KEY TAKEAWAYS
If you’ve been told for years that you make too much money to contribute to a Roth IRA, there is a perfectly legal little loophole that will allow you to contribute to your Roth through what’s called a backdoor Roth IRA contribution. Mind blown!
In today’s video, I’m sneaking you in the backdoor and we’re talking about:
- How you can take advantage of the backdoor Roth IRA strategy, even if your income is over the threshold.
- How the Mega Backdoor Roth can get even more money into your Roth.
- Who is best suited to take advantage of the backdoor Roth IRA & Mega Backdoor Roth.
Click here to watch the full video or read the full video transcript, below.
How To Use The Mega Backdoor Roth
Most people mistakenly believe that if your income is higher than the threshold, that the Roth IRA is a no-go. But that’s not true! There is a perfectly legal way for you to still contribute up to $7,000 to a Roth IRA in 2020 if you’re over 50, regardless of your income.
If you make more than $124,000 in 2020 and you’re single, or if you’re married, filing jointly and your income is over $196,000 this year, I want you to pay close attention because you can still make a Roth IRA contribution. There is a little-known strategy called the backdoor Roth, that will still allow you to put money into your Roth this year.
How The Backdoor Strategy Works
You make a non-deductible or after-tax IRA contribution to your traditional IRA. There aren’t income limits on conversions from a traditional IRA to a Roth IRA, so you can then turn around and convert that contribution to a Roth. Take that Uncle Sam!
Two important things I need to point out here, and it’s important that you understand this, because there are a couple of circumstances where you could still owe a substantial amount of taxes by using the backdoor Roth:
Pro rata rule – when you report the Roth conversion on your taxes, you’ll also need to include the total value of your IRA accounts, like SEP IRAs and traditional IRAs, because this total value of existing IRA assets that you have is used to calculate the taxes on the amount you convert. Keep in mind that 401k balances aren’t included in this.
The bottom line here is that if you have a lot of money in tax-deferred IRA accounts, you could be faced with a tax bill on the amount you convert to a Roth. Be sure to run this strategy by your tax advisor before you pull the trigger, so they can estimate what that tax hit might be for you.
Taxes on gains – if you invest the money you contribute to your IRA before converting it to a Roth and it grows in value, you could also pay capital gains taxes on the amount you convert. You may want to consider just leaving any IRA contributions in cash before you convert to the Roth to keep any gains to a minimum.
Is The Backdoor Roth Strategy Right For You?
Now with all of this in mind, who should consider the backdoor Roth strategy? The backdoor Roth is something to seriously look at if you can check these 3 boxes:
- You don’t have access to a Roth through your 401k plan
- You make too much money to qualify for a Roth IRA contribution this year
- Your pre-tax IRA account balances are low. This is important because you could owe taxes on the amount you convert to a Roth, if you already have a lot of money socked away in an IRA account.
The Mega Backdoor Roth Strategy
If you can check all three boxes, let me introduce and explain the Mega Backdoor Roth strategy. It’s like the backdoor Roth, on steroids! You can only convert $7,000 to your Roth in 2020 using the backdoor Roth strategy. However, with the Mega Backdoor Roth, you can save up to $62,000 in a Roth in 2019!
Here’s how it works: Through your 401k plan, you can contribute up to your maximum of $26,000 in 2020 if you’re over 50. In addition to that, if your employer does not provide any matching contributions nor profit-sharing, you could contribute up to an extra $37,500 on an after-tax basis to your 401(k). From there, if your plan allows, you can then rollover the full $63,500 into a Roth.
The stars need to align for you to take advantage of the Mega Backdoor Roth, and your 401k plan needs to have all the right features and language written into the plan document.
Who Is Ideal For The Mega Backdoor Roth Strategy?
This strategy works great if your plan has the features mentioned above. It also works best:
- For small business owners who have a say in the design of their 401k plan.
- For entrepreneurs where it’s just you, because it’s much easier to put this type of plan in place.
- When you don’t have matching contributions attached to your plan. This can be nearly impossible if you have employees. It’s harder to get your contribution amounts up to that maximum amount that you can then roll to your Roth.
So what do you think? Is the backdoor Roth or the Mega Backdoor Roth a strategy that will help you? Hopefully after watching this video you are better able to answer that question.
