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Hello All! First time poster here, and pulsing the community about something new I stumbled across - the "Mega backdoor Roth IRA." The situations where you might employ this technique are quite specific, but let me attempt to explain my understanding and then pose my question: Here is an article summarizing the concept: http://whitecoatinvestor.com/the-mega-backdoor-roth-ira/. Essentially, a Mega Backdoor Roth IRA may allow you to sneak a lot more than the $5,500 IRA/$18K 401(k) limits into a Roth IRA. This requires two key elements: 1. Your employer must allow you to contribute post-tax dollars into your 401(k). This allows you to put up to $53K in your 401(k) annually ($18K split between Roth and Traditional 401(k) dollars and the balance being the after-tax contributions. 2. Your 401(k) plan must allow in-service withdrawals (from my reading, this tends to be more rare). By contributing after-tax dollars to your 401(k) beyond the $18K limit, you could theoretically roll this money out directly into a Vanguard Roth IRA. This greatly increases your contribution limits for Roth IRAs. There is a catch. IRS publication 2014-54 (https://www.irs.gov/Retirement-Plans/Rollovers-of-After-Tax-Contributions-in-Retirement-Plans) states that such rollovers from your 401(k) must take a pro rata share of pre-tax and post-tax dollars. This would subvert the strategy by forcing you into recognizing taxable income on the pre-tax 401(k) dollars. Deal breaker? I'm not sure. Hence my question: (1) Has anyone utilized this "mega backdoor Roth IRA" trick and had success? (2) My Employer's 401(k) plan documents explicitly state that ONLY post-tax dollars may be withdrawn from a 401(k) while employed. So, if my employers plan ONLY allows for post-tax withdrawals, does this supersede the guidance from the IRA publication and allow me to yank the post-tax money and roll into a Roth? Thanks!
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Feb 15, 2016 01:59
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It's a pretty above-board process, seems like you're in a position to do it.
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Feb 15, 2016 16:49
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I have used this for the past few years with my company 401(k) / Roth IRA hosted at Vanguard. As of 2014, you can do it online (key phrase being "in-service distribution to Roth IRA"). I have most of my bonus and 20% of each paycheck go after tax and put in the distribution orders on the Saturday after Friday payday. Tax-wise it looks a little messy if you read the forms but TurboTax was able to handle it fine (there's a "taxable amount" labeled on the conversion 1099R form which should be near 0 in TurboTax once you're done answering questions). The only other issue I've run into with this is that my bonus this year (2016) got stuck in Vanguard's transaction processing queue during in-plan conversion and I'm in the middle of having their adjustment team figure out how to convert it... I would confirm your company allows the "in-service distribution to Roth IRA"; note this is different than the in-plan Roth conversion (401(k) -> Roth 401(k)), standard 401(k) loan, or withdrawal-with-penalty - you should ask your company's benefits team / the 401(k) plan administrator that they allow what you're trying to do. Evil Robot fucked around with this message at 22:51 on Feb 15, 2016 |
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Feb 15, 2016 20:50
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Evil Robot posted:I would confirm your company allows the "in-service Roth distribution"; note this is different than the standard 401(k) loan or withdrawal-with-penalty - you should ask your company's benefits team / the 401(k) plan administrator that they allow what you're trying to do. Thanks for the response! Glad to hear you've been successful with this strategy. My company plan documents don't say anything about "in-service Roth distribution" but the plan allows an in-service after tax distribution. I think this should cover me. However, the guy from benefits said that when I make the 401(k) after-tax withdrawal, they only allow me to roll the earnings (pre-tax) to a traditional IRA and the after-tax contributions come in the mail to me. My goal is to put those right into the Vanguard Roth IRA. How does the actual transaction work for you? When you get the distribution, do you act as the middle-man to get the money to Vanguard?
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Feb 15, 2016 22:06
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tjh5122 posted:Thanks for the response! Glad to hear you've been successful with this strategy. My company plan documents don't say anything about "in-service Roth distribution" but the plan allows an in-service after tax distribution. I think this should cover me. However, the guy from benefits said that when I make the 401(k) after-tax withdrawal, they only allow me to roll the earnings (pre-tax) to a traditional IRA and the after-tax contributions come in the mail to me. My goal is to put those right into the Vanguard Roth IRA. Both my company 401k and Roth IRA are hosted at Vanguard. I simply go through their website to initiate the distribution. There's a "Withdrawal" page that leads to a "Do you want to move after-tax money into Roth IRA?" page and then lets me selet amount of money / investments.
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Feb 15, 2016 22:48
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I'm not really sure how "Mega Backdoor" this is, generally when you're in a position to put 40-50k/yr in a Roth you're above Roth income limits, then again I'm not sure if that counts for rollovers. I've used the backdoor conversion a few times, and it's a great way to funnel more money into Roth above contribution limits, I think I've got about 3x in Roth IRAs than I would have if I just did normal Roth contributions every year. This also has the effect of kicking up your taxable income to ridiculous levels, so if you're not fairly tax-savvy you may want to consult a tax person. Bastard Tetris fucked around with this message at 07:19 on Feb 17, 2016 |
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Feb 17, 2016 07:17
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Bastard Tetris posted:I'm not really sure how "Mega Backdoor" this is, generally when you're in a position to put 40-50k/yr in a Roth you're above Roth income limits, then again I'm not sure if that counts for rollovers. I've used the backdoor conversion a few times, and it's a great way to funnel more money into Roth above contribution limits, I think I've got about 3x in Roth IRAs than I would have if I just did normal Roth contributions every year. Yes, this is generally a strategy to contribute more to your Roth IRA where you're already above Roth income limits, but there is no limit on income for rollovers. No, this has no effect on your taxes (you already have to pay taxes on money whether it goes into your after-tax 401k or your checking account). Evil Robot fucked around with this message at 08:49 on Feb 17, 2016 |
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Feb 17, 2016 08:45
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You're right- I was thinking of doing a conversion of a normal 401k to a Roth, which did trigger a taxable event.
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Feb 17, 2016 22:03
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Is this loophole in any way useful for the scenario where you can't contribute the max 18K to a 401K due to the high earner cap & plan noncompliance? I get 1/3-1/2 of my contributions disbursed back some years due to this and am getting apprehensive about what this means for my total tax-advantaged retirement savings.
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Feb 27, 2016 17:30
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I can do this but I'm not sure if it's worth it. 35k/year is a lot of post-tax money to tie up until I'm 60. Maybe it's worth it even if you take the penalty, but there's no matching for me on the 35k portion at least. At some point I gotta decide how much of my retirement savings should be in taxable accounts simply because I intend to retire early, and I feel like 35k post tax and 18k pre-tax (plus ~7k in HSA and trad IRA) is too heavy on the not-until-60 side.
Jeffrey of YOSPOS fucked around with this message at 17:52 on Feb 27, 2016 |
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Feb 27, 2016 17:49
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Jeffrey of YOSPOS posted:I can do this but I'm not sure if it's worth it. 35k/year is a lot of post-tax money to tie up until I'm 60. Maybe it's worth it even if you take the penalty, but there's no matching for me on the 35k portion at least. At some point I gotta decide how much of my retirement savings should be in taxable accounts simply because I intend to retire early, and I feel like 35k post tax and 18k pre-tax (plus ~7k in HSA and trad IRA) is too heavy on the not-until-60 side. A 72(t) distribution will let you withdraw from a Roth IRA with no penalties. The catch, as far as I understand it, is that the withdrawals have to be equal and regular - you can't start and stop taking money out at will.
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Feb 27, 2016 18:02
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Jeffrey of YOSPOS posted:I can do this but I'm not sure if it's worth it. 35k/year is a lot of post-tax money to tie up until I'm 60. Maybe it's worth it even if you take the penalty, but there's no matching for me on the 35k portion at least. At some point I gotta decide how much of my retirement savings should be in taxable accounts simply because I intend to retire early, and I feel like 35k post tax and 18k pre-tax (plus ~7k in HSA and trad IRA) is too heavy on the not-until-60 side. But wouldn't the 35k post tax get treated like Roth IRA rollover contributions (not earnings), to where you can pull as much as you want from them out of the account with no penalties after a 5 year lockout? At least, I think the 5 year rollover hold applies in this case.
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Feb 28, 2016 19:05
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tjh5122 posted:Hello All! First time poster here, and pulsing the community about something new I stumbled across - the "Mega backdoor Roth IRA." The situations where you might employ this technique are quite specific, but let me attempt to explain my understanding and then pose my question: I just did this in 2015 and prepped my taxes. 1) Yes - so far. I contributed ~$3k to traditional, $15k to Roth 401k, received a ~$4k match and then contributed another ~$30k in post tax non-roth funds. I kept the $30k in a money market fund to avoid any capital gains until when I rolled it over into my Roth IRA. My 1099-R this year had a $30k rollover amount with a single dollar in taxable income. 2) I don't know for sure, but I had a mix of Roth/Traditional/Match in my 401k and I didn't see this anywhere (will update this post in 5 years when I get a nasty note from the IRS).
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Mar 6, 2016 18:59
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tjh5122 posted:(1) Has anyone utilized this "mega backdoor Roth IRA" trick and had success? quote:2) My Employer's 401(k) plan documents explicitly state that ONLY post-tax dollars may be withdrawn from a 401(k) while employed. So, if my employers plan ONLY allows for post-tax withdrawals, does this supersede the guidance from the IRA publication and allow me to yank the post-tax money and roll into a Roth? quote:How does the actual transaction work for you? When you get the distribution, do you act as the middle-man to get the money to Vanguard? 1. Send a cashier's check for the amount to my employer (they allow lump-sum after-tax contributions) 2. My employer sends it to my 401k provider, Fidelity 3. As soon as it appears in my Fidelity account, I call them and request a rollover to Vanguard 4. They mail me a check for the amount, made out to Vanguard 5. I send the check to Vanguard along with my purchase form for my Roth IRA
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Mar 27, 2016 21:59
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At my old company where I was a W-2 employee I was on the 401k committee and worked to get everything necessary for this set up and was able to use the mega backdoor roth until I left. The main roadblock was that our Fidelity rep had no clue what we were talking about so we had to go up the food chain for a bit until we found someone who was very knowledgeable and helped everything get lined up. It still took roughly a year to convince the committee it was a good idea, work our way up, do simulations to assess the risk of failing a test as a result, and actually enable everything. Now its set up and working great and people continue to use it after I left. The main roadblocks are typically getting your 401k committee to understand it and also being able to pass the tests which gets harder w/ this enabled. We had a very high average income and a high contribution % so failing tests as a result wasn't an issue. After leaving that employer, I started my own company (2 owners, no employees). After business took off, I went to the effort of setting up our small business 401k to enable the mega backdoor roth. It took a few weeks and a few hundred dollars, but its a business expense which helps. Here are two blog posts I found very helpful for figuring that out: http://thefinancebuff.com/after-tax-contributions-in-solo-401k.html and http://thefinancebuff.com/executing-mega-backdoor-roth-in-solo-401k.html . My recommendation would be to use a TPA to set everything up and then take over it from there either immediately or after 1 year of having them manage it so you are familiar with the paperwork involved. One note: the 53k limit is per employer not per person unlike the 18k deferral. So while you can only do the 18k pretax deferral once, you can hit the 53k cap in multiple places if you have a side business or change employers or become self employed partway through the year. I strongly recommend taking advantage of this as long as its available. Obama has proposed eliminating this loophole in his last 2 budgets so it might go away at some point.
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Apr 3, 2016 18:06
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Jeffrey of YOSPOS posted:I can do this but I'm not sure if it's worth it. 35k/year is a lot of post-tax money to tie up until I'm 60. Maybe it's worth it even if you take the penalty, but there's no matching for me on the 35k portion at least. At some point I gotta decide how much of my retirement savings should be in taxable accounts simply because I intend to retire early, and I feel like 35k post tax and 18k pre-tax (plus ~7k in HSA and trad IRA) is too heavy on the not-until-60 side. As long as you're not withdrawing post-conversion earnings from a Roth IRA there are very minimal penalties. Withdrawals from a Roth IRA aren't problematic and there's a reason people use Roth ladders to get money out of their pre-tax 401k's before retirement. There are basically four categories of money inside a Roth IRA, and they're all treated differently: 1) Contributions 2) Taxable Conversions (when you convert a pre-tax 401(k) into a Roth IRA, or when you convert earnings in an after-tax traditonal 401(k) into a Roth IRA) 3) Non-taxable conversions (if you roll basis into it from a non-deductible IRA or after-tax 401(k)) 4) Earnings https://www.irs.gov/publications/p590b/ch02.html#en_US_2015_publink1000231071 The short of it is that, unless you are also performing taxable conversions, the money converted through the mega backdoor Roth can be taken out with negligible penalties instantly. Unless you actually need access to the earnings, not just your contributions, before you're 60 then (under the current rules) there's no downside to it. As a quick walkthrough, say you contributed $100 to your after-tax 401(k) and it grew to $110. Then you converted that entire $110 into a Roth IRA. As part of the conversion you pay income tax on that $10 of earnings before the conversion, and that counts as the taxable portion of the conversion. Now if you withdraw that $110 from the Roth IRA (assuming it was empty before you did this), you'd withdraw the $10 first and pay a 10% ($1) penalty on it, then withdraw the $100 tax and penalty free. If you wait five years after that particular conversion from 401(k) to Roth IRA to withdraw it then the $10 would come out penalty free. It's only earnings that you need to be at least 60 (and the Roth IRA at least 5 years old) to withdraw.
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Apr 3, 2016 22:08
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tjh5122 posted:There is a catch. IRS publication 2014-54 (https://www.irs.gov/Retirement-Plans/Rollovers-of-After-Tax-Contributions-in-Retirement-Plans) states that such rollovers from your 401(k) must take a pro rata share of pre-tax and post-tax dollars. This would subvert the strategy by forcing you into recognizing taxable income on the pre-tax 401(k) dollars. Can someone help explain this paragraph from OP to me? Does this "pro rata share" not apply if your employer's 401k keeps separate the after-tax contributions and allows for withdrawal of only the after-tax contribution?
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Apr 3, 2016 22:08
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