The Nitty-Gritty of the Other IRAs

There are just so many different investment vehicles out there that it’s hard to cover them all in one post.  So here are the other special types of IRAs we couldn’t quite get to in the previous post.  These IRAs could give you additional strategies you can employ for your retirement.

The previous post covers all the different kinds of retirements accounts  (401ks/Roth 401ks, HSAs, SEP IRAs, Simple IRAs, and more) in great detail. You can check it out here. 

In this post we will go over:

• the Backdoor Roth IRA
• the Self-Directed IRA 
• the Spousal IRA
• the Inherited IRA

Some of these will be quite useful to those who make too much money to contribute to a Roth IRA.

What is a Backdoor Roth IRA?

The “Backdoor” Roth IRA represents a strategy used by people whose income makes it impossible for them to contribute to a Roth IRA.  

To accomplish this you set up a traditional IRA and make non-deductible contributions, or contributions that are taxed. Then you can rollover or transfer the money from your traditional IRA into a Roth IRA. 

You can of course take an already established IRA account with deductible contributions and transfer it to a Roth but you will be responsible for paying taxes on the portions you transfer.  

Your taxes would be based on the portion of your IRA accounts that are deductible. 

For example, if 60% of all of your IRA accounts are made up of pre-tax dollars, then no matter which money you transfer, 60% of that amount will be taxed even if you transfer it from your non-deductible IRA account.

Of course, you will still get the 10% penalty if you are under age 59 ½ when you make the transfer.  So be sure to take this into consideration.

Furthermore, the money that you transfer to the Roth is now subject to the 5 year rule, where said money cannot be taken out of the Roth unless you don’t mind the 10% penalty and possible tax consequences.  

Also, any money transferred from a tax advantaged account such as a 401k or traditional IRA will be counted as income in the year the transfer is made.

Be careful as this could push you into a higher tax bracket.  Also, make sure you have enough to cover the taxes for the transfer with your regular income.

Backdoor Roths for FIRE

If you are looking to retire early, this may be the strategy you need to make sure you have stable income in your early retirement.

Five years before your early retirement date you will want start making transfers from your traditional retirement accounts to your Roth.  The transfer amounts should be the yearly amount you will need in retirement.

Do this continuously every year and you will have your income set for you during your early retirement.  If you plan it right, the taxes you would pay would be minimal.

And your withdrawals would be penalty free as long as you wait the required 5 years and only withdraw your contributions and not your earnings.

What is a Self-Directed IRA?

These can be a Roth or a Traditional IRA. But these allow you more options in how you invest your money.  With a self-directed IRA, you can invest in Real Estate, private businesses, and tax liens.

You can even do some options trading in your account.  I would recommend doing this in a self-directed Roth IRA though to avoid the taxes on the additional income.

Self-directed IRAs are a bit more complicated though as you will need a Custodian or a trustee to hold the account.  So you will have to look for a specialized brokerage.  

Also, there are lots of rules and possibly high fees for investing this way so I don’t recommend it for beginners.

What is an Inherited IRA?

If you are inheriting an IRA from your spouse it is pretty easy to just roll it over into your account.  Things start to get a bit more complicated when you are inheriting from a relative who is not your spouse or if there are multiple beneficiaries.

In order to do this, each person must set up a new Inherited IRA account.

In addition, thanks to new legislation that passed last year, from now on, the money in an Inherited IRAs must be completely taken out in 10 years.

There are no specific rules for how to do this so you can take withdrawals as you like but by the tenth year that account needs to be $0. Exceptions to this rule are:

Note: You will owe taxes on inheritance from a traditional IRA. However, for a Roth IRA both contributions and earnings can be tax-free if the account has been open for 5 years or more. If not, the contributions are tax-free but you would have to pay taxes on the earnings. 

What is a Spousal IRA?

The exception to the rule.  Normally, in order to contribute to an IRA you would have to have some form of income.  However, with the Spousal IRA that is not the case.  

You are able to contribute to a traditional or Roth IRA for the non-working spouse up to the usual limit per year of $6,000 or $7,000, if over 50.

One thing though – the combined contributions of the working and non-working spouse cannot be more than the working spouse’s earned income.  Furthermore, you must be married and filing jointly to qualify.

Your contributions are fully deductible if neither you nor your spouse has a retirement plan at work.  But if either of you are covered by a retirement plan at work, the allowable deduction changes. 

See the tables below for details. 

All in All

These other IRAs are definitely not ones to be overlooked.  At some point in the future you may find yourself inheriting an IRA from a loved one or needing to use the Backdoor IRA because your salary has increased.  

Either way, at least now you know about these retirement accounts and can put that knowledge to good use.