Mega Backdoor Roth IRA: Maximize Retirement Savings & Tax Benefits

Roth IRAs are one of the greatest gifts ever given to retirement savers.

They enable individuals who qualify to enjoy tax-free withdrawals of their money after they retire, or even earlier in some situations. This can help retirees stretch their savings even further.

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But there’s one big catch when it comes to Roth IRAs.

If you earn too much money, you can’t open or contribute to one. You cannot open or contribute to a Roth IRA if your modified adjusted gross income (MAGI) is:

• $139,000 or more in tax year 2020 ($140,000 in tax year 2021) if you’re single
• $206,000 or more in tax year 2020 ($208,000 or more in tax year 2021) if you’re married and file jointly

But there’s good news. You can still reap the benefits of a Roth account even if your income exceeds these limits by using a technique known as a mega backdoor Roth. This strategy may enable you to sock away tens of thousands of dollars more for retirement this year.

Read More: Roth IRA vs. Roth 401k: How Are They Different?

How Does a Mega Backdoor Roth Work?

Here’s how the process works. If you can check the box on each of the following conditions, then you may qualify to for a mega backdoor Roth IRA.

• Determine the maximum after-tax contribution you can to your traditional 401k account. Make that contribution.
• Roll over or convert this amount to a Roth IRA or Roth 401k. Unlike with a normal Roth IRA conversion, the principal will not be taxable. However, the earnings portion of the rollover will be considered pre-tax and subject to taxation at time of the conversion.

Are You Eligible?

You can only perform a mega backdoor Roth under the following conditions.

• You participate in a 401k plan at work that allows after-tax contributions. Regular 401k contributions are made on an elective deferral, or pre-tax, basis. Fewer than half of 401k plans allow after-tax contributions, so check with your benefit plan administrator before moving forward.
• The 401k plan allows in-service distributions to a Roth IRA or transfer of funds out of the after-tax portion of the account into a Roth 401k. If it doesn’t, you’ll have to wait until after you leave the company to perform a mega backdoor Roth.

How Much Can You Contribute?

With a mega backdoor Roth, you may be able to contribute an additional $37,500 toward your retirement this year — on top of the regular plan contribution limits. If you have access to a Roth 401k at work, you can decide whether to roll over the funds into this Roth 401k or a separate Roth IRA. If your employer only offers a traditional 401k, then you’ll roll over the funds into a Roth IRA.

The bottom line: If you are unable to contribute to a Roth IRA because you earn too much money, or if you still have money left over to save for retirement after maxing out your traditional 401k and IRA, then a mega backdoor Roth might be a smart strategy for you.

The details in performing a mega backdoor Roth can be complex, so you should consult with your financial and tax advisors for guidance in your situation.

Suggested Next Steps for You

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      2. Download your free guide to managing tax burden as an investor.