRA because your income is too high or you participate in a company retirement plan, you may choose to make nondeductible contributions to a traditional IRA. The only requirement for nondeductible contributions is that you have earned income. In 2010, the IRS began allowing taxpayers to convert traditional IRA balances to Roth accounts. This includes nondeductible contributions, as long as you pay the appropriate taxes on the conversion. Show
Taxes DueIf you convert your non-deductible IRA contributions to a Roth IRA account, you will probably owe some taxes on this conversion. While the non-deductible contributions portion will not incur a taxable event, any gains will be taxable. You must figure contributions to gains proportionately. For example, if you are going to convert a non-deductible IRA that contains $10,000 in contributions and $10,000 in investment gains, 50 percent of that account is investment gains, therefore, 50 percent of the $20,000 conversion is taxable. Taxed at Income RatesThe taxes due on the converted non-deductible IRA are calculated at the rate for your normal income. If you are in the 25 percent tax bracket, and you owe taxes on $10,000 of your conversion, you will pay $2,500 in federal taxes as normal income tax. Future BenefitsThe biggest advantage to converting a non-deductible IRA to a Roth and taking the tax-hit for the conversion, is that all of the future gains on the account are non-taxable when you withdraw the money at retirement age. This is a substantial benefit, and for many, makes it worth it to do the conversion as soon as possible. Backdoor Roth IRAYou can also use the non-deductible IRA as a way to fund a Roth IRA if you are not allowed to contribute to a Roth because your adjusted gross income exceeds the maximum allowed. No income requirements exist to convert a non-deductible IRA. By making a non-deductible contribution to an IRA and immediately converting that contribution to a Roth, you can fund a Roth IRA if you would not otherwise qualify. References Resources Writer Bio Craig Woodman began writing professionally in 2007. Woodman's articles have been published in "Professional Distributor" magazine and in various online publications. He has written extensively on automotive issues, business, personal finance and recreational vehicles. Woodman is pursuing a Bachelor of Science in finance through online education. Top Updated for Tax Year 2022 • October 18, 2022 07:47 AM OVERVIEW Taxpayers use Form 8606 to report a number of transactions relating to what the Internal Revenue Service (IRS) calls "Individual Retirement Arrangements" and what most people just call IRAs. These are accounts that provide tax incentives to save and invest money for retirement. IRA basicsIRAs come in several variations:
Traditional IRAs and deductibilityGenerally speaking, in 2022 taxpayers can deduct up to $6,000 per year for money they contribute to a traditional IRA, or $7,000 if they’re age 50 or older. However, if you are eligible to participate in a retirement plan through your employer, such as a pension or a 401K, then your deduction may be limited or disallowed, depending on your income. As of 2022, if you have a retirement plan at work, you can take only a partial deduction if your income exceeds:
You can’t take any deduction for IRA contributions if you have a retirement plan at work and your income is more than:
Note that you can still contribute money to an IRA in these situations, and your earnings will still grow tax-free. All that’s affected is how much you can deduct in the current year. Form 8606 for nondeductible contributionsAny money you contribute to a traditional IRA that you do not deduct on your tax return is a “nondeductible contribution.” You still must report these contributions on your return, and you use Form 8606 to do so. Reporting them saves you money down the road. That’s because no individual’s money is supposed to be subject to federal income tax twice. Form 8606 gets it “on the record” that a portion of the money in your IRA has already been taxed. Later on, when you take distributions, a portion of the money you get back will not be subject to income tax. Other uses for IRS Form 8606The form is not just for reporting nondeductible contributions to traditional IRAs. You also use it to report other IRA-related transactions where the government needs to track the status of your money—whether it’s been taxed or untaxed. Form 8606 is also used when you:
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The above article is intended to provide generalized financial information designed to educate a broad segment of the public; it does not give personalized tax, investment, legal, or other business and professional advice. Before taking any action, you should always seek the assistance of a professional who knows your particular situation for advice on taxes, your investments, the law, or any other business and professional matters that affect you and/or your business. Do I pay taxes on nonA nondeductible IRA is a retirement plan you fund with after-tax dollars. You can't deduct contributions from your income taxes as you would with a traditional IRA. However, your non-deductible contributions grow tax-free.
Do you pay taxes when converting IRA to Roth?Taxes Due: When you convert to a Roth IRA, the converted IRA balance is treated as if it were a distribution to you. This "income" must be included on your tax return in the year of conversion. You would not owe taxes on the after-tax contributions you have made to your existing IRA.
What is a nondeductible contribution to a Roth IRA?Any money you contribute to a traditional IRA that you do not deduct on your tax return is a “nondeductible contribution.” You still must report these contributions on your return, and you use Form 8606 to do so. Reporting them saves you money down the road.
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