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How to Put Your Money in a Roth IRA Through the "Backdoor"

If you make too much money to contribute to a Roth IRA directly, there are still ways to move money into a Roth through a strategy called the "backdoor." Currently the income limit for a direct contribution to a Roth IRA begins to phase out for single filers with an adjusted gross income between $125,000-$140,000 for 2021. For married filing jointly, it phases out between $198,000-$208,000. For anyone with an AGI (adjusted gross income) over these amounts, there is no contribution allowed.

I make too much, now what?

One way to open the door to a "backdoor" Roth IRA is to contribute to a traditional IRA first. While there are income limits for a tax deduction for contributions to a traditional IRA, there is no income limit for nondeductible contributions to a traditional IRA. In turn there is no income limit to convert the traditional IRA to a Roth IRA.

For instance, if you had $12,000 in nondeductible contributions into a traditional IRA for the last two years, then to convert that amount into a Roth IRA would be tax-free. Since there was tax already paid on that amount, there is no tax consequence for converting it.

Can I convert my traditional IRA to a Roth if I had a tax deduction on my contributions?

Any contributions to a traditional IRA that were deducted on your tax return can be converted to a Roth IRA. However, there will be tax owed on that amount. Only the amount of nondeductible contributions can be converted tax-free. If the traditional IRA had both deductible and nondeductible contributions, then just the percentage of deductible contributions will be taxed in the year of conversion. It can all be converted though.

For example, say you had $12,000 in your traditional IRA, and only $2,000 of it was nondeductible. The whole $12,000 can be converted into a Roth IRA, but only the $2,000 will be tax-free, and the remaining $10,000 will be taxed as ordinary income in the current tax year.

Can I rollover my 401k into a Roth IRA?

Just like the traditional IRA, a 401k can be rolled over into a Roth IRA as well. Since a normal 401k is funded with pretax dollars, the amount rolled over would be taxed as ordinary income to you in that year.

It is very important to weigh the tax consequences if this is an option you are thinking of. For instance, you should take into account how much you've made or will make in the current year, then factor in the amount rolled over. Then figure out what tax bracket you will most likely be in. Doing it all in one year may not be a good idea. Perhaps consider splitting it between a traditional and a Roth IRA, and in future years slowly converting the rest of the Traditional IRA into the Roth IRA. Note that the growth in a traditional IRA will be taxed when converting it into a Roth as well.

Why some may want to consider a "backdoor" Roth IRA.

To be clear, a "backdoor" Roth IRA is just a Roth IRA. It's just the way you get around the income limits to put your money there. If you're over 59 1/2 and have had the Roth for at least five years, the distributions are tax-free. In addition, the account grows tax-free, and currently there is no RMD (required minimum distribution) at age 72, unlike a traditional IRA. Many think tax rates will increase in the years ahead and this is one way to avoid worrying about that later in life.

If you are thinking of saving for the long-term, and want tax-free withdrawals in your "work optional years," then converting over to a Roth IRA may be a good option. Additionally, high income earners that want to start a savings account that gets tax free growth may consider a

"backdoor" Roth IRA. Please check with your tax preparer and advisor before initiating any rollovers.

Content in this material is for general information only and is not intended to provide specific advice or recommendations for any individual. Our investment philosophy takes a forward-looking approach that may not transpire. The economic forecasts set forth may not develop as predicted and there can be no guarantee that strategies promoted will be successful. Investing involves risk and you may lose your principal.


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