Backdoor Roth Conversions

Due to their income limits, Roth IRAs might seem like they are not a viable option for higher earners seeking to minimize the income taxes they will need to pay in retirement. Fortunately, there’s a reasonable solution. Roth IRA’s have become a popular method of preserving retirement income because investors in them pre-pay the income tax on them, and the funds are then allowed to grow tax free. Since you’ve already paid taxed on them, you don’t have to take Required Minimum Distributions and you can withdraw without penalty after five years. But, they do have limitations. For 2021, if your modified adjusted gross income (MAGI) is higher than $140,000 if you’re single ($139,000 for 2020) or $208,000 if you’re married filing jointly ($206,000 for 2020) or a qualifying widow or widower, you can’t contribute directly to a Roth IRA. You can, however, open a Roth IRA through a “backdoor”, which sounds somewhat unseemly but it’s perfectly legal. You don’t dodge the taxes, you pay them upfront. The “backdoor” option requires you to first invest in a traditional IRA and then roll the funds over into the Roth. You will pay taxes on the funds you roll over, but you won’t have to pay them when you withdraw from the Roth. You can rollover all or part of your traditional IRA because you won’t have to worry about contributions limits either. For 2020 and 2021, you can contribute $6,000 each year ($7,000, if you are age 50 or over) to a Roth IRA. With a backdoor Roth IRA conversion, these limits don’t apply. One thing to consider when you weigh your IRA rollover options, though, is that those funds will count as income and may kick you into a higher tax bracket for the year in which you convert them. If you think a Roth IRA might be a good option for you, it is a good idea to sit… | Read More »