First of all, what is a Backdoor Roth IRA? It’s merely a way to contribute to a Roth IRA when your income exceeds the contribution limit of $183,000 (for a couple filing jointly).
The Backdoor Roth IRA procedure removes this restriction. It involves a simple two-step process. First you contribute up to $5,500 to a traditional IRA ($6,500 if you’re age 50 or older). You do not take a tax deduction for this contribution – it is ‘non-deductible’. Then you immediately convert these funds into a Roth IRA. If you want to be sure there are no taxes in the rollover, put your traditional IRA funds into some no- or low-interest investment since any gains are taxed as income when you convert a non-deductible IRA.
Now, if you’re eligible for the Backdoor Roth, you probably are establishing a pretty nice net worth. So, why mess with a $6,500 investment? Remember that Roth IRA growth is never taxed. Suppose you’re now 50 years old and you contribute to the maximum permissible age which is 70. Suppose your IRA grows at 3.5% per year for those 20 years. That produces about $190,000 in value. If both spouses do this, that’s $380,000. Now the real beauty of a Roth IRA can come into play. First, unlike a traditional IRA, there is no required minimum distribution for a Roth. So, you can withdraw funds later than 70-1/2 if you like. Second, you can never withdraw these funds and make them part of your children’s legacy. Then they can have a tax-free income stream for some number of years during their lifetimes.
There can be a few complications associated with a Backdoor IRA. For example, if you have any other (non-Roth) IRAs, the taxable portion of any conversion you make is prorated over all your IRAs — you can’t convert just the non-deductible amount. Another thing to watch is whether you’re eligible to contribute to a traditional IRA. (You are if at least one spouse has earned income that exceeds the amount both spouses put into their IRAs.) Guidepost Financial Planning has helped other clients properly set up Backdoor Roth IRAs and we’d be pleased to advise you on this and any other financial matters. Please visit our website or give us a call at 970.419.8212 so that we can discuss your financial goals in a no-charge, no-obligation initial meeting.
This article is for informational purposes only. This website does not provide tax or investment advice, nor is it an offer or solicitation of any kind to buy or sell any investment products. Please consult your tax or investment advisor for specific advice.