A non-deductible IRA is a retirement savings account to which you contribute money after taxes, but which allows you to increase your retirement money tax-free until the profits are withdrawn. Any money that contributes to a traditional IRA and that you don't deduct on your tax return is a “non-deductible contribution.” You must still declare these contributions on your return, and to do so, you must use Form 8606.In a clandestine Roth, investors make a non-deductible contribution to a traditional IRA and then quickly convert it to a Roth IRA. Once the money is in a Roth IRA, it's tax-free when you withdraw it (if you meet the age and retention period requirements). This strategy only works if you don't have any other traditional IRA.
Otherwise, the apportionment rule applies. If you still want to keep non-deductible IRA contributions without converting them immediately, you should keep that cash separate from any IRA that has pre-tax contributions, O'Mara said. You can use a non-deductible IRA to enjoy the growth of a tax-deferred investment if you can't take advantage of the deductibility of a traditional IRA. In a Roth conversion, pre-tax IRA dollars are taxable income for the year, converting the money into Roth dollars.
Contributing to a non-deductible IRA on the way to a clandestine conversion to Roth could be a great way to protect some or all of your retirement savings from taxes. However, most commonly, higher-income workers access financial advisors' favorite retirement account, the Roth IRA. If your income excludes you from the Roth option, you can simply contribute to a non-deductible IRA and then convert it to a Roth IRA. For example, since you've already paid income taxes on this money, you can usually convert it into a Roth IRA where profits increase without paying taxes.
It also suggests studying a multi-year conversion strategy, moving only part of it to a Roth IRA each year. For many people, especially those with higher incomes, a non-deductible IRA is just a stop on the road to converting those funds into a Roth IRA, using a “clandestine” Roth IRA. At the same time, income restrictions may prevent direct contributions to the other major type of IRA, the Roth IRA.