With several conversations around this topic of late, we thought this post worth a re-run, freshened up of course… hope you enjoy the reminder!
Every penny we save is great. On a daily basis we are bombarded with buy now pay later, so while it may sound contradicting, there are less complicated ways to save and more difficult ways in the end to save.
Perils of After Tax Dollars in an IRA
After tax dollars as opposed to PRE-TAX (deductible from your income taxes) funds in and IRA are not your friend.
- Upon eventual distribution you must calculate a distribution basis which will be different from your actual distribution – Easy for the IRS to confuse
- You must carry the basis on your tax return- forever- IRS Form 8606 must be filed to keep up with your basis
- Your heirs may also have to deal with this basis upon your death
- From a really high level, it is confusing
- IRS Audit Possibility – The IRS will receive a distribution amount of greater than you will be reporting on your tax return, making a paper letter or audit inquiry much more possible upon eventual distribution of assets
How Do After Tax Funds get into an IRA?
There are two basis ways after tax funds enter or get added to an IRA:
- After-Tax – Non-Deductible IRA contribution: (Very popular about 15 years ago)- Please save the money, but look for a better way to save it and avoid this method
- 401k or other Corporate Pre-Tax retirement plan is rolled into an IRA along with the after tax funds- Easy fix- Look to take the after tax distribution directly thereby separating the PRE and AFTER tax funds-
- Watch rollovers that contain a Roth contributions as these are after tax and may be directed to their own separate account, once again simplifying the process
It’s not the end of the world if you have after tax funds in your IRA, great work for saving the funds … But if you have the choice, avoiding comingling after and pre-tax funds in your IRA or other similar retirement account may save complications later!
Have a Great “KISS- keep it simple” day!
John A. Kvale CFA, CFP