Roth IRA ‘Backdoor’ Strategies

“Backdoor” strategies let you enjoy the benefits of a Roth while getting around some of the limitations.

For people looking to build a balanced retirement savings portfolio, a Roth IRA can serve as a great companion to an employer plan such as a 401(k). But if you earn too much money, you may not qualify to invest fully – or at all – in a Roth IRA. And no matter how much you earn, you may find that contribution limits prevent you from building as fat a fund as you’d like.

Fortunately, there are “backdoor” strategies that may help you get around these limitations. Here’s what you need to know.

The following discussion only applies to U.S. resident taxpayers. Canadian tax residents should not attempt a conversion to a Roth IRA.

Backdoor Roth IRA

Once your 2024 modified adjusted gross income (MAGI) tops $161,000 for single filers or $240,000 if married and filing jointly, the IRS begins phasing out your ability to invest directly in a Roth IRA.

But you can contribute after-tax dollars to a traditional IRA, then shortly thereafter convert those funds to a Roth IRA. Because there are no income limits restricting your ability to put after-tax dollars in a regular IRA, you can use this backdoor strategy to build a Roth IRA no matter how much you earn.

If you own any IRAs with any pretax dollars in them, the transaction will trigger a taxable income inclusion. The calculations are complicated, but it all boils down to two IRS rules (the pro rata rule and the aggregation rule). Consulting your financial advisor and tax professional prior to doing a backdoor Roth is a smart move, to ensure that you’re following every rule.

Mega backdoor Roth IRA

If your problem is not how much you earn but the size of contribution limits, there’s a mega backdoor strategy that could help boost your savings.

For 2024, the limits on how much you can contribute to an IRA are $7,000, or $8,000 if you’re over 50 by the end of the year. A mega backdoor strategy may empower you to put away much more than that.

Your current employer must offer a 401(k) or 403(b) plan, and you must pay into it. Whichever of those plans you use must also allow employees to make after-tax contributions into the plan, which count above and beyond employee elective deferral limits.

This is simplest to achieve if your employer offers a Roth option attached to its retirement plans, one that supports in-plan conversions to the Roth – that’s your mega backdoor to a bigger retirement fund.

There are plan-specific limits on how much you may contribute in after-tax dollars to convert into the Roth, and other rules affecting whether you can apply a backdoor strategy and how big a fund you can build. Again, a chat with your financial and tax advisors is an essential step in any backdoor plan.

Pros of backdoor Roth IRAs:

• You may still be able to fund a Roth IRA even if your income is above IRS limits.
• If you have access to an employer plan with a Roth feature, you may be able to save more than the usual IRA limits.
• Because the money going into the Roth has already been taxed, you can take tax-free distributions in retirement.

Cons of backdoor Roth IRAs:

• Not everyone will be eligible to apply a backdoor or mega backdoor approach.
• Typically, only high earners benefit.
• Both require careful planning with a tax professional.

Are you looking for tax-free growth, retirement income strategies and first-class investment management? Let Plena Wealth Advisors help transfer, manage and invest your retirement accounts. Please contact us today.

Raymond James does not provide tax or legal services. Please discuss these matters with the appropriate professional. Unless certain criteria are met, Roth IRA owners must be 59 1/2 or older and have held the IRA for five years before tax-free withdrawals are permitted. Additionally, each converted amount may be subject to its own five-year holding period. Converting a traditional IRA into a Roth IRA has tax implications. Investors should consult a tax advisor before deciding to do a conversion.

Information in this article is from sources believed to be reliable; however, we cannot represent that it is accurate or complete. It is provided as a general source of information and should not be considered personal investment advice or solicitation to buy or sell securities. Raymond James advisors are not tax advisors and we recommend that clients seek independent advice from a professional advisor on tax-related matters. The views are those of Plena Wealth Advisors, and not necessarily those of Raymond James Ltd. Investors considering any investment should consult with their Investment Advisor to ensure that it is suitable for the investor’s circumstances and risk tolerance before making any investment decision. Raymond James Ltd. is a Member Canadian Investor Protection Fund.

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