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What is a backdoor Roth IRA and how does it work?

A backdoor Roth IRA is a valuable strategy lets high-income earners fund a Roth IRA when they’d otherwise be ineligible, but it may trigger a taxable event.

Roth IRA eligibility is based on income. You need earned income to be eligible to contribute to a Roth IRA, but too high of income and you’re no longer allowed to contribute.

A backdoor Roth IRA is a strategy that lets individuals who exceed Roth IRA income limits fund a Roth. But the tax implications and other downsides might make this strategy unsuitable for some.

What is a backdoor Roth IRA?

Backdoor Roth IRA is another name for Roth conversion, which is the process of converting a traditional IRA to a Roth IRA. It’s dubbed a “backdoor Roth IRA” because the strategy lets individuals who would otherwise be ineligible to contribute to a Roth IRA in through the “backdoor,” bypassing the income limits that normally apply.

Why go through the trouble? Why not just stick with a traditional IRA?

Roth IRAs offer their own unique benefits, such as tax-free growth on your investments and tax-free withdrawals in retirement. There’s also no requirement to withdraw your money when you reach a certain age. To some, these benefits are more valuable than the tax deduction that comes with a traditional IRA. And for high-income earners who aren’t eligible to contribute to a Roth IRA directly, a backdoor Roth IRA is the only way to access these perks.

  • Who it’s for: Anyone can convert a traditional IRA to a Roth IRA, but it’s particularly valuable to high-income earners who can’t fund a Roth IRA directly.
  • What it offers: Access to Roth IRA benefits, including tax-free growth and distributions in retirement and no obligation to withdraw money at a certain age.
  • Why it’s appealing: With tax-free distributions, a backdoor Roth IRA can be a great way to save on taxes if you anticipate being in a higher tax bracket in retirement. You also have the freedom to choose if and when you take withdrawals.
  • What to watch out for: You pay taxes on any untaxed amounts in your traditional IRA that you convert in the year you make the conversion. So, you need enough idle cash on hand to cover your tax bill. The converted amount is also taxed as ordinary income, which can push you into a higher tax bracket. Lastly, a backdoor Roth IRA is permanent, so consult your financial advisor and tax professional to understand the tax consequences before making this move.

Roth IRA income limits

If your modified adjusted gross income (MAGI) is below the eligibility threshold for your tax filing status, you can contribute to a Roth IRA directly. You can kick down the front door, contributions in hand, instead of trying to find your way in through the back.

For 2024, the Internal Revenue Service (IRS) allows married couples filing jointly with a MAGI of less than $240,000 or single filers with a MAGI under $161,000 to contribute directly to a Roth IRA.

If your MAGI is above these limits, a backdoor Roth IRA may be an option to consider.

How to do a backdoor Roth IRA

Here’s how to set up a backdoor Roth IRA conversion:

  1. Contribute to traditional IRA. Fund an existing traditional IRA if you have one, or choose from our list of best IRA accounts of 2024 if you need to open an account.
  2. Convert your funds to a Roth IRA. Contact your IRA provider for the necessary form to complete a Roth conversion. The IRS allows full or partial conversions, and you have 60 days to reinvest the funds into your new Roth IRA and avoid the 10% early-withdrawal tax.

Backdoor Roth IRA taxes and rules

Roth IRAs allow only money that has already been taxed, while traditional IRAs are usually funded with pre-tax, deductible contributions. As a result, you’ll need to pay taxes on any untaxed amounts you convert from your traditional IRA. This is where it can get complicated.

If you have both pre-tax and after-tax money in a traditional IRA, whether in the same or separate accounts, you cannot simply convert only the after-tax dollars. Instead, the IRS takes the aggregate of all your IRAs to determine what percentage of the converted funds is taxable. Enter the pro-rata rule.

The IRS stipulates that if an individual has both pre-tax and after-tax dollars in an IRA (even if you keep them in separate accounts), the distribution must contain a proportional mix of both. For example, say you have a traditional IRA with $25,000 pre-tax, and you fund a separate traditional IRA with a $6,500 non-deductible contribution for the sake of using it as a backdoor Roth IRA. When you convert the $6,500, you may be required to pay tax on 79% of the conversion. That’s because 79% of your aggregated IRA balance is composed of pre-tax funds:

$6,500 after-tax contribution / $31,500 total IRA balance = 21% nontaxable funds, 79% taxable funds.

So if you want to convert the $6,500 via a backdoor Roth IRA, you may be taxed on 79% of it, or $5,135. And these taxes are due when you file your tax return for the year of the conversion.

The biggest mistake people make attempting to make backdoor Roth IRA contributions is not understanding the IRS' Pro-Rata rule. When converting Traditional IRA assets to a Roth IRA, you will owe taxes on the amount of pre-tax dollars you have converted … The tricky part is that the IRS will aggregate all your IRA accounts when determining your tax due on the conversion.

Nate Maxson, CFP

Nate Maxson, CFP
Financial Planner at Truepoint Wealth Counsel

Backdoor Roth IRA vs. mega backdoor Roth IRA

Backdoor Roth and mega backdoor Roth strategies share the same goal: provide a means for high earners to put aside money in a Roth IRA. But they differ in how they’re funded.

Backdoor Roth IRA funds come from the money in a traditional IRA. Individuals using the mega backdoor Roth IRA strategy fund their Roth IRA with money from an employer-sponsored 401(k) or 403(b). It’s called “mega backdoor Roth IRA” because these employer-sponsored accounts have much higher contribution limits than IRAs.

Benefits and drawbacks of a backdoor Roth IRA

Benefits

  • Tax-free growth and withdrawals. Converting your traditional IRA to a Roth IRA requires you to pay taxes on any untaxed amounts you convert, but then you can enjoy tax-free growth on your investments and tax-free withdrawals in retirement.
  • No required minimum distributions. Roth IRAs don’t have required minimum distributions (RMDs) like traditional IRAs and 401(k)s, so you won’t be forced to take distributions at age 73.
  • Penalty-free withdrawals before age 59.5. Because you pay taxes on backdoor Roth IRAs up front, you can withdraw your contributions anytime.
  • No conversion limit. There’s no yearly cap on how much you can convert into a backdoor Roth IRA.

Drawbacks

  • Creates a taxable event. A conversion of untaxed funds triggers a taxable event, since Roth IRAs require after-tax dollars. Taxes are due when you file your return for the year you made the conversion.
  • Can’t tap into earnings for five years. Roth IRAs let you withdraw contributions without penalty before age 59.5, but you must wait at least five years from your first Roth contribution to withdraw earnings tax-free.
  • May not lower your future tax burden. Backdoor Roth IRAs are beneficial if you think you’ll be in a higher tax bracket in retirement. But if your future tax bracket ends up being lower, you may save money by keeping your money in a traditional IRA.
  • Conversion is permanent. Backdoor Roth IRA conversions are permanent, so consult a tax professional or financial adviser before starting one.

Alternatives to a backdoor Roth IRA

If you don’t think a backdoor Roth IRA strategy is the right choice for you, you have other options.

  • Roth 401(k). This is a type of employer-sponsored retirement plan that has the benefits of a Roth IRA. If your employer offers one, you can use it to save after-tax money for retirement.
  • Brokerage account. An individual brokerage account is an investment account that has no contribution limits or withdrawal penalties, but you won’t get the tax benefits of a Roth IRA.
  • Health savings account. Health savings accounts (HSAs) are available to anyone with a high-deductible health plan (HDHP). Contributions are tax-deductible and can be withdrawn tax-free for medical expenses. Once you turn 65, you can use your HSA for anything.

How many Americans have an IRA?

Do you have an IRA?

Backdoor Roth IRAMega backdoor Roth IRA
Funding methodFunds come from a traditional IRAFunds come from a 401(k) or 403(b)

Note: Your employer plan must allow after-tax contributions (different than Roth contributions) and in-service distributions

Contribution limitsContribute up to $7,000 ($8,000 if you’re age 50 or older) to an IRA in 2024Contribute up to $46,000 in after-tax dollars to a 401(k) in 2024
Conversion limitsNo limit on how much you can convert to a Roth IRANo limit on how much you can convert to a Roth IRA
Response% of Americans
I do not have this, but plan on getting it in the next 6 months13%
I do not have this nor plan on getting it56%
I currently have this31%
Source: Finder survey by Qualtrics of 2,033 Americans

IRA’s are a fairly popular retirement savings vehicle in the US, with roughly a third (31%) of American adults say they currently have an IRA.

Bottom line

While anyone can do a Roth IRA conversion as a part of their retirement planning, a backdoor Roth IRA is particularly valuable if you’re a high-income earner who’s ineligible to contribute to a Roth IRA directly. But with the resulting tax implications and permanence of the conversion, it’s best to consult a tax advisor before starting the process.

Frequently asked questions about backdoor Roth IRAs

Is a backdoor Roth still allowed in 2024?

Yes, the backdoor Roth strategy is permissible under current law and recognized by the IRS as a legal strategy for 2024.

Is there any downside to a backdoor Roth IRA?

Yes, there are downsides to a backdoor Roth IRA. Namely, the conversion is permanent and can create a taxable event.

What is the 5-year rule for backdoor Roth IRAs?

The IRS’s 5-year rule stipulates that you must wait at least five years from your first Roth IRA contribution before you can withdraw any of the earnings portion of your account tax-free.

Is it a good idea to do a backdoor Roth IRA?

A backdoor Roth IRA can be beneficial if you earn too much to contribute to a Roth IRA directly or if you’ve decided a Roth IRA better aligns with your retirement strategy.

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