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I now make too much money to invest in a Roth IRA.

I get no tax benefit from putting money into a traditional IRA since I already have a 401k plan which I max out.

What should I consider investing in at this point?

I know the answer to this is likely "it depends" but it's mainly for retirement savings.

  • 1
    Do you currently have a Traditional IRA? If yes, about how much is it worth? – JTP - Apologise to Monica Nov 10 at 17:57
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    You get no immediate tax benefit of a traditional IRA... but it does grow tax-free (you won’t get taxed on dividends each year, not have to pay if you make a trade within the IRA) which is not true for a standard investment account. – SethMMorton Nov 10 at 20:31
  • I don't have a traditional IRA. I was thinking of rolling over my 401k from my old company into a rollover IRA though. – Jack Nov 11 at 18:13
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First off, make sure you are using your modified adjusted gross income (MAGI) as calculated by https://www.irs.gov/publications/p590a#en_US_2018_publink100025076. For example, 401(k) contributions and health insurance premiums paid through your employer are not counted. It's possible you are still eligible to make a full or partial Roth IRA contribution.

Second, do you have any money in pre-tax IRAs, or will you by the end of the year? For example, Traditional IRAs that you made deductible contributions to in previous years, or pre-tax 401(k)s rolled over into IRAs? If not, then you are a perfect candidate for the backdoor Roth. You make a non-deductible Traditional IRA contribution, then immediately convert. Neither of these steps have an income limit. And since there are only minimal gains (between contribution and conversion), there should be no taxes. Congress has blessed this strategy, and pretty much the only downside is a little extra tax paperwork (Form 8606). And if you do have a pre-tax IRA balance, you may be able to roll it into your current 401(k) and still be able to do the backdoor Roth.

  • I currently have no money in a pre-tax IRA. I was likely going to rollover my 401k into a Rollover IRA. So would I need to do the conversion every time I contribute to the IRA? I typically just make semi-monthly payments into the Roth. would I need to convert every single time? – Jack Nov 11 at 18:32
  • @Jack If you want to do the backdoor Roth you should either roll your old 401(k) into your new 401(k), if you have one, or just leave it where it is. You can do conversions as frequently as you like, but it is typically optimal to do them as soon as possible after contributions because you'll have to pay taxes on any gains. – Craig W Nov 11 at 18:35
  • I do have a new 401k but it's managed by a startup and it just seems risky to hand over my life savings to a startup financial firm rather than something like Fidelity. I'll likely just leave it in the old 401k. I'll definitely use the new 401k to get the 4% match but not sure I want to hand them all my retirement savings. – Jack Nov 11 at 18:41
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Stop. Do you have any traditional IRA money?

If you do not: Use the Roth Backdoor.

Put it in the Traditional, non-deductible IRA anyway.
Invest it in cash only; you don't want any gains or losses.
And then, the very next day, go back and convert to Roth.

This "backdoor" was enabled by legislation some 15? years ago, when income limits for Roth conversions were eliminated. IRS clearly explained to Congress that this would create this "Roth Backdoor". Congress said "Yeah, we know". IRS was vague for awhile about whether this was OK, which scared people. But finally IRS and Congress started flat-out saying so. So yeah, it is OK.

If you do: Consider the implications of the Roth Backdoor.

The trick with Roth conversions is you must apportion across all your IRAs. Suppose you already made $25,000 of tax-deducted Traditional IRA contribs, and had $20,000 of capital gains. (all of which is taxable when you withdraw it). You also make a non-deductible, non-taxable contribution today, for a total of $50,000. When you convert, you need to pay tax on the deductible contribs and the proceeds (not the non-deductible contribs). So $45,000 of this would be taxable if you converted all of it today.

However you only want to convert $5000 today. So it is apportioned: $4500 that is taxable and $500 that is not. You then need to declare and pay income tax on the $4500.

There is no way to snake this year's Non-Ded IRA Contributions around this apportionment rule. So if you still have traditional IRA contribs lying around that you have not yet converted to Roth, you have to crunch the numbers and see if this is worth doing, and whether you should grind though the gory details of apportionment, or just convert All your IRAs to Roth in one slam-dunk.

Also a factor is if you are anticipating or forced to take a "gap year", a gap year is a fantastic time to do a Roth conversion.

  • I only have a 401k and Roth IRA. So I can do the backdoor Roth. So the way it would work is, every month I deposit $500 into my Roth. So instead I'd add $500 to my Traditional IRA. Then file some form to convert it to a Roth, every time I deposit? – Jack Nov 12 at 2:11
  • @Jack Or you could convert once a year, whatever. However it would be a bit silly to leave money sitting around a whole year not invested, so go ahead and invest it - you'll just have to pay income tax on those gains when you convert. – Harper - Reinstate Monica Nov 12 at 2:14
  • Can you convert it once a month? So every new $500 I put in monthly goes into cash - convert that $500 to the ROTH then invest that $500 into whatever index or fund I have in my Roth? – Jack Nov 12 at 2:27
  • What does it matter if you have gains on your trad ira investments before doing a backdoor roth conversion? If there are gains, you pay a bit of tax, but you still come out ahead, no? – Matt Nov 22 at 14:42
  • @Matt it adds paperwork and a line item on your 1040, for only 24 hours worth of gains... – Harper - Reinstate Monica Nov 22 at 14:44
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As you say, it depends. Do you want to be an active investor, buying individual stocks (or real estate &c), or do you just want to put the money someplace and forget about it? Since I'm in the second group, my own answer (starting some decades ago) was just to put the money in a few mutual funds and basically forget about it.

  • Definitely a passive investor. I have no interest in day trading. I like betting on sports not on stocks. So just open a brokerage account and add money every month to the mutual fund? – Jack Nov 10 at 17:16
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    @Jack: Not even a brokerage account, as brokerages expect you to do trading, even if not day trading. (Or at least that was my experience when I first started investing, before I discovered mutual funds.) Just start an account with one or more of the large mutual fund firms (Vanguard, T. Rowe Price, Fidelity, &c), decide which of their funds you like, and whenever you have a bit extra in your bank account, transfer it. You can do it all on line, in literally a couple of minutes per month once you have the account set up. – jamesqf Nov 11 at 3:02
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Roth, IRA, and 401K are not investments, but are account types that receive special tax considerations. The tone of your question suggests that you do not understand this distinction.

There is nothing stopping you from opening up a brokerage account, and investing in the same mutual fund, ETFs, or individual stocks that may be part of your 401K or Roth. My advice would be to do exactly that.

Having taxable investments are handy as these funds are available for use prior to turning age 59.5 with no penalty. Those funds could be used for business investment or early retirement.

If you follow a strict asset allocation model you may prefer to have assets, that spin off cash, held in tax deferred accounts and save assets that do not in the taxable accounts.

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    I have a brokerage account with Fidelity so I think I'll just find a good index fund and throw money at that semi-monthly like I was doing for my Roth. – Jack Nov 11 at 18:44
  • @Jack. That is a fantastic idea, and one that I would highly recommend. I love FXAIX. – Pete B. Nov 12 at 12:54
  • I may do the Roth conversation approach on the first $6000 every year and then the rest I can use this approach. – Jack Nov 13 at 19:39

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