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What is a non deductible IRA? Why do I have to file form 8606-T?

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Level 13

What is a non deductible IRA? Why do I have to file form 8606-T?

It's actually a non-deductible contribution to your traditional IRA. This happens for a variety of reasons, such as your Modified Adjusted Gross Income (MAGI) exceeded the income cap. That is, there is a limit on how much you can contribute to an IRA but a separate limit on how much you can deduct of that.

Please work through to see your deductible limits.

You have several options to deal with the non-deductible amount. 

As noted, your MAGI can affect the deductibility of your IRA contributions. You have some options:

1.     Continue with the contribution, recognizing that part or all of the contribution will not be deductible. If you do this, then keep good records of this “after-tax” amount (also called “basis”), because when you draw funds out of the IRA later, any funds allocated to this after-tax contribution will not be taxable (since you paid tax on it the first time). You will also be required to file form 8606 and add it to your return.

2.     Ask your IRA administrator to recharacterize the non-deductible amount of your traditional IRA contribution to a Roth IRA contribution, which has higher MAGI limits. Contributions to Roth IRAs aren’t deductible, either, but the earnings of the Roth IRA are tax-free, even when you withdraw them later (the younger you are, the better this is). This would involve less paperwork on your part (no form 8606 or tracking your basis).

3.     Contact your IRA administrator and ask to withdraw the contributions and any earnings on that amount before your tax return’s due date. Of course, you would not be able to deduct the contribution and you would have to report any earnings as income.

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