Approaching Roth IRA Income Limit; When/How to Transition to Backdoor?

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NoProbLlama
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Approaching Roth IRA Income Limit; When/How to Transition to Backdoor?

Post by NoProbLlama » Wed Jan 15, 2020 9:40 am

Apologies in advance if this has been covered in prior threads or the wiki. I promise I searched before posting, but most of the results were for retro-active cases where the income limit had already been exceeded.

I've been maxing Roth IRA for myself & DW for several years now, but we'll likely hit the income limit in the next few years. The exact timing of when we'll cross that threshold depends on (1) bonuses and (2) how we allocate our 401k contributions between pre-tax & Roth. So I'm trying to figure out how many more years I can get away with direct Roth IRA contributions & how to avoid reading becoming another thread on "Oops!!!1!! I accidentally made ineligible Roth contributions & need help fixing it!!!1!!".

For 2019, I expect Gross Income will be about $210k (including estimated bonus paid December 2020). But we'll also be maxing contributions to one traditional 401k that will lower MAGI to approx. $191k. That should leave plenty of room for an unexpected raise/bonus throughout the year without causing problems, but I'm starting to get nervous about making our usually Roth IRA contributions for 2020 (we do monthly deposits of $500 on the 15th of every month rather than lump-sum at BOY or EOY).

I'm open to any/all feedback, but specific items I've been asking myself include:
1. Is there any downfall to just going through the backdoor steps now, even if we'll still wind up being within the income limits to make direct Roth contributions? It's going to happen anyway in the next few years, so just accelerate the timeline & avoid any possible problems? We have never had any traditional IRA whatsoever, so the backdoor should be pretty straightforward for us.
2. Should I just set aside all this money & make the contributions at EOY once I know exactly what the income picture looks like? If so, how can I participate in the market during that time while minimizing tax consequences?

nolesrule
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Re: Approaching Roth IRA Income Limit; When/How to Transition to Backdoor?

Post by nolesrule » Wed Jan 15, 2020 10:01 am

1. No, there is no problem doing a backdoor Roth, even if it turns out you didn't need to. There are no gotchas since you do not have any Traditional IRAs with pre-tax balances.

2. Because there's no drawback, just do the backdoor Roth as soon as you can. No need to wait till the end of the year.

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FiveK
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Re: Approaching Roth IRA Income Limit; When/How to Transition to Backdoor?

Post by FiveK » Thu Jan 16, 2020 1:42 am

One possible reason to delay: if you don't understand how Form 8606 should be filled.

Once you do understand that, doing the actual contribution and conversion ASAP is fine.

Katietsu
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Re: Approaching Roth IRA Income Limit; When/How to Transition to Backdoor?

Post by Katietsu » Thu Jan 16, 2020 2:33 am

I would not want to do 24 conversions with either institution that holds our IRAs. One requires a form to be completed to do the conversion. It can be completed online and submitted but it is still a hassle. Then the conversion may take a week to process. The other has a simple few clicks to convert. But if you ACH or mobile deposit the funds into the IRA, even from a cash account with the same institution, you must wait 3 days to convert.

But not everyone would be as annoyed by these things as I am.

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Re: Approaching Roth IRA Income Limit; When/How to Transition to Backdoor?

Post by Tamarind » Thu Jan 16, 2020 3:29 am

Remember that the contribution limit isn't all or nothing. There's a phase out window. So if you just squeak over the line you might only need to backdoor your last contribution of the year, for example.

I'm in the same boat you are (we have a little more runway as we are maxing 2 pre-tax 401ks). I think when we switch to backdoor, we'll start making the contributions lump-sum at the start of the year. I think getting the money in the market is worth tapping our savings account - it helps that we have a home reno slush fund building at the moment. If you don't have cash on hand to do it in January, and you're not sure you'll cross the threshold, it's really not the end of the world to make direct contributions monthly, then recharacterize and convert in November or December if needed. You might pay a little tax, but only if you have benefitted from gains.

jatwell
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Re: Approaching Roth IRA Income Limit; When/How to Transition to Backdoor?

Post by jatwell » Thu Jan 16, 2020 6:29 am

1. There is a small downside if you need to withdraw contributions without penalty before agree 59.5 (assuming you've already had a Roth acct > 5 years). You will not be able to withdraw contribution amounts from the conversion penalty free until 5 years after the conversion. See here for more detailed info: https://fairmark.com/retirement/roth-ac ... onversion/

onourway
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Re: Approaching Roth IRA Income Limit; When/How to Transition to Backdoor?

Post by onourway » Thu Jan 16, 2020 6:33 am

We tend to bounce right around this line as well. My method has been to simply invest the money in taxable all year long, and then, when we know our tax situation, make the Roth contributions. Some years we pay a little capital gains tax, some years we get it back taking a loss. Either way it greatly simplifies things.

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Wiggums
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Re: Approaching Roth IRA Income Limit; When/How to Transition to Backdoor?

Post by Wiggums » Thu Jan 16, 2020 6:49 am

NoProbLlama wrote:
Wed Jan 15, 2020 9:40 am
Apologies in advance if this has been covered in prior threads or the wiki. I promise I searched before posting, but most of the results were for retro-active cases where the income limit had already been exceeded.

I've been maxing Roth IRA for myself & DW for several years now, but we'll likely hit the income limit in the next few years. The exact timing of when we'll cross that threshold depends on (1) bonuses and (2) how we allocate our 401k contributions between pre-tax & Roth. So I'm trying to figure out how many more years I can get away with direct Roth IRA contributions & how to avoid reading becoming another thread on "Oops!!!1!! I accidentally made ineligible Roth contributions & need help fixing it!!!1!!".

For 2019, I expect Gross Income will be about $210k (including estimated bonus paid December 2020). But we'll also be maxing contributions to one traditional 401k that will lower MAGI to approx. $191k. That should leave plenty of room for an unexpected raise/bonus throughout the year without causing problems, but I'm starting to get nervous about making our usually Roth IRA contributions for 2020 (we do monthly deposits of $500 on the 15th of every month rather than lump-sum at BOY or EOY).

I'm open to any/all feedback, but specific items I've been asking myself include:
1. Is there any downfall to just going through the backdoor steps now, even if we'll still wind up being within the income limits to make direct Roth contributions? It's going to happen anyway in the next few years, so just accelerate the timeline & avoid any possible problems? We have never had any traditional IRA whatsoever, so the backdoor should be pretty straightforward for us.
2. Should I just set aside all this money & make the contributions at EOY once I know exactly what the income picture looks like? If so, how can I participate in the market during that time while minimizing tax consequences?
1. No downside

2. You can wait until closer to the end of year. There will be a little tax because of the distribution.

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Stinky
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Re: Approaching Roth IRA Income Limit; When/How to Transition to Backdoor?

Post by Stinky » Thu Jan 16, 2020 7:04 am

Start doing the backdoor now.

This will reduce the stress in your life. There's no reason to fret about keeping your income below a certain level when you can avoid the stress entirely.
It's a GREAT day to be alive - Travis Tritt

ryman554
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Re: Approaching Roth IRA Income Limit; When/How to Transition to Backdoor?

Post by ryman554 » Thu Jan 16, 2020 9:48 am

There is a lot of talk here about waiting to do or don't the backdoor.

But isn't the right answer: contribute to a Roth when you're in the phaseout region, and make sure you have nothing in your tIRA.

When you do your taxes, you know how much direct roth is available and how much isn't, so recharacterize what you need to from your previous year's contributions. Convert *that* to a roth. You'll still have a $0 balance in your tIRA at the end of the (next) year, so you can keep doing this until it's clear that you're over the limit.

Or, at others have said, just go via the backdoor no matter what and skip the recharacterization part. The downside is very minor, IMO, compared to the additional paperwork (and tracking) involved in the recharacterization process.

nolesrule
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Re: Approaching Roth IRA Income Limit; When/How to Transition to Backdoor?

Post by nolesrule » Thu Jan 16, 2020 10:12 am

ryman554 wrote:
Thu Jan 16, 2020 9:48 am
There is a lot of talk here about waiting to do or don't the backdoor.

But isn't the right answer: contribute to a Roth when you're in the phaseout region, and make sure you have nothing in your tIRA.

When you do your taxes, you know how much direct roth is available and how much isn't, so recharacterize what you need to from your previous year's contributions. Convert *that* to a roth. You'll still have a $0 balance in your tIRA at the end of the (next) year, so you can keep doing this until it's clear that you're over the limit.

Or, at others have said, just go via the backdoor no matter what and skip the recharacterization part. The downside is very minor, IMO, compared to the additional paperwork (and tracking) involved in the recharacterization process.
The earnings get recharacterized too, so you'd have to pay taxes on them when doing the conversion following a recharacterization. So you might as well just backdoor Roth the whole thing from the beginning.

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FiveK
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Re: Approaching Roth IRA Income Limit; When/How to Transition to Backdoor?

Post by FiveK » Thu Jan 16, 2020 12:29 pm

jatwell wrote:
Thu Jan 16, 2020 6:29 am
1. There is a small downside if you need to withdraw contributions without penalty before agree 59.5 (assuming you've already had a Roth acct > 5 years). You will not be able to withdraw contribution amounts from the conversion penalty free until 5 years after the conversion. See here for more detailed info: https://fairmark.com/retirement/roth-ac ... onversion/
Withdrawing nontaxable "backdoor Roth" conversion amounts is penalty free at any time, provided there have been no taxable traditional->Roth conversion amounts.

lkar
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Re: Approaching Roth IRA Income Limit; When/How to Transition to Backdoor?

Post by lkar » Thu Jan 16, 2020 1:39 pm

Maybe I should make this its own thread, but why do all the websites about doing the backdoor seem treat having money in another IRA as a dealbreaker for a back door roth?

I get that it might not make sense for some/most. And, yeah, doing it defeats the purpose of the backdoor roth, in part, depending on how high your balance is in the other IRA. And, yeah, keeping track of basis requires you to copy your 8606 every year.

But the way that it gets reported on the various websites that talk about it, they almost talk about it like having another IRA will disqualify you from doing the backdoor. It doesn't. It just means you are doing a roth conversion that is taxable in part. But you get (1) the gain on the roth money tax free once eligible, and (2) you don't lose the basis for your IRA contribution, you just shift the year when you get to use it (which may actually be desirable in some cases).

All the usual caveats to making a taxable roth conversion apply with respect to whether you should make one for which you will only get part of a deduction. It's a bet on your tax rate in the future versus your tax rate today.

I just get the feeling that there are people out there that think somehow having an IRA balance is disqualifying from making a contribution to an IRA and converting it. Yeah, if your balance in the other IRA is high, a conversion is a conversion so it doesn't much matter. It's just that the one-size fits all way it's treated seems off.

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FiveK
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Re: Approaching Roth IRA Income Limit; When/How to Transition to Backdoor?

Post by FiveK » Thu Jan 16, 2020 1:55 pm

lkar wrote:
Thu Jan 16, 2020 1:39 pm
Maybe I should make this its own thread, but why do all the websites about doing the backdoor seem treat having money in another IRA as a dealbreaker for a back door roth?
Don't know - you'll have to ask them. ;)

Your perceptions and conclusions look good.

lkar
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Re: Approaching Roth IRA Income Limit; When/How to Transition to Backdoor?

Post by lkar » Thu Jan 16, 2020 2:06 pm

FiveK wrote:
Thu Jan 16, 2020 1:55 pm
Don't know - you'll have to ask them. ;)
There gonna say what they're gonna say, but when they start trying to confuse bogleheads? Well, that's when I have to step in.

:happy

Topic Author
NoProbLlama
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Re: Approaching Roth IRA Income Limit; When/How to Transition to Backdoor?

Post by NoProbLlama » Thu Jan 16, 2020 2:28 pm

Katietsu wrote:
Thu Jan 16, 2020 2:33 am
I would not want to do 24 conversions with either institution that holds our IRAs. One requires a form to be completed to do the conversion. It can be completed online and submitted but it is still a hassle. Then the conversion may take a week to process. The other has a simple few clicks to convert. But if you ACH or mobile deposit the funds into the IRA, even from a cash account with the same institution, you must wait 3 days to convert.

But not everyone would be as annoyed by these things as I am.
This is good info & I would also be annoyed by this. All of this would run through Fidelity, and their interface generally works quite well for us.

I might be changing my mind on the idea of dipping into our savings to make the full contributions at BOY. The current structure is mostly because we're building out our EF from 3 months to 6 months. But if the logistics are simplified enough by a BOY lump-sum, I could be always leave some of that sitting in cash inside the rIRA as a 2nd-tier EF ... temporarily.

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NoProbLlama
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Re: Approaching Roth IRA Income Limit; When/How to Transition to Backdoor?

Post by NoProbLlama » Thu Jan 16, 2020 2:30 pm

Tamarind wrote:
Thu Jan 16, 2020 3:29 am
Remember that the contribution limit isn't all or nothing. There's a phase out window. So if you just squeak over the line you might only need to backdoor your last contribution of the year, for example.
The phaseout window is just so narrow. I really suspect we'll be under the phaseout in 2020 by about 5k, land just below the lower-limit in 2021, and blow all the way across the the top-end of the phaseout in 2022. But I'd gladly be wrong due to a surprise boost in income.
Tamarind wrote:
Thu Jan 16, 2020 3:29 am
I'm in the same boat you are (we have a little more runway as we are maxing 2 pre-tax 401ks). I think when we switch to backdoor, we'll start making the contributions lump-sum at the start of the year. I think getting the money in the market is worth tapping our savings account - it helps that we have a home reno slush fund building at the moment. If you don't have cash on hand to do it in January, and you're not sure you'll cross the threshold, it's really not the end of the world to make direct contributions monthly, then recharacterize and convert in November or December if needed. You might pay a little tax, but only if you have benefitted from gains.
It's probably irrational paranoia, but I just cringe every time I see a thread around here about problems with unwinding this contributions. I really don't want to take the risk of hitting a snag along the way that takes up too much of my time to correct on the back-end.

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NoProbLlama
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Re: Approaching Roth IRA Income Limit; When/How to Transition to Backdoor?

Post by NoProbLlama » Thu Jan 16, 2020 2:35 pm

FiveK wrote:
Thu Jan 16, 2020 12:29 pm
jatwell wrote:
Thu Jan 16, 2020 6:29 am
1. There is a small downside if you need to withdraw contributions without penalty before agree 59.5 (assuming you've already had a Roth acct > 5 years). You will not be able to withdraw contribution amounts from the conversion penalty free until 5 years after the conversion. See here for more detailed info: https://fairmark.com/retirement/roth-ac ... onversion/
Withdrawing nontaxable "backdoor Roth" conversion amounts is penalty free at any time, provided there have been no taxable traditional->Roth conversion amounts.
I'm going to take a closer look at this, especially since we're now considering the idea of holding a 2nd-tier EF inside the rIRA as a way to accelerate our timeline from monthly contributions to a single BOY deposit. This is the type of thing I was worried we might be missing.

But at first glance it looks like we'll be okay because there haven't been any taxable tIRA conversions.

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NoProbLlama
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Re: Approaching Roth IRA Income Limit; When/How to Transition to Backdoor?

Post by NoProbLlama » Thu Jan 16, 2020 2:39 pm

onourway wrote:
Thu Jan 16, 2020 6:33 am
We tend to bounce right around this line as well. My method has been to simply invest the money in taxable all year long, and then, when we know our tax situation, make the Roth contributions. Some years we pay a little capital gains tax, some years we get it back taking a loss. Either way it greatly simplifies things.
This case is really interesting to me, as we might land here for 2021/2022. It sounds like you've managed to escape the Form 8606 so far, is that correct? Or have you had to do 8606 in some years but not others?

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Tamarind
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Re: Approaching Roth IRA Income Limit; When/How to Transition to Backdoor?

Post by Tamarind » Thu Jan 16, 2020 3:23 pm

NoProbLlama wrote:
Thu Jan 16, 2020 2:30 pm
Tamarind wrote:
Thu Jan 16, 2020 3:29 am
I'm in the same boat you are (we have a little more runway as we are maxing 2 pre-tax 401ks). I think when we switch to backdoor, we'll start making the contributions lump-sum at the start of the year. I think getting the money in the market is worth tapping our savings account - it helps that we have a home reno slush fund building at the moment. If you don't have cash on hand to do it in January, and you're not sure you'll cross the threshold, it's really not the end of the world to make direct contributions monthly, then recharacterize and convert in November or December if needed. You might pay a little tax, but only if you have benefitted from gains.
It's probably irrational paranoia, but I just cringe every time I see a thread around here about problems with unwinding this contributions. I really don't want to take the risk of hitting a snag along the way that takes up too much of my time to correct on the back-end.
Totally fair. In that case I think you should front load the Backdoor Roth, rather than wait to contribute until end of year. Get it done and forget about it till 2021.

onourway
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Re: Approaching Roth IRA Income Limit; When/How to Transition to Backdoor?

Post by onourway » Thu Jan 16, 2020 4:30 pm

NoProbLlama wrote:
Thu Jan 16, 2020 2:39 pm
This case is really interesting to me, as we might land here for 2021/2022. It sounds like you've managed to escape the Form 8606 so far, is that correct? Or have you had to do 8606 in some years but not others?
Right, it's gone both ways depending on the year.

jatwell
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Re: Approaching Roth IRA Income Limit; When/How to Transition to Backdoor?

Post by jatwell » Thu Jan 16, 2020 4:55 pm

FiveK wrote:
Thu Jan 16, 2020 12:29 pm
jatwell wrote:
Thu Jan 16, 2020 6:29 am
1. There is a small downside if you need to withdraw contributions without penalty before agree 59.5 (assuming you've already had a Roth acct > 5 years). You will not be able to withdraw contribution amounts from the conversion penalty free until 5 years after the conversion. See here for more detailed info: https://fairmark.com/retirement/roth-ac ... onversion/
Withdrawing nontaxable "backdoor Roth" conversion amounts is penalty free at any time, provided there have been no taxable traditional->Roth conversion amounts.
Fivek,

I do not believe what you're saying is correct. Did you review the linked article. It calls out non-deductable regular IRA contributions that are converted to Roth will obviously not have tax due but will have a 10% penalty if withdrawn while under 59.5 until 5 years after the conversion.

I'd love to be wrong about that!

ryman554
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Re: Approaching Roth IRA Income Limit; When/How to Transition to Backdoor?

Post by ryman554 » Thu Jan 16, 2020 5:32 pm

jatwell wrote:
Thu Jan 16, 2020 4:55 pm
FiveK wrote:
Thu Jan 16, 2020 12:29 pm
jatwell wrote:
Thu Jan 16, 2020 6:29 am
1. There is a small downside if you need to withdraw contributions without penalty before agree 59.5 (assuming you've already had a Roth acct > 5 years). You will not be able to withdraw contribution amounts from the conversion penalty free until 5 years after the conversion. See here for more detailed info: https://fairmark.com/retirement/roth-ac ... onversion/
Withdrawing nontaxable "backdoor Roth" conversion amounts is penalty free at any time, provided there have been no taxable traditional->Roth conversion amounts.
Fivek,

I do not believe what you're saying is correct. Did you review the linked article. It calls out non-deductable regular IRA contributions that are converted to Roth will obviously not have tax due but will have a 10% penalty if withdrawn while under 59.5 until 5 years after the conversion.

I'd love to be wrong about that!
edit because I can't read properly...
You are correct. FiveK is not.
You are not correct. FiveK is.

Basically, you pay a 10% penalty on the amount of the conversion that would have been subject to tax before you converted it (everything but your non-deductible basis). So, whatever "income" you realized from the conversion is the amount you will be subject to the 10% penalty on.

Of course, there are some ordering rules (contributions, conversions in oldest order, further sorted by taxed portions of conversions first, then earnings within roth) for withdrawals, so it might not come up. And if you are older than 59.5, the penalty does not apply.

If you consider the intent of the penalty is to "replicate" the penalty of early withdrawals from a tIRA to prevent folks from circumventing tIRA penalities by just converting it to a ROTH and then withdrawing, you'll pay a penalty on the right stuff.
Last edited by ryman554 on Fri Jan 17, 2020 9:46 am, edited 1 time in total.

Topic Author
NoProbLlama
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Re: Approaching Roth IRA Income Limit; When/How to Transition to Backdoor?

Post by NoProbLlama » Thu Jan 16, 2020 5:56 pm

It appears jatwell is correct, and this is exactly the type of unknown downside I was looking for in starting this thread.

This is almost applicable to our situation, especially if we suspend our EF expansion from 3 months to 6 months in order to make lump sum BOY contributions in an effort to limit potential conversion paperwork. We should be in good shape either way since we've got over 5 years of regular/direct Roth contributions that would be accessed first in the ordering rules. And of course if everything goes according to plan, we won't be making withdrawals out of these accounts any time soon anyway.

I was not aware of the rolling 5-year clock for conversions to a Roth IRA. It's especially interesting to me that it's a separate 5-year clock for each conversion. That's definitely a consideration that might be worth delaying the use of the backdoor approach. Knowing this up-front might be the deciding factor to make direct/regular Roth IRA contributions for 2020 (I feel good that we'll land within the limit one more year), then in 2021 we'll start our first backdoor with BOY lump sum contributions. By then we should have the EF in a very solid place.

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NoProbLlama
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Re: Approaching Roth IRA Income Limit; When/How to Transition to Backdoor?

Post by NoProbLlama » Thu Jan 16, 2020 5:59 pm

I'm also going to drop the link below in this thread. I found it very useful in reviewing the discussion between jatwell & FiveK, and perhaps someone else may find it helpful some day.

https://www.kitces.com/blog/understandi ... nversions/

The section below seems like another potential downside. It's really more a different flavor of the same withdrawal issue, but I found it noteworthy because death may be one of the more likely ways we access these funds early. Sticking to regular/direct Roth contributions appears to avoid this situation as well:
Another notable situation where the rules may overlap is after the death of a Roth IRA owner. As death is an exception to the early withdrawal penalty, any beneficiaries taking distributions from a Roth IRA will always enjoy penalty-free treatment (regardless of whether it’s principal or earnings, and regardless of whether the 5-year rule for conversions has been met or not). On the other hand, death does not eliminate the 5-year contribution rule for earnings to be tax-free!

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FiveK
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Re: Approaching Roth IRA Income Limit; When/How to Transition to Backdoor?

Post by FiveK » Thu Jan 16, 2020 7:16 pm

ryman554 wrote:
Thu Jan 16, 2020 5:32 pm
jatwell wrote:
Thu Jan 16, 2020 4:55 pm
FiveK wrote:
Thu Jan 16, 2020 12:29 pm
jatwell wrote:
Thu Jan 16, 2020 6:29 am
1. There is a small downside if you need to withdraw contributions without penalty before agree 59.5 (assuming you've already had a Roth acct > 5 years). You will not be able to withdraw contribution amounts from the conversion penalty free until 5 years after the conversion. See here for more detailed info: https://fairmark.com/retirement/roth-ac ... onversion/
Withdrawing nontaxable "backdoor Roth" conversion amounts is penalty free at any time, provided there have been no taxable traditional->Roth conversion amounts.
Fivek,
I do not believe what you're saying is correct. Did you review the linked article. It calls out non-deductable regular IRA contributions that are converted to Roth will obviously not have tax due but will have a 10% penalty if withdrawn while under 59.5 until 5 years after the conversion.
I'd love to be wrong about that!
I wish you were. You are correct. FiveK is not.
Basically, you pay a 10% penalty on the amount of the conversion that would have been subject to tax before you converted it (everything but your non-deductible basis). So, whatever "income" you realized from the conversion is the amount you will be subject to the 10% penalty on.
Post-tax amounts added to a Roth using the "backdoor Roth" process are subject neither to tax nor penalty when withdrawn, no matter the age of the person nor the length of time held in the account.

This is one of those things where, having thought otherwise but then learning the correct treatment, one remembers. :)

A quote from the linked article (emphasis added): "only the first $6,000 will be subject to the 10% penalty because the remaining portion was nontaxable at the time of the conversion."

And yes, "you pay a 10% penalty on the amount of the conversion that would have been subject to tax before you converted it" but what we are talking about with the backdoor Roth is in fact "your non-deductible basis."

See User:TedSwippet/KAWill Roth Table - Bogleheads, which seems a faithful representation of the last post in Roth IRA 5 year rule - Bogleheads.org.

If a few dollars of interest have accumulated prior to doing the conversion in the backdoor process, that amount is deemed to come out before the non-deductible contribution and would be subject to the 10% penalty if applicable.

Does that make sense?

Katietsu
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Re: Approaching Roth IRA Income Limit; When/How to Transition to Backdoor?

Post by Katietsu » Thu Jan 16, 2020 8:37 pm

I agree with FiveK and they have given good explanations.

The key is that a 10% penalty of $0 is $0.

jatwell
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Re: Approaching Roth IRA Income Limit; When/How to Transition to Backdoor?

Post by jatwell » Thu Jan 16, 2020 10:09 pm

Got it FiveK but I don't really agree with the wiki link since there are some gotchas due to ordering.

If you have immediately converted all non deductible trad IRA contributions to Roth and NEVER had any Roth conversions that included earnings or taxable contributions, you are 100% right. You can withdraw those non deductible trad amounts that were converted penalty free.

If ANY conversion amount was earnings or taxable though, you'd have to pay the penalty on ALL of those withdrawals before your got down to the penalty free withdrawals.

Is that how you understand it? I'm in the same boat with backdoor conversions. Say I have a 34k trad IRA I made 6 yearly 5k non deductible contributions to I converted to Roth this year (30k non ded, 4k earnings). I paid tax on 4k earnings to convert.

Now I have a 34k Roth and need to withdraw. The first 4k I withdraw from it, I have to pay a 10% penalty on if under 59.5 and less than 5 years after conversion no matter what, correct?

If I went by your wiki link, I read that as I don't have to pay any penalty after conversion on non deductible contributions that are converted, which could be incorrect.
Last edited by jatwell on Thu Jan 16, 2020 10:16 pm, edited 1 time in total.

jatwell
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Re: Approaching Roth IRA Income Limit; When/How to Transition to Backdoor?

Post by jatwell » Thu Jan 16, 2020 10:09 pm

Duplicate

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FiveK
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Re: Approaching Roth IRA Income Limit; When/How to Transition to Backdoor?

Post by FiveK » Thu Jan 16, 2020 10:34 pm

jatwell wrote:
Thu Jan 16, 2020 10:09 pm
If you have immediately converted all non deductible trad IRA contributions to Roth and NEVER had any Roth conversions that included earnings or taxable contributions, you are 100% right. You can withdraw those non deductible trad amounts that were converted penalty free.

If ANY conversion amount was earnings or taxable though, you'd have to pay the penalty on ALL of those withdrawals before your got down to the penalty free withdrawals.

Is that how you understand it? I'm in the same boat with backdoor conversions. Say I have a 34k trad IRA I made 6 yearly 5k non deductible contributions to I converted to Roth this year (30k non ded, 4k earnings). I paid tax on 4k earnings to convert.

Now I have a 34k Roth and need to withdraw. The first 4k I withdraw from it, I have to pay a 10% penalty on if under 59.5 and less than 5 years after conversion no matter what, correct?
Yes, agreed with all the above.
If I went by your wiki link, I read that as I don't have to pay any penalty after conversion on non deductible contributions that are converted, which could be incorrect.
Which wiki link? If you mean the User:TedSwippet/KAWill Roth Table, one has to read that from top to bottom - the IRS ordering - and it is then consistent with what you describe above. At least, I think you and it are saying the same thing....

ETA: There is a table similar to TedSwippet's on the 'Basic Terms' tab of the personal finance toolbox spreadsheet. That one has a bit more in the way of explanation, but takes a few more clicks to reach.

nolesrule
Posts: 1623
Joined: Thu Feb 26, 2015 10:59 am

Re: Approaching Roth IRA Income Limit; When/How to Transition to Backdoor?

Post by nolesrule » Fri Jan 17, 2020 7:56 am

Agree. The penalty only applies to the pre-tax portion of the conversions. Looking back at the last 5 years, my pre-tax portion of the backdoor Roth amounts to $1.27... rounds to $1. The penalty would round to $0. My wife on the other hand has $281.08 because there was some conversion of grwoth between Mega backdoor Roth steps this year and last. Still, a $28 penalty isn't so bad if we needed access to the money.

It's only when you've been doing large conversions of pre-tax money that the penalty should be a concern, due to the amount of pre-tax money being converted.

ryman554
Posts: 1300
Joined: Sun Jan 12, 2014 9:44 pm

Re: Approaching Roth IRA Income Limit; When/How to Transition to Backdoor?

Post by ryman554 » Fri Jan 17, 2020 9:44 am

FiveK wrote:
Thu Jan 16, 2020 7:16 pm
ryman554 wrote:
Thu Jan 16, 2020 5:32 pm
jatwell wrote:
Thu Jan 16, 2020 4:55 pm
FiveK wrote:
Thu Jan 16, 2020 12:29 pm
jatwell wrote:
Thu Jan 16, 2020 6:29 am
1. There is a small downside if you need to withdraw contributions without penalty before agree 59.5 (assuming you've already had a Roth acct > 5 years). You will not be able to withdraw contribution amounts from the conversion penalty free until 5 years after the conversion. See here for more detailed info: https://fairmark.com/retirement/roth-ac ... onversion/
Withdrawing nontaxable "backdoor Roth" conversion amounts is penalty free at any time, provided there have been no taxable traditional->Roth conversion amounts.
Fivek,
I do not believe what you're saying is correct. Did you review the linked article. It calls out non-deductable regular IRA contributions that are converted to Roth will obviously not have tax due but will have a 10% penalty if withdrawn while under 59.5 until 5 years after the conversion.
I'd love to be wrong about that!
I wish you were. You are correct. FiveK is not.
Basically, you pay a 10% penalty on the amount of the conversion that would have been subject to tax before you converted it (everything but your non-deductible basis). So, whatever "income" you realized from the conversion is the amount you will be subject to the 10% penalty on.
Post-tax amounts added to a Roth using the "backdoor Roth" process are subject neither to tax nor penalty when withdrawn, no matter the age of the person nor the length of time held in the account.

This is one of those things where, having thought otherwise but then learning the correct treatment, one remembers. :)

A quote from the linked article (emphasis added): "only the first $6,000 will be subject to the 10% penalty because the remaining portion was nontaxable at the time of the conversion."

And yes, "you pay a 10% penalty on the amount of the conversion that would have been subject to tax before you converted it" but what we are talking about with the backdoor Roth is in fact "your non-deductible basis."

See User:TedSwippet/KAWill Roth Table - Bogleheads, which seems a faithful representation of the last post in Roth IRA 5 year rule - Bogleheads.org.

If a few dollars of interest have accumulated prior to doing the conversion in the backdoor process, that amount is deemed to come out before the non-deductible contribution and would be subject to the 10% penalty if applicable.

Does that make sense?
<facepalm>

Good grief, I should learn to read and comprehend what I do. I go and announce you're wrong and then go and repeat what you just said. Let me go back and edit that....

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