Why An IRA Contribution May Not Make Sense For You

By Kristen Euretig, CFP®, Founder and Chief Planning Officer

Happy Spring!  We find ourselves in the final stretch of tax season which means you have a couple more weeks until Monday April 15th, 2024 to contribute to an IRA (Individual Retirement Account) for 2023 – but should you? One of the most common mistakes we see DIY investors make is contributing to an IRA when it doesn’t benefit them in the way they think it will. Yes, brokerages like Fidelity or Schwab will allow you to open and fund an IRA no questions asked, but will the IRS allow it and will it actually qualify for the special tax treatment you likely expect?  Those are important questions to ask before making an IRA contribution.  I’ll walk you through the basics with some links for more detail.

Let’s start with traditional IRAs.  These are the kind that are tax-deductible for the tax year the contribution is made, but then taxed on withdrawal.  You can contribute $6,500 for tax year 2023 no matter what, but whether or not the contribution will be tax-deductible i.e. the whole point of the contribution depends on a number of factors.  If you or your spouse contributed to an employer plan like a 401(k) in 2023, then the tax deductibility of traditional IRA contributions is greatly reduced, starting at around $73k of earnings for individuals and $116k for those married filing jointly.  This article breaks it down in detail but the point is many would-be retirement savers are missing out on the benefits they think they’re getting through making an IRA contribution because they also have access to a 401(k).

Roth IRAs have their own set of tripwires.  There are hard and fast income limits for contributing to a Roth IRA.  Individuals that earn over $138k and couples earning over $218k that are married filing jointly cannot make the full Roth IRA contribution and may not be able to contribute at all without facing IRS penalties. For more of a deep dive on eligibility for Roth IRA contributions, see this.  There is a potential workaround here known as the “backdoor Roth IRA” for high earners, but I don’t recommend it unless you’re working with a professional because there are too many ways this can and does go south when investors DIY it.  
So, yes IRAs are a great way to save for retirement if you qualify and it makes sense.  I personally think 401(k)s are the unsung heroes of retirement savings.  I often see prospective clients not maxing out their 401(k) but contributing to an IRA.  Generally, I advise folx to do as much to their 401(k) as they can and then explore IRA eligibility if they are maxing out their 401(k) or contributing the full $23,000 for 2024.  Even if your 401(k) doesn’t have a match, it comes without all the potential pitfalls of IRAs and it comes out of your pay.  I’ve also seen employers greatly improve on the investment options to include more low cost investment options over the past decade.  If you’re DIYing your investments, beware that contributing to an IRA may not make sense for you and could even land you a penalty from the IRS if you’re not careful.

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