Roth IRA vs. Nondeductible IRA

Comparing the Roth IRA with a traditional nondeductible IRA.

You can contribute to an IRA even if you're covered by a retirement plan sponsored by your employer. But in this case your deduction may be reduced or eliminated, depending on your income level. If you're choosing between a Roth IRA and a nondeductible contribution to a regular IRA, the Roth IRA can be a clear winner. Here's the choice:

• Contribute to a regular IRA. Get no deduction when your money goes in. When the money comes out, pay tax on the investment earnings.
• Contribute to a Roth IRA. Get no deduction when your money goes in. When your money comes out, it's all tax-free.

If you choose the regular IRA in this situation, you're electing to pay additional tax without any corresponding benefit.

Partial Deduction

You may find that part of your contribution to a regular IRA is deductible. In this situation you have three alternatives: the Roth IRA, the (partially) nondeductible traditional IRA, or both.

When to Choose the Roth IRA

For many people the Roth IRA is better than the regular IRA even if all of the regular IRA contribution is deductible. If you're one of those people, your decision is even easier when part of your regular IRA contribution is nondeductible. Make your contribution to the Roth IRA.

When to Choose the Regular IRA

You should choose the regular IRA only if two things are true:

1. The regular IRA provides a significant advantage. For example, you'll make your contribution while you're in the 28% tax bracket and expect to be in the 15% tax bracket when money comes out of the IRA . . . and
2. The part of your contribution that's nondeductible is too small to matter — say, 20% or less.

When the nondeductible portion of your contribution grows beyond 20%, this choice becomes difficult to justify. You should stick with the Roth IRA.

When to Choose Both

You don't have to put all your money in one or the other. You can contribute to a regular IRA and a Roth IRA in the same year. If you get a substantial benefit from your regular IRA deduction, but a significant part of your contribution is not deductible, you can divide your contribution between two accounts. If you think this may be best for you, consider the following:

• Make sure the total amount you contribute to more than one IRA does not exceed the amount you can contribute to one IRA (usually $3,000).
• Don't take this approach if added fees for maintaining multiple IRAs will eat up your tax advantage.
• Early in the year it may be difficult to know how much of your regular IRA contribution is deductible. This strategy is easiest when you make your IRA contribution at the end of the year. But there is an advantage to making your contribution early in the year, because your contribution starts accumulating tax-free or tax-deferred earnings sooner.

Unfortunately this idea of splitting contributions between regular IRAs and Roth IRAs doesn't work for rollovers. You can't roll the taxable part of a distribution to a regular IRA and the nontaxable part to a Roth IRA. But if your income happens to fall in that area where only part of your regular IRA contribution is deductible, splitting the annual contribution may be the solution that maximizes your tax benefits.