If you make a traditional IRA contribution before doing your tax for the year hoping you can deduct the contribution, but only to find your income is too high to deduct the contribution, you will want to remove non-deductible contributions from the Traditional IRA and invest the money in a taxable account for the following reasons:
- Non-deductible traditional IRA contribution is hard to track, especially you’re far from retirement age;
- Invest earnings will be taxed at income rate, which is usually higher than long-term capital gain;
- Traditional IRA contribution is hard to withdraw before retirement age without taking penalty. Investing in a taxable account provides the freedom of using the money elsewhere.
Not everyone in your IRA’s custodian knows how to remove contributions without penalty, so this is the homework I’ve done before talking to a customer representative. I had to show him the IRA Publication before he forwarded me to the right department and showed me the paperwork I had to fill out to get it done.
The following are stated in IRA Publication 590A, Contributions to Individual Retirement Arrangements (IRAs). My traditional IRA is with TDAmeritrade, and I had the brokerage firm to calculate the amount to withdrawal. If your contribution is fully invested, the amount to withdraw can fluctuate with market. To avoid unnecessary commission expense, I recommend you sell all or enough investments so that the amount of cash available for withdrawal can cope with any market movement, and buy back securities with the cash left over after the withdrawal is completed.
Contributions Returned Before Due Date of Return
If you made IRA contributions in 2016, you can withdraw them tax free by the due date of your return. If you have an extension of time to file your return, you can withdraw them tax free by the extended due date. You can do this if, for each contribution you withdraw, both of the following conditions apply.
- You did not take a deduction for the contribution.
- You withdraw any interest or other income earned on the contribution. You can take into account any loss on the contribution while it was in the IRA when calculating the amount that must be withdrawn. If there was a loss, the net income earned on the contribution may be a negative amount.
If you timely filed your 2016 tax return without withdrawing a contribution that you made in 2016, you can still have the contribution returned to you within 6 months of the due date of your 2016 tax return, excluding extensions. If you do, file an amended return with “Filed pursuant to section 301.9100-2” written at the top. Report any related earnings on the amended return and include an explanation of the withdrawal. Make any other necessary changes on the amended return (for example, if you reported the contributions as excess contributions on your original return, include an amended Form 5329 reflecting that the withdrawn contributions are no longer treated as having been contributed).
In most cases, the net income you must withdraw is determined by the IRA trustee or custodian. If you need to determine the applicable net income on IRA contributions made after 2016 that are returned to you, useWorksheet 1-4 later. See Regulations section 1.408-11 for more information.