Monday, February 27, 2017

Backloaded Traditional IRA?

Backloaded Traditional IRA?
Not that Ira.
Disclaimer: the following post includes discussion of both taxes and investments, two painfully boring topics that are liable to put you to sleep. It is strongly recommended that you drink no fewer than two espressos prior to reading this blog post, and wait at least an hour before operating a motor vehicle or heavy machinery. Additionally, nothing contained below constitutes tax or investment advice.

We just filed our taxes, and got back about seven hundred dollars. This is just as we'd hoped for: to land within spitting distance of what we owe. With a couple of rental properties that might have unexpected expenses, and whose tenants might vacate unexpectedly, too, it's tough to predict a whole year's income and expenses ahead of time.

This uncertainty plays a little havoc with our IRAs, too. We're never quite sure if our MAGI (Modified Adjusted Gross Income) will allow for a Traditional IRA contribution at all and, even if it will, how much can be deductible. The rub is that we can't really accurately calculate our MAGI for 2016 until we did our taxes in 2017.

Still, it turns out I could have contributed about $1,400 into a Traditional IRA and the remaining $4,100 into a Roth IRA, rather than putting the entire $5,500 into a Roth as I did. And since The Mad Fientist has proven the Traditional IRA is superior, in an ideal world, I'd put as much as I could into the Traditional, and avoid about $350 in taxes (we are in the 25% marginal tax bracket).

But it's tricky to put this plan into action: if I don't know what my MAGI is until the following year, how do I know how much to put into the Traditional every month, and when to stop?

My half-assed plan is to create a Backloaded IRA, if you will. I would simply invest that $458.33 that I normally would put in my IRA instead in our taxable account all throughout 2017. Then, next year in 2018, I will start doing our taxes in February when I have all my documents, figure out how much of that $5,500 annual limit I could put into a Traditional, and how much would have to go to the Roth, and plop all that money in at once as a 2017 IRA contribution.

See, aren't you glad you had those espressos?

Let's break down the costs and benefits of this plan.


  • Tax efficiency: I'll be able to deduct the maximum amount from our taxable income
  • No penalties: by waiting until 2018 to make all the contributions, I don't have to worry about contributing too much by accident

  • Less Tax-free Growth: The $5500 contributed throughout 2017 will be sitting in taxable account all year, rather than sitting in an IRA all year (i.e. - We'll pay taxes on the dividends thrown off by the investments)
  • Cash Crunch: that $5,500 I have to contribute all at once in 2018 has to come from somewhere, and it's not like we keep that kind of money just sitting around in cash. It figures to be a pretty tight couple months in the beginning of 2018.
As we do with all our major financial decisions, we're going to crowd-source this one. What would all you smart people do if you were in our place?

What IRA strategy should the Done by Forty household use?

*Photo is from the Peabody Awards at Flickr Creative Commons.


  1. Well, being self employed, I never have a clue what my income is gonna look like, so I always wait until I do my taxes to make my contributions. I sorta thought everyone did it that way!

    1. I think that once we get on that schedule, it will feel pretty normal.

      Do you just have enough funds when you do your taxes to make the $5,500 contribution at once? That's the part that would be tricky for us, but we could likely do something like use our emergency fund, then replenish it throughout the year.

      I'm just not keen on saving up a bunch in cash (increases opportunity costs) so I'd love some way to invest the funds throughout the year.

    2. I usually just call my broker and ask him to move xyz amount from one account to another.

    3. That makes sense. Does moving from a taxable account into your Traditional IRA cause any tax issues (like capital gains)?

  2. I thought I remembered the Mad Fientist sort of split between a taxable account and a traditional IRA. If you're going to follow the Roth IRA Conversion Ladder, does it matter that much in the end? I guess it matters $350 plus tax-free growth, to answer my own question! :)

    1. Right! The tax free growth and the tax avoidance are the benefits of this strategy.

      In our example, it really is getting $350 less in taxes (which we'd turn around and invest). Not much for just one year, but if we keep doing it, the benefits could add up.

  3. Had to buy an expresso machine just for this post ;) it safe and lose out on tax savings, or take a guess and risk going over your IRA limit. Good problem to have :)

    I voted my answer (given my ESTJ risk adverse nature, you can probably guess which one I picked). Let's see what the crowd says.

    1. So long as I inspire people to drink more coffee, then I've done my job.

      And yes, you're right: it's a good problem to have. I need constant reminding of my first world status.

      My guess is that you picked the option to invest all at once later next year, which is what I'm leaning towards, too. I think a judicious use of the cash in our emergency fund, then replenishing throughout the year every month, will more or less simulate dollar cost averaging (at least from a cashflow perspective).

  4. Could you take a few years of numbers to get a minimum estimate for the Traditional? ($1,400 could be 100/ month with some wiggle room.) To stop being a slacker I set up $50 automatic withdrawal from savings to Roth, monthly. It won't fully fund it, but it's a start, the money with go in all year, so I get a smidge of dollar cost averaging. I am targeting funding my 2017 Roth by mid year, with the auto withdrawal finishing it up by year end.
    I did not drink espresso, as it's close to bed time, and I made it to the end!

    1. Ha! As long as you made it to the end, I'm a happy camper.

      I really like your idea of trying to estimate and maybe shaving a bit off of the estimate, to get close but not TOO close. That's a neat way of taking the best of both approaches.

      The really hard part for us is that the rentals' income and expenses can change on a dime. Busted pipe or unannounced tenant move out drastically changes our MAGI for the year, and we don't know if or when it would happen. But like you said, if we could estimate, it might work out.

    2. Also, kudos on the auto withdrawal for the IRA. Automation is like, at least 50% of all personal finance.