Backdoor Roth, when Traditional IRA has a bunch of money in it

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Topic Author
theeryman
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Joined: Tue Mar 15, 2016 12:14 pm

Backdoor Roth, when Traditional IRA has a bunch of money in it

Post by theeryman »

Hey all,

I'm considering doing a Backdoor Roth for myself and my wife...

I've already maxed out my 401(k), including my business contribution, totaling $57k. Also maxed out the family HSA.

It was suggested in another post that I do a Backdoor Roth.

However, I'm trying to wrap my head around the pro-rata, and what my best plan of attack is considering:

I have:
  • $12.5k in Traditional IRA
  • $131k in Rollover IRA
  • $3k in SEP IRA (not a rollover, have not contributed to this in 2020)
These are all in Vanguard.

I'm self-employed. I've already put $6k in my Vanguard traditional IRA for this year (2020).

My wife has:
  • $414k in Rollover IRA (Vanguard)
She has a separate 401(k) plan through her employer, which is with MassMutual

She has made no contributions to her IRA (which is not related to her work plan) so far this year.

We'll be in the 35% or 37% tax bracket by the end of the year.

Suggestions on what I should do, if anything?

Thanks!
Last edited by theeryman on Thu Oct 15, 2020 5:20 pm, edited 12 times in total.
retiredjg
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Re: Backdoor Roth, when Traditional IRA has a bunch of money in it

Post by retiredjg »

Which IRAs belongs to you and which to your wife?

Which IRAs contain a tIRA contribution(s) for 2020? Will this be a deductible or non-deductible contribution(s)?

Is your income too high to contribute to Roth IRA directly?

What is your tax bracket?

Do you have or does she have a plan at work that will accept rollovers from IRA?

Is the SEP IRA active or from an old job?

Just use the crayon button to edit your post.
Topic Author
theeryman
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Joined: Tue Mar 15, 2016 12:14 pm

Re: Backdoor Roth, when Traditional IRA has a bunch of money in it

Post by theeryman »

retiredjg wrote: Thu Oct 15, 2020 3:27 pm Which IRAs belongs to you and which to your wife?

Is your income too high to contribute to Roth IRA directly?

What is your tax bracket?

Is the SEP IRA active or from an old job?
Thanks for the speedy reply. I updated the post answering the questions above.
retiredjg wrote: Thu Oct 15, 2020 3:27 pm Will this be a deductible or non-deductible contribution(s)?
My wife's work offers a 401(k) plan, so I think that means we can't take a deduction(?)
retiredjg wrote: Thu Oct 15, 2020 3:27 pm Do you have or does she have a plan at work that will accept rollovers from IRA?
At first glance it appears they (MassMutual) accept IRA rollovers. They say to reach out to be sure. I don't like the options with MassMutual as much as Vanguard but I'll do whatever make the most sense.
retiredjg
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Re: Backdoor Roth, when Traditional IRA has a bunch of money in it

Post by retiredjg »

theeryman wrote: Thu Oct 15, 2020 3:21 pm Hey all,

I'm considering doing a Backdoor Roth for myself and my wife...

I've already maxed out my 401(k), including my business contribution, totaling $57k. Also maxed out the family HSA.

It was suggested in another post that I do a Backdoor Roth.

However, I'm trying to wrap my head around the pro-rata, and what my best plan of attack is considering:

I have:
  • $12.5k in Traditional IRA
  • $131k in Rollover IRA
  • $3k in SEP IRA (active)
I'm self-employed. I've already put $6k in my Vanguard traditional IRA for this year (2020).
With an active SEP IRA, you should not use the "backdoor". It will be of little benefit to you and something of a hassle. Just don't do it.

Contact the custodian and have your 2020 contribution and associated earnings removed and returned to you. There will be tax and I think a small penalty on the earnings part.

Put your money into a taxable account instead. Or pay down debt if you prefer.

If you really want to do this, you would need to open a 401k or Solo 401k and transfer all the above accounts into that 401k. Then start using the back door.

Or since you may have a 401k, see if you can roll these 3 accounts into the 401k....then start the backdoor procedure.

I'm not entirely comfortable with the idea that you are using both a 401k and a SEP IRA. There may be problems there, but I'm not clear on those rules.


My wife has:
  • $414k in Rollover IRA
She has an employer. She has no contributions to her IRA so far this year.

These are all in Vanguard.
Did you mean she has an employer plan? If yes, what kind?
retiredjg
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Re: Backdoor Roth, when Traditional IRA has a bunch of money in it

Post by retiredjg »

I wonder if we need to start over. Earlier this month you said you had a Solo 401k. Now you have a 401k which you have filled and a SEP IRA which you call "active". I'm confused.

A solo 401k and a 401k and a SEP are are all different things for the purposes of the questions you are asking. Before going further down this rabbit hole, let's figure out just what you have and just what your spouse has. And which accounts are actually related to current jobs.
Topic Author
theeryman
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Re: Backdoor Roth, when Traditional IRA has a bunch of money in it

Post by theeryman »

Sorry for any confusion. Part is my use of improper terminology, the rest is simply that I'm still learning :D
With an active SEP IRA, you should not use the "backdoor". It will be of little benefit to you and something of a hassle. Just don't do it.

Contact the custodian and have your 2020 contribution and associated earnings removed and returned to you. There will be tax and I think a small penalty on the earnings part.
By 'active' I simply meant that's it's not a rollover. I opened it a few years ago. I have not contributed to the SEP in 2020. Sorry again for any confusion there.

I have maxed out my Individual 401(k) (I do not have any other type of 401(k)) in 2020 ($57k with contribution from my business). And I maxed out the Traditional IRA in 2020 ($6k).
Did you mean she has an employer plan? If yes, what kind?
Yes, she has an employer 401k plan through MassMutual.
retiredjg
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Re: Backdoor Roth, when Traditional IRA has a bunch of money in it

Post by retiredjg »

Thanks. :happy I think I get it now.

The only hope is to roll all 3 of your IRAs into your current Solo 401k...but I suspect your Solo 401k is at Vanguard....which will not accept a rollover. Is it? Are you willing to move it? Say, to Fidelity?

Same for your spouse. Just how bad are the choices in her plan? I would not put $414k into a mediocre 401k plan.
retiredjg
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Re: Backdoor Roth, when Traditional IRA has a bunch of money in it

Post by retiredjg »

Oh yes, you do not need to have Vanguard return your 2020 IRA contribution to you if you are able to roll everything else into your Solo 401k. You cannot roll that contribution into the 401k though.
index245
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Re: Backdoor Roth, when Traditional IRA has a bunch of money in it

Post by index245 »

Given the balances in both Rollover IRA's (as well as the active SEP IRA), it is not worth the hassle. I'd contribute to a taxable account instead.
Topic Author
theeryman
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Re: Backdoor Roth, when Traditional IRA has a bunch of money in it

Post by theeryman »

The only hope is to roll all 3 of your IRAs into your current Solo 401k...but I suspect your Solo 401k is at Vanguard....which will not accept a rollover. Is it? Are you willing to move it? Say, to Fidelity?
I would if it really made sense, but it's starting to sound like a bigger hassle than it's worth. But tell me if you think it's worth it, as I'm here for your opinions :)
Oh yes, you do not need to have Vanguard return your 2020 IRA contribution to you if you are able to roll everything else into your Solo 401k. You cannot roll that contribution into the 401k though.
I'm not following why, or in what case, I'd need to have my 2020 IRA contribution returned. Mind explaining that part?

Thanks all!
retiredjg
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Re: Backdoor Roth, when Traditional IRA has a bunch of money in it

Post by retiredjg »

theeryman wrote: Thu Oct 15, 2020 6:06 pm
The only hope is to roll all 3 of your IRAs into your current Solo 401k...but I suspect your Solo 401k is at Vanguard....which will not accept a rollover. Is it? Are you willing to move it? Say, to Fidelity?
I would if it really made sense, but it's starting to sound like a bigger hassle than it's worth. But tell me if you think it's worth it, as I'm here for your opinions :)
To be real honest with you, I may not be the best person to give an opinion on this. I am not nearly as pro-backdoor as the majority of the people on this board. Just about everyone else here will tell you to go for it.

Doing the backdoor is easy...a few clicks of a mouse. The documentation on your taxes trips a lot of people up. A few years ago, I decided to stop recommending the backdoor because so many people mess it up. While I no longer recommend it, I still help people with it.

Whether it is worth it to you, I don't know. Most people seem to think so.

What you will have to do is move your Solo 401k to a provider that will accept incoming rollovers so you can get these other 3 accounts out of the way. Then roll those 3 accounts (but not the $6k contribution) into the new Solo 401k. Then you can convert that remaining $6k to Roth IRA. Do your taxes. It will likely be up to you to get this done right - a lot of tax-preparers have no idea what to do. And then you are clear to do it again the following year(s). :happy



Oh yes, you do not need to have Vanguard return your 2020 IRA contribution to you if you are able to roll everything else into your [Solo 401k. You cannot roll that contribution into the 401k though.
I'm not following why, or in what case, I'd need to have my 2020 IRA contribution returned. Mind explaining that part?
When I first said you need to have your contribution returned, I though you were contributing to a SEP IRA each year. That would involve pro-rating your SEP IRA with the backdoor every time you do the backdoor. Most people do not want to do that.

The only way to avoid the pro-rating - since you have now mixed pre-tax and post-tax money in IRA - is to take out the post tax money as if the contribution never occurred. It's a do-over.

If you decide not to go forward with your backdoor plan, I would take advantage of the do-over and have them return that contribution as if you never made it. You have some time to decide - til October 2021.


Roth IRA is a great and wonderful thing. But investing in a taxable account is good as well, not quite as good as Roth, but plenty good enough. You do not have to use Roth IRA to be a successful investor so don't feel any pressure about that.

If you are interested in learning more about the backdoor, there are literally thousands of threads about it. There is also information in the Wiki.
tashnewbie
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Re: Backdoor Roth, when Traditional IRA has a bunch of money in it

Post by tashnewbie »

Just for clarification: is his TIRA ($12.5k) a combination of pretax contributions (that you’ve deducted) and after-tax contributions?

You said you added $6k for 2020. Did you do that for 2019 too?
nolesrule
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Re: Backdoor Roth, when Traditional IRA has a bunch of money in it

Post by nolesrule »

theeryman wrote: Thu Oct 15, 2020 6:06 pm
The only hope is to roll all 3 of your IRAs into your current Solo 401k...but I suspect your Solo 401k is at Vanguard....which will not accept a rollover. Is it? Are you willing to move it? Say, to Fidelity?
I would if it really made sense, but it's starting to sound like a bigger hassle than it's worth. But tell me if you think it's worth it, as I'm here for your opinions :)
It's really not that much of a hassle. I moved my solo 401k from Vanguard to Fidelity for exactly this reason. Fidelity walked me through the application to amend my plan, and then I initiated a bunch of rollovers once the account at Fidelity was opened. Fidelity helped with the transfer of the 401k money, and they gave me instructions for how to handle the rollovers.

Just make sure you don't roll in the non-deductible contributions.
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JDCarpenter
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Re: Backdoor Roth, when Traditional IRA has a bunch of money in it

Post by JDCarpenter »

You say that you are 35-37% marginal bracket now. What do you project for retirement years?

We did no roth conversions when working because we were at top marginal rate. Now, in early retirement years, we have been converting to top of 24% bracket even though we'd otherwise own no taxes (at least through the first 3.5 years). For us, the tax arbitrage made it attractive to wait....
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retiredjg
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Re: Backdoor Roth, when Traditional IRA has a bunch of money in it

Post by retiredjg »

nolesrule wrote: Thu Oct 15, 2020 7:17 pm It's really not that much of a hassle. I moved my solo 401k from Vanguard to Fidelity for exactly this reason.
Do you know if this is something that can be done any time, or must it be at the first of a calendar year?
nolesrule
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Re: Backdoor Roth, when Traditional IRA has a bunch of money in it

Post by nolesrule »

retiredjg wrote: Fri Oct 16, 2020 7:01 am
nolesrule wrote: Thu Oct 15, 2020 7:17 pm It's really not that much of a hassle. I moved my solo 401k from Vanguard to Fidelity for exactly this reason.
Do you know if this is something that can be done any time, or must it be at the first of a calendar year?
The Fidelity adoption agreement allows you to set the amendment date to any date you want (but no earlier than Jan 1, 2007)
cas
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Re: Backdoor Roth, when Traditional IRA has a bunch of money in it

Post by cas »

theeryman wrote: Thu Oct 15, 2020 6:06 pm
Oh yes, you do not need to have Vanguard return your 2020 IRA contribution to you if you are able to roll everything else into your Solo 401k. You cannot roll that contribution into the 401k though.
I'm not following why, or in what case, I'd need to have my 2020 IRA contribution returned. Mind explaining that part?
Because if you leave the $6000 non-deductible contribution in there (and assuming you don't clear the way for the backdoor maneuver by moving all the pre-tax funds in all IRAs to a 401(k)), you need to either

1. Document the basis on Form 8606 this year. Then again fill out Form 8606 every year when there is any IRA withdrawal (e.g. Roth conversions, RMDS), in order to do the pro-rata calculation and document the new basis. Each most-recent Form 8606 must be kept, so that it can be used to fill in parts of any next Form 8606, even if there are years (potentially decades) between Forms 8606. Closely supervise any paid tax-preparer who may fill out the Form 8606 for you, because evidence on these boards is that plenty of paid tax-preparers don't manage to fill out the form correctly. All this must continue to go on as you age (and perhaps cognitive decline starts to creep in). If some other person (spouse, child, paid tax preparer) eventually takes over your financial affairs in your later years, they must understand what is going on with the basis in the IRA and continue to fill out Form 8606. Even after you die (when your IRA funds are inherited), the person who inherits the funds must understand about the basis and continue to fill out Form 8606 until the IRA funds are completely depleted. (If, at some point, someone forgets, doesn't understand, or never knows about the remaing basis ... and therefore ceases filling out the Forms 8606 when necessary ... then this option will default to Option 2 below.) Any individual Form 8606 isn't particularly burdensome to fill out (except if you have to fight with your paid tax preparer over who knows better), but some people find the lifelong/multiple-generation aspects of it unappealing.

-or

2. Abandon that $6000*** basis and pay taxes twice on the $6000. (Once this year and a second time as the money is eventually withdrawn following pro-rata rules.) Having the $6000 in a taxable account will almost certainly come out better than unnecessarily paying tax twice on the same money. (*** If this option is taken in some later year, then the double tax will be paid on whatever portion of the $6000 basis is still remaining in the IRA account(s). This might be less than $6000.)

Of course, if the *other* funds in that $12.5K traditional IRA were non-deductible contributions from 2019 or before, you don't have the option to solve the problem by doing the "return of contribution" approach on that basis.
Topic Author
theeryman
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Re: Backdoor Roth, when Traditional IRA has a bunch of money in it

Post by theeryman »

tashnewbie wrote: Thu Oct 15, 2020 7:16 pm Just for clarification: is his TIRA ($12.5k) a combination of pretax contributions (that you’ve deducted) and after-tax contributions?

You said you added $6k for 2020. Did you do that for 2019 too?
I'm now realizing that I contributed $6k to this tIRA this year and last year (2019) after taxes. I wasn't aware there was a income limit where it was no longer tax deductible (I'm learning!).

I'll look into getting it back.

This thread has been incredibly help to me. Thank you all.
tibbitts
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Re: Backdoor Roth, when Traditional IRA has a bunch of money in it

Post by tibbitts »

I guess I'm missing something, but to me it looks like sooner or later you're going to be paying 37% or more on this tIRA money, barring some unexpected event. In that case why not just convert everything you have in tIRAs now to a Roth this year? I'm only considering your accounts not the spousal accounts. Every year you'll have to do the conversion thing again of course, if you want to contribute more - no way around that at your income level.
retiredjg
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Re: Backdoor Roth, when Traditional IRA has a bunch of money in it

Post by retiredjg »

Unless there is a COVID exception, it is too late to get the 2019 contribution removed. You still have time (almost a year) to get the 2020 contribution removed.

Whatever you do, it appears you will have some basis (already taxed money) in your IRA ("IRA" meaning the combination of your 3 IRAs). It is either $6k or $12k depending on what you do with the 2020 contribution.

You have a few choices.

1. You can document these two contributions on your taxes (a 2019 Form 8606 and a 2020 Form 8606 if you don't remove it) and that basis will affect all distributions from IRA until all your IRA money is gone. You will not have to amend your 2019 taxes - the IRS will accept that form alone (be sure to sign it).

2. You can do #1 and then roll everything but the $12k basis into your Solo 401k after you move it to a different provider (one that allows IRAs to be rolled in). Then convert the $12 to Roth IRA. At that point, you would be clear to do backdoor Roth in future years.

3. You can remove the 2020 contribution and simply abandon the 2019 contribution which just means you don't get credit for having paid taxes on that $6k...you'll eventually pay taxes on it again if you empty the entire IRA. It is not illegal to pay taxes twice on the same dollars.
retiredjg
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Re: Backdoor Roth, when Traditional IRA has a bunch of money in it

Post by retiredjg »

tibbitts wrote: Fri Oct 16, 2020 7:31 pm I guess I'm missing something, but to me it looks like sooner or later you're going to be paying 37% or more on this tIRA money, barring some unexpected event.
Why do you think that? What am I missing? :happy
Topic Author
theeryman
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Re: Backdoor Roth, when Traditional IRA has a bunch of money in it

Post by theeryman »

I don’t have a clue what my income will be in retirement (I’m 42), but hard to imagine it’ll be even close to what it is now
Topic Author
theeryman
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Re: Backdoor Roth, when Traditional IRA has a bunch of money in it

Post by theeryman »

Thanks again for all the help guys.

I got the 2020 contribution back, and am filing an 8606 for 2019.

The form is all ready to go, however, I can't figure out where to send it?? Can anyone point me in the right direction as to where to send the 8606?
tibbitts
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Re: Backdoor Roth, when Traditional IRA has a bunch of money in it

Post by tibbitts »

retiredjg wrote: Sat Oct 17, 2020 8:20 am
tibbitts wrote: Fri Oct 16, 2020 7:31 pm I guess I'm missing something, but to me it looks like sooner or later you're going to be paying 37% or more on this tIRA money, barring some unexpected event.
Why do you think that? What am I missing? :happy
Based on the OP bordering on the 37% marginal bracket this year, income is roughly $600k. OP and spouse both contribute the max to deferred employer plans. With decent investment returns, and, being Bogleheads, will have more taxable savings as well. So... given that the OP is only 42 now, and assuming a "normal" retirement age, I'm not seeing a low tax bracket in the OP's future. Maybe the current 35% instead of 37% (or whatever replaces them), but this doesn't strike me as a 15% situation.
smitcat
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Re: Backdoor Roth, when Traditional IRA has a bunch of money in it

Post by smitcat »

tibbitts wrote: Fri Oct 30, 2020 8:17 pm
retiredjg wrote: Sat Oct 17, 2020 8:20 am
tibbitts wrote: Fri Oct 16, 2020 7:31 pm I guess I'm missing something, but to me it looks like sooner or later you're going to be paying 37% or more on this tIRA money, barring some unexpected event.
Why do you think that? What am I missing? :happy
Based on the OP bordering on the 37% marginal bracket this year, income is roughly $600k. OP and spouse both contribute the max to deferred employer plans. With decent investment returns, and, being Bogleheads, will have more taxable savings as well. So... given that the OP is only 42 now, and assuming a "normal" retirement age, I'm not seeing a low tax bracket in the OP's future. Maybe the current 35% instead of 37% (or whatever replaces them), but this doesn't strike me as a 15% situation.
Maybe, and maybe not - the MFJ 32% rate starts at $350K and they can plan to retire early enough to complete as much Roth conversions as necessary to maintain a decent tax savings. Plenty of time to plan this one out.
YMMV
retiredjg
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Re: Backdoor Roth, when Traditional IRA has a bunch of money in it

Post by retiredjg »

theeryman wrote: Fri Oct 30, 2020 5:28 pm Thanks again for all the help guys.

I got the 2020 contribution back, and am filing an 8606 for 2019.

The form is all ready to go, however, I can't figure out where to send it?? Can anyone point me in the right direction as to where to send the 8606?
Same place you would send a 1040 if you mailed it. Be sure to sign the form.
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