Should I forego a backdoor Roth IRA?

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gowest
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Should I forego a backdoor Roth IRA?

Post by gowest » Tue Oct 03, 2017 2:45 pm

Hi Bogleheads!

It has been years since I've posted or spent much time on this forum. Set and forget it, with periodic rebalancing, has worked fine and dandy thank you all very much (truly, sincerely). But now I have a question. My wife and I both have traditional IRAs at Vanguard, and I am just now learning about back door Roth IRAs. The question is whether to implement a back door Roth.

My tIRA balance is about $650k, and it includes nondeductible contributions, some deductible contributions, and a 401k rollover (in 2009). Approximately $33k is from tIRA contributions (a small part of which was deductible, but I'd have to pour through old tax returns to figure out how much), plus whatever growth I have had on those $33k in contributions. The remainder is from the 401k rollover and whatever growth I've had on that.

My wife's tIRA is just over $100k and is comprised of nondeductible contributions, some deductible contributions, and a Simple IRA rollover (in 2007). Like mine, her tIRA was formed from $33k in contributions, plus growth, and the remainder is from the rollover, plus its growth.

I have not contributed to these IRAs (for a myriad of reasons) since 2012. We are not eligible for Roth IRAs. My wife no longer works. From reading articles frequently posted in this forum (e.g., https://thefinancebuff.com/the-backdoor ... ow-to.html), it sounds like I would want to try to rollover my IRA into my current 401k, if possible, leaving only the contributions and growth, and then implement the back door Roth on the remainder. I'm not certain I have that right, but even if I do, here are some challenges I see:

(1) My 401k is a Roth 401k, not a "regular" 401k. (And I am not certain whether the plan accepts rollovers, but I could find out.)
(2) My wife no longer works, and so she does not have a 401k. It is beyond my level of interest to try to figure out a solo 401k for her.
(3) I have no idea what portions of our regular contributions (made in the 2002-2008 timeframe) were deductible versus nondeductible (I would need to farm through our tax returns), nor do I have any idea what the earnings have been. Everything is commingled, including the 401k rollover (for me) and Simple IRA rollover (for her).
(4) The length of time since I made the contributions suggests there has probably been a lot of growth on them, meaning there would probably be a lot of tax due for a back door Roth.
(5) The amounts ($33k plus growth in each account) is relatively small compared to our overall portfolio, and especially so compared to what I intend for that portfolio to be. I received a promotion last year that basically doubled my already very good income, and I expect to invest upwards of $200k per year going forward.

Sooooooo ... I am thinking of just leaving the tIRAs as they currently are. We max my Roth 401k, I have "profit sharing" and "cash balance" annual contributions of about $40k, and we are starting to contribute to a taxable account ($100k+ per year, starting next January when I get 2/3rds of my annual income). I will also add about $30k-$50k toward my mortgage each year, in an effort to eliminate it early. (It's a 30 year fixed, but I accelerate it on my own.)

A quick aside regarding my Roth 401k: I have always had mixed feelings about having a Roth version of a 401k since we are in the highest tax bracket. But I did a Roth just for the sake of "tax diversification," since you never know what may happen, and we don't otherwise have Roth-type tax treatment, and the 401k amount is fairly small compared to the overall portfolio. Happy to listen to input here, since I suspect "Roth 401k" and "highest tax bracket" don't typically go together. Ha! Again, I did it for tax diversification -- having different money treated differently with respect to taxes.

Here is the additional info requested by the "how to ask questions" post:

Emergency fund: Yes, fully met.
Debt: $450k mortgage balance at 4.0% fixed rate. At least that much (probably more) in equity in the home. No other debt.
Tax filing status: Married filing jointly. Two kids, 10 and 8.
Tax rate: top brackets (starting this year); just under the top brackets the few years prior. Lower brackets the years prior to that.
State of residence: NC
Age: 43/41
Asset Allocation: 3-fund portfolio across the accounts (collectively) with 50% total stock market (VTSAX), 30% total international (VTIAX), and 20% total bond market (VBTLX). About $1.2M in that AA, all of which is in tax-advantaged accounts. Plus an additional $80k in a cash balance plan (a tax-advantaged plan). Emergency fund is held separately (Ally savings). I get about 2/3rds of my income in January, and we plan to put about $100k toward college savings in an efficient taxable account (same funds, except keeping bonds in the tax-advantaged accounts). I am not planning to do a 529 for a variety of (intentional) reasons.

Back to my main question: What should I do, or not do, with our tIRAs? Back door Roths? Skip it?

Thank you all very much.

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flamesabers
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Re: Should I forego a backdoor Roth IRA?

Post by flamesabers » Tue Oct 03, 2017 4:51 pm

I would recommend finding out the details on what your plan will accept and not accept in regards to rollovers. If your plan accepts rollovers from traditional IRAs, it doesn't matter if all of your contributions to your 401k have been Roth contributions. Your plan administrator will keep track of your traditional and Roth amounts separately. Perhaps the biggest potential obstacle is your 401k plan may not accept rollovers from traditional IRAs that have non-deductible contributions.

Even if it's not practical to do a backdoor Roth IRA, I think it's still a good idea to review your past tax returns and identity what were the deductible and non-deductible contributions. The reason I say this is it will help to reduce your tax liabilities when you and your spouse start withdrawing from your IRAs. You wouldn't want to get double-taxed on your non-deductible contributions! :oops:

ThriftyPhD
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Re: Should I forego a backdoor Roth IRA?

Post by ThriftyPhD » Tue Oct 03, 2017 5:01 pm

If your 401k allows after tax contributions and in service non hardship withdrawals or conversions, you could do a Mega Backdoor Roth https://www.bogleheads.org/wiki/After-tax_401(k)

It would avoid the pro rata rule on your IRAs, and also allow you to contribute more.

Spirit Rider
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Re: Should I forego a backdoor Roth IRA?

Post by Spirit Rider » Tue Oct 03, 2017 5:15 pm

gowest wrote:
Tue Oct 03, 2017 2:45 pm
(1) My 401k is a Roth 401k, not a "regular" 401k. (And I am not certain whether the plan accepts rollovers, but I could find out.)
(2) My wife no longer works, and so she does not have a 401k. It is beyond my level of interest to try to figure out a solo 401k for her.
(3) I have no idea what portions of our regular contributions (made in the 2002-2008 timeframe) were deductible versus nondeductible (I would need to farm through our tax returns), nor do I have any idea what the earnings have been. Everything is commingled, including the 401k rollover (for me) and Simple IRA rollover (for her).
(4) The length of time since I made the contributions suggests there has probably been a lot of growth on them, meaning there would probably be a lot of tax due for a back door Roth.
(5) The amounts ($33k plus growth in each account) is relatively small compared to our overall portfolio, and especially so compared to what I intend for that portfolio to be. I received a promotion last year that basically doubled my already very good income, and I expect to invest upwards of $200k per year going forward.
  1. While Roth designated 401k accounts are optional for the plan, whether you only made Roth 401k contributions or not, a plan must have traditional 401k accounts available. Whether they accept rollovers is a another question.
  2. Reasonable position.
  3. You do not need to figure out what what the traditional (pre-tax) contributions, pre-tax rollover amounts, or earnings are. The only thing you need to determine is what is your non-deductible basis, the remainder is all pre-tax. That should be reflected in the 8086 for the last year you made non-deductible contributions.
  4. For it to be considered a Backdoor Roth, there needs to little to no pre-tax IRA balances. You need to either roll the pre-tax IRA balances into an employer plan or your really just have a pro-rata Roth conversion with the majority of any conversion being taxable.
  5. Only you can really judge whether the effort to get your current non-deductible balances and future Backdoor Roths are worth it.

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Earl Lemongrab
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Re: Should I forego a backdoor Roth IRA?

Post by Earl Lemongrab » Tue Oct 03, 2017 5:40 pm

To emphasize, have you filed form 8606 for any non-deductible contributions? If not, you need to do that regardless of any other actions. Otherwise you'll pay tax on those again.
This week's fortune cookie: "Your financial life will be secure and beneficial." So I got that going for me, which is nice.

gowest
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Re: Should I forego a backdoor Roth IRA?

Post by gowest » Wed Oct 04, 2017 8:32 am

These replies are very helpful. Thank you.

We definitely filed our Form 8606 each year to track deductible vs. nondeductible contributions. I just haven't gone back through my returns to see how this breaks down for each year. I certainly can do this.

I am reviewing the information provided by ThriftyPhD regarding a Mega Backdoor Roth. My employer's Retirement Plan (run by Wells Fargo as the plan administrator) actually includes multiple components, and I don't know if they fall under the heightened contribution limits described by the Mega Backdoor wiki. Under my employer's Retirement Plan, I actually contribute $18k to my Roth IRA, and then I also contribute an additional $30k as "profit sharing" (pre-tax contributions) and an additional $9,333 to a "cash balance" plan (pre-tax contributions). Thus, I am contributing $57,333 per year, split among various "buckets" in that plan. I don't know what rules or regulations permit this, so maybe it's totally unrelated to the higher contribution limits referenced in the Mega Backdoor wiki.

It sounds like trying to do a backdoor Roth (and Mega variant) would be somewhat complicated, and then at the end (if I did the backdoor approach), I would have a complicated mess of different things being treated differently for tax purposes. For example, for my tIRA, part of the money would be rolled over into my employer's Retirement Plan (if that's even available), which already has several "buckets" in it (see above), and part of the money would be left behind and converted. Then, in my wife's tIRA, none of the money would be rolled over into a 401k (since she doesn't have one, and a solo 401k isn't feasible), and so I can't/won't do a backdoor Roth for her. Moreover, that would leave our two tIRAs being "different," which is not my preference. (Right now, they are the same as far as types of contributions and tax treatment.)

So I am thinking I'll just skip the Backdoor Roths. Instead, I think I will:

(1) continue to max my Roth 401k and make my (mandatory) profit sharing and cash balance contributions, all of which occur in the Retirement Plan.
(2) skip further contributions to my tIRA and to my wife's tIRA, and just let those grow as-is.
(3) focus on making substantial contributions to the taxable account (3-fund portfolio, but shifting the bond allocation to the tax-advantaged accounts).
(4) focus on building up the college savings in the taxable account (using the same 3-fund portfolio, but some of it will be "earmarked" in my financial notes as being designated for college, with a more conservative AA).
(5) continue to whittle down my mortgage until it's gone.

Thoughts on this plan? Thank you all again, very much.

Edits: fixing typos and trying to improve clarity.

JW-Retired
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Re: Should I forego a backdoor Roth IRA?

Post by JW-Retired » Wed Oct 04, 2017 9:51 am

My wife has made non-deductible contributions to her IRA and is taking RMDs now. The tax bother is as trivial as adding one more 1099.

Since you filed 8606 forms every year that you contributed non-deductible money, your "basis" is just the sum of all those contributions. So you ought to be able to easily determine it. It won't change until you make more such contributions or take withdrawals. Earnings are all taxable and are taxed pro-rata per the 8606 calculation when you withdraw any money or add more. There is not any issue of being double taxed or significant paper work when you ultimately do need to take withdrawals. Once your tax software is started up with the correct amount of non-deductible money versus deductible money, the software will keep track of everything year over year. It's just one more form in your tax return.

IMO, since your IRA is already polluted with non-deductible contributions, even if you could be stuck with this I would just keep on making these contributions. It will build up your IRA assets and won't cause any additional trouble. If you can separate the basis out to a Roth by rolling the rest to a 401k at some point down the road that's fine. If not, it won't be a problem anyway.
JW
Retired at Last

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Epsilon Delta
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Re: Should I forego a backdoor Roth IRA?

Post by Epsilon Delta » Wed Oct 04, 2017 10:59 am

JW-Retired wrote:
Wed Oct 04, 2017 9:51 am
Since you filed 8606 forms every year that you contributed non-deductible money, your "basis" is just the sum of all those contributions.
And the sum of all those contributions should be found on the most recent 8606 filed, no further math or older records needed.

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neurosphere
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Re: Should I forego a backdoor Roth IRA?

Post by neurosphere » Wed Oct 04, 2017 11:43 am

gowest wrote:
Tue Oct 03, 2017 2:45 pm
Tax rate: top brackets (starting this year); just under the top brackets the few years prior. Lower brackets the years prior to that.
Are you sure that contributing to the Roth 401k (vs a deductible/regular 401k) is what you want to be doing, now that you are in the top tax brackets?
-- Real name: Sotirios Keros. If you have to ask "Is a Target Retirement fund right for me?", the answer is yes.

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TomatoTomahto
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Re: Should I forego a backdoor Roth IRA?

Post by TomatoTomahto » Wed Oct 04, 2017 12:21 pm

neurosphere wrote:
Wed Oct 04, 2017 11:43 am
gowest wrote:
Tue Oct 03, 2017 2:45 pm
Tax rate: top brackets (starting this year); just under the top brackets the few years prior. Lower brackets the years prior to that.
Are you sure that contributing to the Roth 401k (vs a deductible/regular 401k) is what you want to be doing, now that you are in the top tax brackets?
I love me a good Roth as much as anyone, but at the upper brackets, it just makes no sense. Go traditional, and invest the tax savings. Taxable isn't as good as a Roth, but it's darned close.

ETA: a backdoor Roth, if you can do it without tax on existing tIRA, still makes sense.

gowest
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Re: Should I forego a backdoor Roth IRA?

Post by gowest » Wed Oct 04, 2017 1:03 pm

JW-Retired wrote:
Wed Oct 04, 2017 9:51 am
IMO, since your IRA is already polluted with non-deductible contributions, even if you could be stuck with this I would just keep on making these contributions. It will build up your IRA assets and won't cause any additional trouble.
It seems to me that investing in my taxable account would be better than making further non-deductible contributions to the tIRAs. For example: viewtopic.php?t=197413 The LTCG rate is preferable to the ordinary income rates for withdrawals. Also, and more accurately (since tax rates may change), I want to be diversified with respect to tax treatment, and most of my savings right now are in tax-advantaged accounts where withdrawals will be taxed at ordinary income rates.
TomatoTomahto wrote:
Wed Oct 04, 2017 12:21 pm
neurosphere wrote:
Wed Oct 04, 2017 11:43 am
gowest wrote:
Tue Oct 03, 2017 2:45 pm
Tax rate: top brackets (starting this year); just under the top brackets the few years prior. Lower brackets the years prior to that.
Are you sure that contributing to the Roth 401k (vs a deductible/regular 401k) is what you want to be doing, now that you are in the top tax brackets?
I love me a good Roth as much as anyone, but at the upper brackets, it just makes no sense. Go traditional, and invest the tax savings. Taxable isn't as good as a Roth, but it's darned close.
Speaking of my desire to be diversified with respect to tax treatment, that is the main reason I have a Roth 401k while being in the top tax bracket. Even though it is expensive now, (#1) I don't really notice the "expense" since it is hidden in my monthly income and associated taxes, meaning I don't actually "see" the money ever; (#2) it gives me comfort to know that I have some money that will be tax-free on withdrawals, since I don't otherwise have such tax treatment; (#3) I don't actually know where tax rates will be when I retire in 20 years, so they could be higher (probably not, but who really knows); and (#4) the annual contribution to the Roth 401k ($18k) is small compared to overall annual savings.

Am I off my rocker? When I really studied the Boglehead philosophy a number of years ago (and read about 7 or 8 of the books on the "must read" list), I learned about tax diversification in a similar vein to investment diversification. I welcome further thoughts on this.

Thank you.

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TomatoTomahto
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Re: Should I forego a backdoor Roth IRA?

Post by TomatoTomahto » Wed Oct 04, 2017 2:58 pm

gowest wrote:
Wed Oct 04, 2017 1:03 pm
Am I off my rocker? When I really studied the Boglehead philosophy a number of years ago (and read about 7 or 8 of the books on the "must read" list), I learned about tax diversification in a similar vein to investment diversification. I welcome further thoughts on this.
I won't go so far as to call you "off your rocker," but I do think you've exaggerated the value of tax diversification. I had a similar view to yours, where the tax burden of paying for the Roth 401k was swamped by the other tax liabilities to the point of feeling painless. I think it was retirejg that cleared that up for me.

My wife had access to a mega backdoor Roth for a short time, and we've been doing smaller backdoor Roths for a while, so she has a pretty nice ~$200k Roth IRA now, which we add $6.5k to every year. That's it though. We put $24k per year in her traditional 401k, which saves us, say, $11k in taxes (Fed+NJ). That $11k, plus a lot more that's not under discussion here, goes to taxable. If I wanted to make taxable as Roth-like as I could, I would put that $11k into BRK.B, but even TSM throws off only around $220 of dividends on $11k, and negligible capital gains. I can defer the more substantial capital gains until we sell shares of TSM, or forever if we don't ever sell, and get the step up in basis for our heirs. It is only marginally less attractive than a Roth in real life.

I would love to be able to add more to her Roth, and for that matter, have a Roth IRA for myself. But, I can't let "Roth love" lead me to financially unsound moves, especially when a pretty good substitute (taxable) is available.

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tfb
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Re: Should I forego a backdoor Roth IRA?

Post by tfb » Wed Oct 04, 2017 3:59 pm

gowest wrote:
Tue Oct 03, 2017 2:45 pm
From reading articles frequently posted in this forum (e.g., https://thefinancebuff.com/the-backdoor ... ow-to.html), it sounds like I would want to try to rollover my IRA into my current 401k, if possible, leaving only the contributions and growth, and then implement the back door Roth on the remainder.
You misunderstood. The growth is pre-tax. It can be rolled over to the 401k. So just tally up your non-deductible contributions (you have it on your last 8606 if you did it correctly). Everything else, less a small cushion, can go to the 401k.
Harry Sit, taking a break from the forums.

gowest
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Re: Should I forego a backdoor Roth IRA?

Post by gowest » Thu Oct 05, 2017 9:09 am

Thanks again to all who have replied. Regarding the Roth 401k, I have reconsidered and will shift back to a traditional 401k. So my current plan based on everyone's comments (and my own thinking) is:

(1) max my 401k and make my (mandatory) profit sharing and cash balance contributions.
(2) skip further contributions to my tIRA and to my wife's tIRA, and just let those grow as-is.
(3) focus on making substantial contributions to the taxable account (3-fund portfolio, but shifting the bond allocation to the tax-advantaged accounts).
(4) focus on building up the college savings in the taxable account (using the same 3-fund portfolio, but some of it will be "earmarked" in my financial notes as being designated for college, with a more conservative AA).
(5) continue to whittle down my mortgage until it's gone.

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