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Taxes, Contributions, and a Self-Directed IRA: Your Questions Answered

Ultimately, what makes or breaks a decision on what type of self-directed IRA is right for you will probably come down to tax structures within the account. That means it’s crucial to understand what these benefits mean, the limitations placed on them, and what that means to you.

Self-directed IRAs are powerful tools that can help you build wealth, prepare for retirement, and gain some extra advantages during tax season. Most people are a little perplexed about these advantages, so let’s dive right in and get those questions answered.

Traditional Self-Directed IRA

Through a Traditional IRA, your contributions may be wholly or partially tax-deductible, depending on your circumstances. Generally, the amount within a Traditional IRA (including earnings and gains) is not taxed until retirement.

Contributions and Taxes

According to IRS.gov, for 2020 and 2021, total contributions to both a Traditional and Roth IRA cannot be more than:

  • $6,000 ($7,000 if age 50 or older),
  • Or your taxable compensation for the year (if total compensation was less than this dollar limit)

The IRA contribution limit does not apply to:

See the charts below to find if you are eligible for tax deductions.

This chart is for those with a retirement plan at work:

(image of chart)

This chart is for those without a retirement plan at work:

(image)

Roth Self-Directed IRA

With Roth IRAs, savers contribute with after-tax dollars and get a tax-free stream of income upon retirement. And it is not just the contributions that come out tax-free. Uncle Sam does not lay a finger on any of the earnings. It can be a sweet deal when you’re talking about decades of compounding interest.

The only catch is that you pay income tax on your contributions upfront when you make the contributions. Unlike the Traditional IRA, which gives investors a tax deduction for the year the contribution is made, the Roth version lets savers contribute after-tax money today and withdraw principal and earnings tax-free at retirement.

Contributions and Taxes

Roth IRAs are not tax-deductible, but the same general contribution limit applies to both Roth and Traditional IRAs ($6,000 ($7,000 if you’re age 50 or older). However, your Roth IRA contribution might be limited based on your filing status and income.

This table shows whether your contribution to a Roth IRA is affected by the amount of your modified adjusted gross income as computed for Roth IRA purpose:

(image of MAGI)

Neither Account Type?

Generally, if you’re fortunate enough to receive a matching contribution in a 401K plan, it makes sense first to make sure you are contributing enough to receive the maximum match before contributing to a Roth or traditional IRA.