Back Door ROTH IRA
FACTS:
Client age 57, single, employed and contributing maximum each year to 401k plan, around $500k W-2 income most years. Client plans to work 15 more years.
Inherited IRA $134,000
Traditional IRA $243,000 (all deductible contributions)
Roth IRA $12,000
401k $130,000
STRATEGY:
Would like to make a 2019 back door Roth IRA contribution taking the following steps:
1. Via direct transfer rollover the proceeds of the $243,000 Traditional IRA to the existing 401k plan, thus making the Traditional IRA balance $0.
2. After step 1 complete, and prior to April 15, 2020, contribute $7,000 to a 2019 Traditional IRA.
3. Immediately convert the Traditional IRA to a ROTH IRA prior to April 15, 2020. When this is done will be taxed on any gain. However, since the $7,000 will be invested in cash inside the Traditional IRA, and since the conversion will take place within a few days of the contribution, there will be next no taxable gain.
QUESTIONS:
1. I am assuming that because the Traditional IRA balance will be $0 at the time of the Roth IRA conversion, the only potential tax liability on the Roth conversion would be on any growth of the $7,000. Do you concur?
2. I am assuming the Inherited IRA Balance is not considered in the Roth conversion. In other words none of the Inherited IRA Balance needs to be converted. Do you concur?
3. Let’s assume that $20,000 of the $243,000 Traditional IRA are non-deductible contributions. Let’s assume the gain/earnings on the $20,000 to be $10,000. I would assume the most efficient strategy would be to rollover the entire $243,000 traditional IRA to the 401k, which would include both deductible and non-deductible contributions and earnings. Then, when distributions are eventually made from the 401k, that the exclusion formula be used to calculate the non-taxable portion of the distribution. I’m curious if there is any compelling reason to separate out now, at the time of this Roth IRA conversion, the non-deductible contributions plus earnings portion.
Permalink Submitted by Alan - IRA critic on Thu, 2020-03-05 00:57
Permalink Submitted by David Dunn on Thu, 2020-03-05 01:30
Thank you for your thoughtful and helpful answers. I had a question about your answer in section 3, as followsTherefore, client should first roll 223k from the IRA to 401k, then convert the 20k (which includes the 7k ND contribution) to the Roth IRA1. Why did you say the 20k includes the 7K? Can’t the client rollover the 223k TIRA first to the 401k, then convert the 20k non-deductible portion of the TIRA to the Roth IRA (an pay no tax doing so), then make the $7,000 2019 TIRA contribution, then convert the $7,000 TIRA to the Roth IRA?2. What does “ND” stand for when you say “7K ND contribution?3. Client would also like to make 2020 back door Roth IRA contribution. I am assuming this process can take place AFTER everything else above has been completed OR could do concurrently with the 2019 back door Rorth IRA contribution? THANK YOU
Permalink Submitted by Alan - IRA critic on Thu, 2020-03-05 02:20
ND = non deductible. Yes, if the 20,000 does not include the current ND contribution, the contribution can be done later and converted, and client ends up with 27,000 in the Roth IRA, paying no taxes. The current year contribution can be done either before or after the IRA to 401k rollover and can be done after that with the order you stated.