What Is a Traditional IRA?

Investing, IRA
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A traditional IRA is an individual retirement account that offers tax advantages to savers. If you contribute to one of these accounts, you not only get to build a much-needed pot of money for retirement, you also get tax perks from the IRS for doing so.

In 2017, the IRA contribution limit is $5,500, or $6,500 if you’re 50 or older.

The traditional IRA tax advantage

It’s not coy to say that the tax treatment of a traditional IRA is, well, traditional. This is the straight-up, plain-vanilla version of an IRA — no twists, no funny business when it comes to taxes:

  • Traditional IRA contributions are deductible in the year they are made
  • The IRS gets its share when you take retirement distributions, which are taxed as ordinary income
  • In the meantime, you get the benefit of tax-deferred investment growth

If you believe your tax rate will go down in retirement — which is often the case for those further along in their careers or at a salary peak — you can save with a traditional IRA by putting off paying taxes until you qualify for the lower rate.

The other kind of tax treatment comes in the form of a Roth IRA, the traditional IRA’s cousin. These accounts reverse the tax benefit of a traditional IRA: There’s no tax deduction when you make contributions, but distributions in retirement are not taxed. That turns tax-deferred growth into tax-free growth, and it’s likely a better choice if you expect your tax rate to go up in retirement rather than down.

» MORE: Read our Roth vs. traditional IRA comparison.

Traditional IRA pro and cons

These accounts have far more benefits than drawbacks. Still, it’s important to note the strengths and weaknesses when comparing traditional IRAs to other savings vehicles:

PROSCONS
  • There are no income limits to open and contribute to a traditional IRA
  • The tax deduction on contributions reduces your adjusted gross income whether or not you itemize deductions on your tax return
  • Tax-deferred growth means any gains you would pay taxes on in a standard brokerage account are pushed down the road
  • You can use traditional IRA money to pay for qualified college expenses without paying an early distribution penalty, although you'll pay taxes on the distribution
  • You can use up to $10,000 from a traditional IRA toward the purchase of your first home (again, you’ll owe taxes on the distribution but no penalty)
  • If you tap the money before age 59½, you’ll pay taxes and a 10% early distribution penalty, unless your withdrawal qualifies as an exception. (Here’s a full list of the traditional IRA early distribution rules.)
  • You must begin taking distributions — called required minimum distributions — at age 70½. (There are no required minimum distributions with Roth IRAs.) Also at 70½, you can no longer make contributions to the account.
  • If you're covered by a retirement plan at work, your ability to deduct IRA contributions may be reduced or eliminated at higher incomes. Read more on this below.

Traditional IRA deduction rules

Everyone is eligible for a traditional IRA. But you may not be able to deduct your contributions if you or your spouse is covered by an employer retirement plan, like a 401(k), and your income passes a certain threshold.

The IRS doesn’t want you to squeeze too much out of the system, so as income climbs, the amount of your traditional IRA contribution that you can deduct is reduced, then eliminated altogether. To be clear, you can still make contributions, but they won’t be tax-deductible.

Traditional IRA deduction limits for 2017

Filing status2017 modified AGITax deduction
Married filing jointly or qualifying widow or widower
  • If you're covered by a workplace retirement plan: Less than $99,000

  • If your spouse is covered: Less than $186,000
Full deduction up to contribution limit
  • If you're covered by a workplace retirement plan: Between $99,000 and $118,999

  • If your spouse is covered: Between $186,000 and $195,999
Partial deduction
  • If you're covered by a workplace retirement plan: $119,000 or more

  • If your spouse is covered: $196,000 or more
No deduction
Single or head of household$62,000 or lessFull deduction up to contribution limit
More than $62,000 but less than $72,000Partial deduction
$72,000 or moreNo deduction
Married filing separatelyIf you or your spouse is covered by a workplace retirement plan: Less than $10,000Partial deduction
If you or your spouse is covered: $10,000 or moreNo deduction

If you fall into the phase-out range, contribute as much as you’re eligible to deduct. If your income revokes your invitation to the deduction party completely, reevaluate your options.

Nondeductible IRA contributions can still be valuable: Money saved for retirement is money saved for retirement, and this money will still generate investment growth tax-deferred. But this can also be a headache: You are responsible for keeping track of after-tax contributions by filing IRS Form 8606 each year, so you’re not taxed again on that money when you take retirement distributions.

In short, there are better options you should max out before going down the nondeductible IRA road. They are:

  1. A Roth IRA, if you’re eligible. These accounts have income eligibility rules, but they are higher than the limits to deduct traditional IRA contributions. (Here’s more on Roth income limits.)
  2. Your employer retirement plan. You should max that out before making nondeductible IRA contributions.

If, after exhausting both of those options, you still want to consider nondeductible IRA contributions, consult an accountant before proceeding.

How to open a traditional IRA

Many financial services companies offer traditional IRAs, including online brokers, robo-advisors and banks.

When choosing a provider, look for low or no account fees; a large selection of low-cost, no-transaction-fee mutual funds and commission-free exchange-traded funds; and quality customer service. You can open the account online, so be ready with general information — Social Security number, birthday, contact information and employer details.

A traditional IRA isn’t an investment, but an investment account. Once you deposit money into your account, you’ll select from investments accessible through that provider, including stocks, bonds and mutual funds. After opening an account, it’s worth taking the time to learn how to invest in your IRA.

» See our recommendations: The best IRA providers

Arielle O’Shea is a staff writer at NerdWallet, a personal finance website. Email: aoshea@nerdwallet.com. Twitter: @arioshea.