THE BIG REVEAL: You can, but should you?

With a dose of market ambivalence injected into our veins, let's get back to IRA contributions and close the loop on if you should, just because you can. 

To recap: 
Part 1  - You have until April 15, 2018 to make your 2017 Roth or Traditional IRA contribution.

Part 2 - For a Traditional IRA, you can contribute money pre-tax (aka deductible) or after-tax (aka non-deductible)

Part 3 - Your options are based on your income.  If you can make a deductible or a Roth contribution, you probably should.

That leaves the great white whale of personal finance - the non-deductible Traditional IRA contribution.   You CAN.  But SHOULD you?!?!?  Bum bum buuum

To unravel the mystery, let's jump in our time machine.   Fast forward (or rewind) to your 141st half-birthday. 

You're exhausted from blowing out 70.5 candles when you hear a knock at the door.  It's Uncle Sam!  He wishes you a Happy Half-Birthday and reminds you that you have to take money out of your Traditional IRA today. 

"But why Uncle Sam?  I don't need the money," you ask.

"Because when you take money out of your Traditional IRA, you pay taxes.  And I needs mah taxes!" Uncle Sam replies. 

It's called a Required Minimum Distribution (RMD for short).  It applies to Traditional IRA's and BOTH Traditional and Roth 401k's... but not Roth IRA's.    (Got that?  Don't forget we pay Congress to come up with this stuff.)  

Your RMD is calculated by dividing the money you have in your IRA by an age-factor.   At 70.5, the age factor is 27.4.  

So if you have $100,000 in your IRA at 70.5 years old, you have to withdraw $3,650 (100,000 / 27.4 = 3,650)

Still with me? 

That $3,650 IRA withdrawal counts as income on your tax return.  So you'll pay taxes on it as if you earned it from a paycheck.

Now if you have $100,000 in your IRA, adding $3,650 to your income won't have a huge impact on your taxes. 

But what if you have $100,000,0000? (Lucky you!)  Then your RMD is $3,650,000.  Adding $3,650,000 to your income will push you into the 37% tax bracket.    That's $1,350,500 in taxes you're paying Uncle Sam.  Oof.

Buuutttt what if your $100,000,000 was in a regular brokerage account, not an IRA?  Well, none of that would have happened because RMD's don't apply to regular brokerage accounts. 

Ah ha!


Whether or not you should make a non-deductible IRA contribution TODAY depends on how much you'll have in your IRA when you turn 70.5.  

(Warning: That's a rather complex calculation best left to a professional.  Talk to your financial planner.)

If your forecasted RMD will force you to pay a ton of taxes, then you SHOULD NOT make a non-deductible IRA contribution today.  Instead, save that money in a regular brokerage account.

It won't stop your weird Uncle Sam from coming to your 70.5 birthday party, but his visit will be a little less painful and weird….well, less painful anyways.