Table of Contents
What is a mega backdoor Roth?
How a mega backdoor Roth conversion works
Alternatives to mega backdoor Roth IRA
The bottom line
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Sep 12, 2022
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5 min read
If an individual investor is a high earner with a retirement plan, in-service withdrawals, and able to supersize the contributions, then the mega Roth is worth exploring.
The mega backdoor Roth is a complex strategy for getting around tax rules that preclude high-income earners from accessing the benefits of a Roth account. It’s called mega because it allows much higher contributions than common backdoor Roth IRA conversions. While the mega Roth backdoor is currently allowed, it could be eliminated under the Build Back Better bill.
A mega backdoor Roth conversion uses a loophole that allows high-income earners to roll over funds from traditional IRAs and retirement plans into a Roth account, either a Roth IRA or Roth 401(k). Once the money is in a Roth, distributions taken in retirement—including earnings on original contributions—are tax free.
Knowing how to open the mega backdoor requires a firm grasp of Roth conversion rules and what makes the mega type distinctive from other backdoor methods.
Basic Roth IRA rules
. Roth IRAs were originally intended to encourage middle-income earners to save for retirement. The following rules apply:
The basic backdoor conversion strategy.
Thebackdoor to Roth IRAs cracked open in 2010, when the IRS lifted income restrictions on doing conversions between retirement accounts. The following changes were adopted:
The mega backdoor uses a different key to get in—401(k) plans. Some 401(k) plans allow employees to add after-tax contributions. The individual can roll over those funds into a Roth IRA or Roth 401(k)—that’s a lot more money than can be contributed directly to an IRA. Keep in mind, not all 401(k) plans permit this.
The mega backdoor Roth 2022 conversion strategy typically uses a 401(k) plan as the starting point. But first, savers must verify if they even qualify to open the mega backdoor. Qualifications include:
. Or if self-employed, you have a Solo 401(k) plan.
. Not all 401(k) plans allow them.
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Retirement Analyzer. In-service means withdrawals are allowed while the saver is employed rather than retired. Not all plans permit this.
The ultimate limit one can save in a workplace 401(k) for 2022 is $61,000 or $67,500 for over age 50. How much of that can be an after-tax contribution? This number varies based on an individual’s situation. Here’s how to determine it:
Let’s assume an individual already has a Roth IRA or Roth 401(k). They would then need to do the following steps:
. The limit would be pretax contributions of $20,500 (or $27,000 for those over 50 years old).
. There are limits on how much you can contribute, depending on what the 401(k) allows and whether the employer matches contributions.
. The 401(k) plan administrator would facilitate this. The IRS permits savers to split the withdrawal, sending only the after-tax contributions to the Roth IRA, while sending the investment earnings to a traditional IRA on a tax-deferred basis.
. Once the money is in a Roth, it can grow tax-free.
The mega backdoor Roth isn’t for everyone. Several conditions must be met to make it happen. If those conditions don’t apply, there are other Roth strategies to consider.
Mega Roth backdoor conversions are harder to navigate than regular backdoor IRA conversions from IRAs or other retirement accounts. If the individual investor is a high earner with a retirement plan that allows after-tax contributions and in-service withdrawals and has enough extra cash to supersize the contributions, then the mega Roth could be worth exploring.
FYI: Try Titan’s free Roth IRA Calculator to project how much your Roth IRA will give you in retirement.
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