Our savviest clients are always looking for innovative solutions to help save money for the long haul.
Today, let’s talk about the backdoor Roth IRA. What is it and how can it work for you?
This product can help wealthier clients to sidestep some of the income limits of a traditional Roth IRA. A Roth IRA is an attractive vehicle because it enables money to grow tax-free until it is time for retirement.
But, there are limits as to who can use them. In 2021 couples that make more than $208,000, or individuals that make more than $140,000, do not qualify to contribute to a Roth IRA.
A backdoor Roth can change this.
Here are a few steps:
- Add a nondeductible contribution into a traditional IRA.
- Convert your contribution to a Roth IRA. (We are more than happy to help with the paperwork.)
- Only post-tax dollars go into Roth IRAs. This means that if you deduct your traditional IRA contributions and then decide to convert your traditional IRA to a backdoor Roth, you’ll need to give that tax deduction back. We can sit down with your CPA and help take care of all of this.
So, is this worth it?
Roth IRA assets grow tax free. Unlike a traditional IRA that is tax deferred (you pay taxes when you withdraw funds) a Roth IRA grows tax free forever. As long as you wait until you are 59.5 and your Roth IRA has been open for at least 5 years or use one of the other IRS qualified distributions you are able to access this money without tax or penalty.
Keep in mind, if you decide to withdraw funds from your Roth without using a qualified distribution there is a 10% penalty and ordinary income tax on the gains inside of the account. You always have access to what you initially contributed to your account but any gains can only be withdrawn under a qualified distribution to avoid taxes and penalty.
When clients invest, we look at three buckets: taxable, tax free and tax deferred. The goal in many cases is to help clients get as much into the tax-free bucket as possible.
Using a backdoor Roth can be fantastic way for those who may earn above the income limits to take advantage of having tax free growth. There are many ways to efficiently do this and especially with upcoming tax changes we are working with our clients to review this every year. As tax rates go up Roth assets can become more desired and valuable.
Want to learn more about backdoor Roth’s? This can be a complicated topic and I’d love to discuss it in more detail. Send me an email at firstname.lastname@example.org and we can schedule a conversation today.
Stephen Carrigg is the Director of Investment Analysis, Private Wealth Advisor at Integrated Partners. Send him an email at email@example.com