? "caution" section on backdoor Roth wiki

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Lafder
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? "caution" section on backdoor Roth wiki

Post by Lafder »

Everyone makes it sound like backdoor Roth conversions are so easy. But here is the quote from the wiki on needing to consider ALL IRA holdings to calculate taxes owed on conversions. This makes it seem very complicated to me and made me not take the step to do backdoor Roth conversions. Due to income we are ineligible for any traditional Roth contributions.

Can anyone explain this and how or what I would need to figure out to do a backdoor Roth conversion?

We have IRA's going back about 18 years.

Here is the quote from the backdoor Roth wiki:

"Caution
If you have any other (non-Roth) IRAs, the taxable portion of any conversion you make is prorated over all your IRAs; you cannot convert just the non-deductible amount.[2] In order to benefit from the backdoor, you must either convert your other IRAs as well (which may not be a good idea, as you are usually in a high tax bracket if you need to use the backdoor), or else transfer your deductible IRA contributions to an employer plan such as a 401(k) (which may cost you if the 401(k) has poor investment options).

For example, suppose you have just created a new traditional IRA, and you add $5,000 of non-deductible contributions to it. You'd like to convert this IRA to a Roth IRA via the backdoor.

Suppose you also have another traditional IRA with $15,000 in deductible pre-tax contributions. These contributions may have come from a 401(k) rollover, or from standard deductible traditional IRA contributions from earlier years when you were eligible to make deductible contributions to a traditional IRA.

To compute the tax due, you would need to take $5,000 and divide it by $20,000 (the total value of all your traditional IRAs), to get the percentage of the conversion that will be tax-free. In this case, it is 25%. Therefore, the other 75% of your conversion--in this case, $3,750--would be taxable.

This can be viewed with the following formula:

Variables:

C = Amount to Convert to Roth

B = Balances of all pre-tax IRAs

TF = The percentage of the amount you're computing this would be tax-free

TF = 100 * [ C / (C + B)]
Using the numbers from the case study above results in:

100 * [ 5,000 / (5,000 + 15,000) ]
which is 25%.

If the $15,000 traditional IRA could be transferred into a 401(k), then the formula becomes:

100 * [ 5,000 / (5,000 + 0) ]
which is 100%, meaning that 100% of the conversion amount ($5,000) is tax-free."

Wouldn't there be an advantage to waiting to do the backdoor Roth until our income drops and we are in a lower tax bracket? Taking a chance it will still be available by then? Or should we do some now in case tax rates for withdrawing traditional IRAs go up by then too?

Here are actual numbers.
100% of my Rollover IRA and SEP IRA are pretax.
4.8% of my husband's 401k is post tax, so 95.2% is pretax.

Thank you,
lafder
chrysogonus
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Re: ? "caution" section on backdoor Roth wiki

Post by chrysogonus »

Personally, I think backdoor Roth IRAs are only worth it if you have no traditional IRAs, or small enough traditional IRAs that you can convert them, pay the taxes, and be done with them.

if you have large traditional IRAs it's probably not worth it to convert them to Roth IRAs all at once. If you have a 401k, however, you might be able to roll the traditional IRAs into the 401k, and then do backdoor Roths after that. If you have good 401k choices, that's an easy decision - if they're not good, you'll have to think about it.

Alternately, if you have any self-employment income, or can generate some (it doesn't have to be a lot - $400 should suffice since above that you have to pay the self-employment tax), you should be able to open an individual 401k, and make a small employer contribution to that. Be sure to open it someplace that allows incoming traditional IRA transfers, and you can get rid of all your traditional IRAs. The only concern there is that if the individual 401k has more than $250k in it, you'll need to file some paperwork with the Department of Labor (form 5500EZ) annually.

The individual 401k strategy is fairly advanced, but it's something I've considered. And although I haven't found anything to suggest it won't work, I'm going to double check with my accountant before trying it.
Last edited by chrysogonus on Sun Jul 06, 2014 7:57 pm, edited 1 time in total.
freddie
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Re: ? "caution" section on backdoor Roth wiki

Post by freddie »

Waiting doesn't really help. You still have that nondeductible basis linger around to get taxed on. And the bad part is no you have to pay taxes on the earnings from that nondeductible contribution also.

The easy solution is to start a business, open a self employed 401(k) at Fidelity(plenty of nice investment options. Vanguard will not roll over IRAs into 401(k)s last I checked) and roll those IRA's into it.

But with 18 years of IRAs, doing a back door ROTH conversion is unlikely to make much sense. The percentage of the rollover that will be principle is too small.
cherijoh
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Re: ? "caution" section on backdoor Roth wiki

Post by cherijoh »

Lafder wrote:Can anyone explain this and how or what I would need to figure out to do a backdoor Roth conversion?
You are quoting the Wiki, which already explains how to calculate the taxable portion of a Roth Conversion, so I am not sure what you are confused about. To physically do a backdoor Roth conversion, you (1) make a non-deductible contribution to a Roth IRA and (2) you ask your IRA custodian to convert all or some portion of your Traditional IRA to a Roth. They will send you a 1099-R showing that you did a Roth Conversion. You are responsible for calculating what portion of it is taxable. This is done with IRS form 8606 http://www.irs.gov/uac/Form-8606,-Nondeductible-IRAs.

The complications arise when you already have pre-tax money in any traditional IRA for the reasons explained in the Wiki. I believe an SEP IRA counts as an IRA, but a 401-k or 403-b do not. Some people get around the issue by rolling their IRAs into a current employers 401-k plan so that they only have after-tax money in their IRA.
Lafder wrote: Wouldn't there be an advantage to waiting to do the backdoor Roth until our income drops and we are in a lower tax bracket? Taking a chance it will still be available by then? Or should we do some now in case tax rates for withdrawing traditional IRAs go up by then too?
The term backdoor Roth usually refers to people who have little to no pre-tax money in their IRAs and are only eligible to make non-deductible traditional IRA contributions each year because of their AGI. If you have a lot of pre-tax money in your IRA, then a Roth conversion wouldn't be considered a "backdoor" conversion. For regular conversions, yes it makes sense to wait until your income tax rate is lower (e.g., after retiring but before drawing SS or RMDs from your IRA).
sambb
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Re: ? "caution" section on backdoor Roth wiki

Post by sambb »

I agree with the OP - the enthusiasm for back door roth is often not communicated with the caution of the implications for other accts. I almost did it and luckily came across a post that stated this.
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Re: ? "caution" section on backdoor Roth wiki

Post by LadyGeek »

This thread is now in the Personal Finance (Not Investing) forum (backdoor Roth IRA).

Here's the source: Backdoor Roth IRA Be sure to read the items under "External links."

I'm a wiki editor. Should I put a big yellow warning at the top of the page? How should it be worded? Caution...
Wiki To some, the glass is half full. To others, the glass is half empty. To an engineer, it's twice the size it needs to be.
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Re: ? "caution" section on backdoor Roth wiki

Post by sscritic »

LadyGeek wrote:This thread is now in the Personal Finance (Not Investing) forum (backdoor Roth IRA).

Here's the source: Backdoor Roth IRA

I'm a wiki editor. Should I put a big yellow warning at the top of the page? How should it be worded? Caution...
No. Caution is already 2/3 of the page. If you need a caution, how about
Read the whole page before rushing out to act without knowing what you are doing
I think there should be a "read carefully" caution on every thread and every wiki page. However, I am not sure it would do any good. Actually, lafder doesn't need the caution; she knows to read first, act later. And if you have questions, ask before acting. She did. Good for her.
ralph124cf
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Re: ? "caution" section on backdoor Roth wiki

Post by ralph124cf »

Remember that this is one area that spouses do not combine. Your IRAs are all pretax, so this rule does not apply to you doing the backdoor Roth. Your spouse would be subject to these rules.

Ralph
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Re: ? "caution" section on backdoor Roth wiki

Post by sscritic »

ralph124cf wrote:Remember that this is one area that spouses do not combine. Your IRAs are all pretax, so this rule does not apply to you doing the backdoor Roth. Your spouse would be subject to these rules.

Ralph
If she makes a non-deductible contribution to a tIRA and then converts to a Roth (this is the classic backdoor Roth aka the tIRA Roth two step), then the rules certainly apply to her. Why would you think not? She would have some pre-tax and some post-tax in her one grand IRA (combined for tax purposes).

Did I get that wrong?
ralph124cf
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Re: ? "caution" section on backdoor Roth wiki

Post by ralph124cf »

Hi sscritic.

If she makes the non-deductible contributions, then I agree that this would apply. However, if she first converts existing IRA to Roth, then no problem. All money would be pre-tax, so 100% taxable event on conversion. The only problem is if there is partial pre- and partial post-tax IRA money. Spouse is currently mixed, but OP is fully pre-tax. Many possible strategies, but one might be to convert only OPs IRA, or a portion of it now, and possibly the rest the following year. We don't know how much we are talking about, or the tax rates involved, so it is not possible to answer with any precision.

Thirty years ago or so, when IRAs first became limited by income (or when I first hit the income limit, I don't remember which) Merrill Lynch, where I had my IRA at the time, tried to get me to make non-deductible contributions. I successfully resisted this due to perceived future accounting difficulties. I still have no post tax traditional IRA or 401(k) money, so everything that I choose to convert is simply taxable income.

Ralph
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Peter Foley
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Re: ? "caution" section on backdoor Roth wiki

Post by Peter Foley »

A couple thoughts from someone who has done a couple Roth conversions and didn't quite get it right the first time. Me.

First, IRA are individual accounts, not joint accounts. You listed a 401k that your husband has - that is not an IRA. If he were doing a post tax TIRA contribution and then a Roth conversion the 401k would not enter into the calculation UNLESS HE CONVERTED ALL OR PART OF IT TO AN IRA. (That is the mistake I made - I converted my IRA which was 50% pre tax and 50% post tax. Then later in the calendar year when the IRA had a zero balance I converted part of my 100% pre tax 457 account into my IRA. This changed my pretax percentage for the conversion because the IRS asks for the balance in all IRAs at the end of the year.)

There is an advantage to waiting to do the Roth conversions when you are in a lower tax bracket. If you plan to delay taking SS, you may have some low income years where you can convert in the 15% bracket. This is different from a "backdoor Roth" which is done by contributing post tax to a TIRA and then converting. This latter strategy is generally used by people who earn too much money to contribute to a Roth. You need to have earned income to do a TIRA so you have something to convert using the backdoor.

Doing a backdoor Roth for your husband each year would be relatively easy as it would be 100% post tax. For your backdoor Roth you would have to do a calculation to figure out the pretax/post tax ratio for your accounts. This ratio would change every year because the value of the accounts would rise and fall with the market. Note: I do not know whether SEP IRAs are part of the calculation or not. I know very little about SEPs
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Lafder
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Re: ? "caution" section on backdoor Roth wiki

Post by Lafder »

Still trying to sort this out. I admit I had not read the Wiki links til just now. But now that I read them............

I am correct our situation would require several steps since His and Her both have Rollover IRAs AND SEP IRAs that would need to be rolled into 401ks to not be involved in the complicated taxable act of transfer to a Roth IRA.

His has a work 401k so a rollover of His is easy. However I hate giving up the complete control we have on the investment choices we have now at Vanguard.

Her is self employed so could open a 401k.

Is there such a thing as a post tax/nondeductible SEP contribution? Once beyond the allowed amount? I have never heard of that.

I thought we are ineligible for a traditional IRA due to income.So, can we make any amount of Non-Deductible IRA contributions even if we exceed the income limit?

Or is the contribution limit 5500? If 5500 why do they say there is no limit on the backdoor Roth transferable amount? Or can you repeat this multiple times in a year?

My understanding of His 401k is that we can make 23k pretax contributions since he turns 50 this year, and we can also make post tax contributions. However the max of all 401k contributions (pre and post tax, catch up provision,and employer match) can not exceed 57.5k.

I somehow thought the max of 23k/57.5k also included all retirement accounts for the year? Are IRAs and 401ks covered by different limits?

Why would I do an actual backdoor Roth, versus just contributing aftertax to the existing work 401k? Adding after tax to the work 401k simply requires a few mouse clicks to increase contributions. Versus moving the existing IRAs and then having to do the 2 step back door Roth conversion.

I want to understand it all. And the little pieces get so confusing to me. Basically, it sounds like all of the following are different, yet some of the same rules apply to several, and some other rules do not apply to the same groups. Since people seem to have different combinations of all of these it makes everyone's situation slightly different enough that discussions end up being apples and oranges to me.

Traditional IRA pretax contribution
Traditional IRA post tax/nondeductible contribution (eligible for backdoor Roth as a nontaxable event if no other taxable IRAs)
Rollover IRA
401k pretax contribution
401k post tax contribution
Roth IRA
Backdoor Roth IRA
SEP IRA

To add to my confusion, my husband's work plan has a "401k Roth". But it looked like we are not eligible for it. Is this a potential Backdoor Roth through the 401k if we do a post tax contribution,or is this yet another variable that has nothing to do with a Roth IRA we are discussing in this confusing arena. All prior Roth discussion is IRA not 401k. I will have to find that section of the plan and copy it for you to see.

And I have not even brought up 403b and other flavors of retirement accounts................

That Calgon commercial of my childhood comes to mind and a bubblebath sounds quite relaxing about now.

Let me try to summarize our situation and my potentially incorrect beliefs if anyone is patient enough to still be reading.

Her: Rollover IRA (not being added to) and current SEP IRA. Income exceeds allowable for Roth or pretax traditional IRA

Would need to create individual 401k and rollover all existing Rollover IRA and SEP to 401k. Then could do post-tax traditional IRA contribution which could be used to fund a backdoor Roth. I am not getting if the 5500$ limit applies or how any backdoor Roth steps effect the max individual 401k contribution (ie added into total or completely different limits with no effect on each other). I do need to reread prior posts on individual 401k vs SEP to see what I lose by eliminating the SEP as yet another variable to figure in to this whole thing.

Him: Rollover IRA, SEP IRA (both not being added to), and current employer 401k that also lists a Roth 401k as an option, and specifically states the 23,000 pretax limit, and 57,500 total contribution limit.

Would need to roll Rollover IRA and SEP to current 401k (not self employed). Then we could do the post tax traditional IRA and then roll to backdoor Roth. How does this effect max 401k or is it entirely separate and both can be maxed? ((I will reread plan details on "401k Roth" which seems to have been previously not explained in the descriptions we have been discussing))

I am not understanding why there is talk of no income limit and also no contribution limit to backdoor Roths. Yet people keep using the 5500$ number when discussing it.

lafder
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Lafder
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Re: ? "caution" section on backdoor Roth wiki

Post by Lafder »

Here is the table His plan uses to direct the money from his paycheck and where we can easily make changes. I was under the impression the entire plan is a 401k, hence my confusion at listing the Roth options. However, today I am noticing it just says Megacorp Retirement Plan at the top and does not specify 401k. So perhaps the Roth options are IRA options after all? I just reread the plan documents confirming that we are not eligible to make Roth contributions here due to combined income.

But the website I go to get to all of this information and access his plan info online is 401k.fidelity.com which supports my understanding it is all 401k : (. Their descriptions of Roth vs pretax is very simplified and leaves out most useful info.

Here is a copy of the table, with his current elections included.

Contribution Amount

PRE-TAX
Current Election 12 %
Desired Election %
(0% to 25% in increments of 1%)

ROTH
Current Election 0 %
Desired Election %
(0% to 25% in increments of 1%)

Pre-tax and Roth Subtotal
Current Election 12 %
Desired Election %
(0% to 25%)

AFTER-TAX
Current Election 0 %
Desired Election %
(0% to 25% in increments of 1%)
After-tax Subtotal
Current Election 0 %
Desired Election %
(0% to 25%)
Contribution Amount Total
Current Election 12 %
Desired Election %
(0% to 25%)

Catch-up Contribution Amount
EMPLOYEE PRE-TAX CATCH-UP
Current Election 10 %
Desired Election %
(0% to 60% in increments of 1%)

EMPLOYEE ROTH CATCH-UP
Current Election 0 %
Desired Election %
(0% to 60% in increments of 1%)
Catch-Up Contribution Amount Total
Current Election 10 %
Desired Election %
(0% to 60%)


And here is the plan glossary definition of "Roth" which is so vague you have to read multiple places and research to figure out who is eligible, limits, and tax effects.

ROTH
Designated Roth contributions are elective deferrals for which you irrevocably elect special tax treatment. You will pay federal income taxes and, in most cases, state income taxes on the amount that you elect to contribute to the plan, up to the annual maximum IRS dollar limit. At the time of distribution, you may withdraw your contributions and any earnings on this money tax-free, as long as certain withdrawal criteria have been met. Your company may match all or a portion of these contributions.

I can not decide if I am too dumb, or too smart to figure all of this out! Or perhaps a combination of both?
lafder
Alan S.
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Re: ? "caution" section on backdoor Roth wiki

Post by Alan S. »

A 401k can provide for pre tax salary deferrals and for designated Roth salary deferrals (Roth 401k). In this plan he can contribute as much as 25% of income combined to the pre tax or the Roth account. Presently, he is deferring 12% to the pre tax 401k options and nothing to the Roth option (Roth contributions are made after tax).

The "after tax contributions" can be made to the pre tax account, but are after tax contributions as opposed to Roth 401k contributions.

The combination of pre tax and Roth contributions cannot exceed 17,500, but after tax contributions have a much higher limit. Presently, he is not contributing to the after tax sub account.

Catch up contributions can be made starting at 50. These are limited to 5,500. He is contributing 10% to the pre tax account, although catch up contributions must stop at 5,500, just like regular pre tax contributions must stop at 17,500.

There is NO IRA here, this is a typical 401k account with a designated Roth option (Roth 401k, not Roth IRA). The selected limits are pretty typical. He probably also receives a company matching contribution, but that was not indicated. All company matching must go to the pre tax account even if he changed all his own contributions to the designated Roth.
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Re: ? "caution" section on backdoor Roth wiki

Post by placeholder »

This probably would have been better left in the original thread where the choices for "his" 401k were listed (very good ones) which makes the choice of rolling the IRAs in if possible a sound one AND if a solo 401k can be opened that is also a very good option for rolling in any IRAs on "her" side.
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Re: ? "caution" section on backdoor Roth wiki

Post by The529guy »

This post offers a critique of the current Backdoor Roth IRA wiki entry and some suggestions for improvement.

Although it doesn't delve into the pro-rata rule, tbf's blog post, Backdoor Roth: A Complete How-To, is a great explanation that deserves recognition. His post is referenced at the bottom of the Backdoor Roth IRA wiki entry, but I can't help but wonder how many readers actually make it that far. The strength of his instructions really comes from the diagrams he offers.
sscritic wrote:I think there should be a "read carefully" caution on every thread and every wiki page.
sscritic, I agree with your sentiment, but I guess that's life. In the time that I've been lurking here, it seems that many folks consistently come to the forum for follow-up clarifications on the Backdoor Roth IRA wiki entry. While the entry offers accurate guidance, I think it could be communicated in a more accessible way that might resonate with more people.

As someone who learned to do a Backdoor Roth IRA contribution last year -- thanks to this forum and tbf's blog post -- I think the wiki entry is failing to convey some critical concepts that then must be explained further by folks here in the forum. I agree that everyone should read the warning, but if we take a step back, try to view the wiki entry from the perspective of a newcomer. The entry starts out essentially offering what I consider to be "button-pressing" instructions in the Mechanics section. Then, there's the lengthy Caution section that alludes to the conversion process' pro-rata rule and concludes with the math equation example.

Imagine if this wiki entry were a high school math or science textbook.

Wouldn't the "big picture" concept come first? Then "mechanics," then a bunch of examples? And wouldn't there be an illustration to support the text?

In terms of explaining concepts, take a look at the Converting with non-deductible contributions section of the Roth IRA conversion wiki entry. While it could be worded slightly better, I think it conveys the pro-rata concept in a much clearer way. At the end of the day, I think that the Backdoor Roth IRA wiki entry could use an intro section that more explicitly explains that all you're really doing is a Roth conversion. As an example:
When you make a Backdoor Roth IRA contribution, you are making a nondeductible contribution (i.e., already taxed) to a Traditional IRA before making a Roth conversion. However, your pre-existing (non-Roth) IRA funds in Traditional, SEP, and SIMPLE IRAs will likely all be deductible contributions and their pre-tax earnings. When you make a Roth conversion, you cannot limit your conversion to just your nondeductible contribution. When filing your income taxes, the money you convert will be representative of all the money in all of your Traditional, SEP, and SIMPLE IRA accounts, regardless of which account the Roth conversion money comes from.

If your nondeductible contribution is only 25% of all the money in your Traditional, SEP, and SIMPLE IRA accounts, then only 25% of your Roth conversion amount will be tax-free. The remaining 75% of your Roth conversion amount will represent the deductible (pre-tax) money across all of your Traditional, SEP, and SIMPLE IRAs. Consequently, you will owe tax (at your current income tax rate) on 75% of your Roth conversion amount. [See example below.] If you can transfer your pre-tax IRA funds to a solo 401k, employer-sponsored 401k, or 403b, then they will no longer be subject to taxation during the Roth conversion process.
Going back to tbf's blog post: if individuals considering a Backdoor Roth IRA contribution read his instructions, they will encounter "Step 1 – 'Hide' other IRAs" and realize that either (a) they have an account (401k / 403b) that they can transfer funds to, or (b) they need to figure out the pro-rata equation. From a conceptual standpoint, I think the "hiding" step makes it clear that all IRA funds are exposed to taxation during the Backdoor Roth IRA process. In contrast, the wiki entry does not explain why you would transfer your deductible IRA funds to an employer plan. It only implies that this exempts the funds from the Roth conversion process. An explicit statement to this effect would probably be helpful.

In my opinion, the wiki entry's Caution section would be helped a great deal by an accompanying graphic that illustrates the aggregation of the deductible and nondeductible IRA funds from different accounts and how the pro-rata equation is applied to the resulting amount. The current example makes sense to me (as an engineer), but I think it would be helpful to have several examples of the pro-rata rule in action:

- A scenario that's 50/50 nondeductible/deductible in a single Traditional IRA
- A scenario that's 5/95 nondeductible/deductible across two Traditional IRAs and one SEP IRA (for example)
- Accompanying diagrams showing how the conversion amount (and applicable taxable amount) mirrors the IRAs' composition

If the wiki entry told a more thorough "story" of how the process works, perhaps it will need a much smaller "Caution" section in the future.
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Re: ? "caution" section on backdoor Roth wiki

Post by DonCamillo »

The nondeductible contributions I made to my IRA about thirty years ago still give me about a half hour of grief every year.

I have been converting the IRA to a Roth, with the hope of converting it entirely. Need to have a spreadsheet to track basis (although Turbo Tax tracks it also). It is complicated because I also have a NJ Basis. NJ taxes the growth on an IRA withdrawal (including Roth Conversion) but not the original amount, because it was already taxed. The IRS does it over all IRA accounts. NJ tracks each account individually.

I really wish I had not converted a 401k to an IRA, as that complicates the conversion of my original IRA.
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sscritic
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Re: ? "caution" section on backdoor Roth wiki

Post by sscritic »

The529guy wrote:This post offers a critique of the current Backdoor Roth IRA wiki entry and some suggestions for improvement.
[Lots of good stuff]
I like these ideas. The key one is understanding that a backdoor Roth consists of two steps: first a contribution to the tIRA, then the conversion to a Roth from (all your) tIRA(s). Leading off with that concept, as you did in your suggested write up, gets the reader headed in the right direction.
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Re: ? "caution" section on backdoor Roth wiki

Post by Miguelito »

I managed to shove IRA from my previous employer (401k rollover) into my new employer's 401k. I would have preferred not to since our 401k is so limited in choices, but they are very low cost, diversified choices and ultimately it was a very good move. By moving the pre-tax IRA funds into my current 401k, the only IRA showing at the end of that year was my after-tax IRA, so the conversion was easy.

I first read about the backdoor option in 2006 and started funding the after tax IRA's back then. With the market implosion in '08-'09, when I did the backdoor move I barely had any profits at all so it cost me next to nothing.
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Lafder
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Re: ? "caution" section on backdoor Roth wiki

Post by Lafder »

Thank you all for the comments. I agree the backdoor Roth wiki doesn't cover enough for me to fully understand, and I did read the links yesterday too. Which is why I tried to make this new thread to get a better grasp of just the backdoor Roth.

The alphabet/number soup of all of the plans available seems to confuse a lot of people.

Placeholder thank you for the very helpful comments on my simplify/rebalance post. I started a new thread to try to get more people to read and comment on the Roth issue. Yes his 401k has good selections now. but they change at the employer's sole discretion, and they have already made changes for the worse at times.

Maybe I am too detail oriented and missing the forest for the trees here. I am now unsettled that there IS a 401k Roth that is almost never being mentioned in Roth discussions. That is so confusing since I thought I was finally getting the concept that 401k monies and IRA monies are "different" which is why you have to convert IRAs to 401k to do the backdoor Roth without the extra taxable calculations. So how can there be a 401k Roth? It sounds like saying a poodle has kittens to me!

For this discussion, is the 401k Roth being mentioned in my husband's 401k plan the same as the Roth IRA we have been using? The same limits seem to apply.

It looks easy to simply select it as an option for my husband's 401k contributions. But when I click on all of the specific plan links we are excluded due to income. We are just over the income limit of 191,000 married filing jointly by a few 1000.

Yes there is employee match in addition to these percents in His 401k.

The catch up provision for age 50 automatically stops when it hits 5500% so I set it at a higher percent to max it out earlier in the year. The pretax election starts being a post tax election once it hits the 17,500 (23,000 this year) and you can only set it as a percent. The existing after tax contributions were due to miscalculating what % was needed to hit 17,500 due to some varying income, and a several paycheck delay in adjustments going through (ok, and me forgetting to check back in that the contributions would hit the right number).

Why would I want to do all of the steps to do a backdoor Roth for my husband when I can just increase the after tax contributions? What is the downside to after tax 401k ? It seems the upside is not paying tax on growth until you take it out. But that is similar to a taxable investment without dividends, especially if in a tax advantaged such as a tax balanced account.

I think our retirement income will be less than now. But with rental income, social security, and 401k and IRA distributions maybe retirement income will end up being the same or more by then.

On the one hand I like to optimize every possible advantage. On the other, there sure are a lot of factors and steps in a backdoor Roth for us ! Lots of people keep making it sound like backdoor Roths are a crucial extra opportunity for tax advantaged growth,so it makes it sound important to have.

Can someone comment on the seeming contradiction of no income or contribution $ limit on backdoor Roth, yet people keep mentioning doing 5500$ as the backdoor $ amount they are discussing?

Thank you all for the clarity. All of your comments really are adding up to help me and hopefully others understand the backdoor Roth *complications* better.

lafder
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Re: ? "caution" section on backdoor Roth wiki

Post by sscritic »

Lafder wrote: Can someone comment on the seeming contradiction of no income or contribution $ limit on backdoor Roth, yet people keep mentioning doing 5500$ as the backdoor $ amount they are discussing?
Repeat: a backdoor is two steps. A backdoor is two steps. A backdoor is two steps.

Each step might have a limit. The limit isn't on the backdoor, the limits are on the separate steps.


There is a limit on contributions. There is an income limit on what of your contribution can be deducted.* There is an income limit on direct Roth contributions. There is no limit on conversion.

The maximum one time backdoor: 1) contribute to limit on contributions (don't worry about the limit on deductions). 2) Convert.

This gets around the income limit on direct Roth contributions.

The basic limit in step 1 is $5500 or compensation, whichever is smaller.

* Being in a retirement plan comes into play here.
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Re: ? "caution" section on backdoor Roth wiki

Post by placeholder »

So how can there be a 401k Roth? It sounds like saying a poodle has kittens to me!

For this discussion, is the 401k Roth being mentioned in my husband's 401k plan the same as the Roth IRA we have been using? The same limits seem to apply.
Roth IRA existed long before the Roth 401k so they borrowed the name when the R401k was invented to show that contributions go in after tax and growth is never taxed but other rules like contribution limits/distribution rules/income limits are all different and no the Roth 401k is not the same.
cherijoh
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Re: ? "caution" section on backdoor Roth wiki

Post by cherijoh »

Lafder wrote:
I thought we are ineligible for a traditional IRA due to income.So, can we make any amount of Non-Deductible IRA contributions even if we exceed the income limit?
Or is the contribution limit 5500? If 5500 why do they say there is no limit on the backdoor Roth transferable amount? Or can you repeat this multiple times in a year?
The $5500 annual contribution limit still applies; but there are NO AGI limits on non-deductible contributions to a Traditional IRA. (This applies whether or not you are doing a Backdoor Roth). The second step in a Backdoor Roth is the conversion of Traditional IRA to Roth. You can convert any amount that is in your IRA to a Roth at any time - BUT you have to pay taxes. So IRA limits apply to the new contributions, but only your balance in the IRA account limits how much you can convert at one time.

If both you and your spouse have roll-over IRAs with pre-tax contributions, I don't think you want to do a Backdoor Roth, so I wouldn't worry about the details.

A Roth 401K works like a traditional 401k except you are making after-tax contributions to it. (Any matching funds are pre-tax). When you eventually make withdrawals, the entire balance (contributions and earnings) are tax -free. So in this way it is analogous to a Roth IRA. However, this is NOT the same thing as making after-tax contributions to a traditional 401-k. In the latter case, any withdrawals are considered to be a split between pretax and after tax dollars and all earnings are taxed. It is basically the same calculation you make with the Back door Roth to determine taxes.
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Re: ? "caution" section on backdoor Roth wiki

Post by DSInvestor »

Lafder wrote:
I thought we are ineligible for a traditional IRA due to income.So, can we make any amount of Non-Deductible IRA contributions even if we exceed the income limit?
Or is the contribution limit 5500? If 5500 why do they say there is no limit on the backdoor Roth transferable amount? Or can you repeat this multiple times in a year?
Roth IRA and Traditional IRA share a $5500 contribution limit for any tax year.

Roth IRA has an income limit that may reduce or eliminate your contribution amount.

Traditional IRA allows for contribution at all incomes assuming there is qualifying taxable compensation. These contributions to TIRA can be deductible or non-deductible. Folks who are not covered by an employer plan can take the full TIRA tax deduction no matter how high the income. Folks who are covered by an employer plan are subject to income limits to determine how much, if any, tax deduction can be taken. The non-deductible contribution amount is called IRA basis and must be tracked by form 8606 to avoid double taxation (once before TIRA contribution and again upon withdrawal).

See IRS page on IRA Deduction limits: http://www.irs.gov/Retirement-Plans/IRA ... ion-Limits

The back door into Roth IRA combines two steps:
1) Contribution to Traditional IRA. No income limit to make the contribution. Contributions cannot exceed the annual limit.

2) Roth conversion. No income limit to do Roth conversion. Convert as much as you want to Roth.

For example, you have 100K Rollover IRA and contribute 5.5K to Traditional IRA where 5.5K is non-deductible due to coverage by employer plan and high income. You decide to convert all 105.5K to Roth IRA. This is a full conversion and will consume all 5.5K IRA basis.
Non-taxable amount of conversion = 5.5K
Taxable amount of conversion = 100K

The tricky part is if you do a partial conversion and there is IRA basis. If instead of converting all 105.5K, you converted 5.5K to Roth, IRS does not allow you to cherry pick that 5.5K basis to give you a tax free conversion. Instead, IRS sees a partial conversion of 5.5K out 105.5K and will demand that you prorate the IRA basis, making most of the conversion taxable. The way to make this a tax free conversion is to rollover the 100K Rollover IRA into your 401k to hide it from form 8606. This way, IRS sees a 5.5K conversion on a 5.5K IRA which is a full conversion.

The backdoor combines these two steps to work around the Roth IRA income limits. There is no backdoor contribution or backdoor conversion. The contribution is a contribution to Traditional IRA. The Roth conversion is simply a Roth conversion.
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Re: ? "caution" section on backdoor Roth wiki

Post by placeholder »

cherijoh wrote:However, this is NOT the same thing as making after-tax contributions to a traditional 401-k. In the latter case, any withdrawals are considered to be a split between pretax and after tax dollars and all earnings are taxed.
No after tax contributions can be withdrawn if the plan is set up that way and will bring a share of earnings but the withdrawals need not be pro rated across all contributions which is what makes the "Mega Backdoor Roth" work.
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Re: ? "caution" section on backdoor Roth wiki

Post by LadyGeek »

The529guy wrote:This post offers a critique of the current Backdoor Roth IRA wiki entry and some suggestions for improvement....
Sorry for the delay. Thank you very much for the help. I have incorporated most of your suggestions into the wiki, including your introduction: Backdoor Roth IRA

Rather than duplicate work, I added a big notice at the top of the article to read tfb's blog. The blog itself has been updated for 2014 (see the bottom of the blog post).

Like you, I'm also an engineer and agree with adding examples. However, I don't have the background to authoritatively write content on backdoor Roth IRAs and will defer to the experts.

If anyone has a detailed example (or any other suggestion), post here and I'll add it to the wiki. Wiki editors should update the article directly.
Wiki To some, the glass is half full. To others, the glass is half empty. To an engineer, it's twice the size it needs to be.
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