Backdoor Roth first? Fresh thread…

Submitted by Amar Patel on Tue, 2014-01-28 02:31

This thread references this other recent thread: https://irahelp.com/forum-post/20535-just-go-through-backdoor-roth-first. I realize that got long… but I get excited as I learn about these financial tools and I take more of my destiny into my own control. 🙂

Anyway, The more I study this, the more I think I understand. For example, I think I understand that doing a full $5500 nondeductible contribution-and-conversion of a TIRA “ahead” of doing a pre-tax rollover into that TIRA in the same calendar year does not necessarily help anything, though the account would be “empty” between the transactions. Pro-rata rules will still apply to the converted amount so long as all the transactions happen in 1 calendar year.

Right?

All of this pro-rata math and taxing can be avoided by 1) leaving the 401(k) where it is, or 2) consolidating the old 401(k) into another 401(k) if the new employer plan allows roll-ins.

Right?

Or, alternatively, I can pick different years for contributions and rollovers. In 2014, my wife can make 2013 and 2014 nondeductible TIRA contributions and convert those immediately. No taxes would be required, assuming no gains between the contribution and conversion. Then, in 2015, she can skip making a backdoor Roth contribution and instead roll and convert the 401(k) to a Roth IRA (paying taxes as needed in the 2015 tax year). Then, in 2016, she can make the 2015 and 2016 nondeductible TIRA contributions (into what would be an empty TIRA by then) and convert those immediately. No taxes on this last step, again assuming no gains between the contribution and conversion.

Right?

Or, if the taxes can be afforded from a checking or savings account now AND if the extra income does not shift us into a higher marginal tax rate AND if we do not have a reasonable expectation of shifting *down* into a lower marginal tax rate, we could go ahead and roll-and-convert her pre-tax 401(k) monies. Turns out, the amount in question is actually closer to $20k, not $5k as initially thought. But, after some preliminary research of 2014 expected tax brackets and expected deductions, exemptions, etc. (as seen in a Forbes article), I didn’t see that we’d change into a new bracket. I’ll check again, but assuming it checks out, 2 benefits of doing this now could be: 1) this gives the money a full calendar year to compound in an IRA (with greater investment options and given years like last year, this could be nice!) and 2) (perhaps most importantly), Congress can change the rules for beyond this year, making tax planning beyond this year moot.

Right?

But even if I got all that right, I’m still not understanding the following statement from the other thread: “Accordingly, you will save on taxes if you max her regular Roth contributions (but you must file jointly), and if you run that math you could do the same as both of you will have the same regular Roth contribution max.” Can someone explain this again in another way?

Thanks for all the help!



Submitted by Alan - IRA critic on Tue, 2014-01-28 03:47

  • Your first paragraph – agree. Any pro rating is based on the values in the TIRA on the last day of the year.
  • Second paragraph – agree
  • Third paragraph  – if she is going to convert the 401k directly to a Roth IRA without first rolling it to a TIRA, the 401k will not affect pro rating. For purposes of making non deductible contributions and converting, she would ignore the 401k to Roth IRA direct rollover. No need to do these transactions in alternate years, as it does not matter when the 401k is rolled to the Roth IRA.
  • 4th paragraph – note that if you are thinking of converting the pre tax 401k to a Roth IRA and paying the taxes, it does not matter if you roll it first to the TIRA instead. Your conversions from the TIRA will be less than 100% taxable because you are making non deductible contributions. In other words, you would be paying the taxes more slowly by rolling it to a TIRA than you would by converting it directly from 401k to Roth IRA.
  • Last paragraph – IF you are eligible for regular Roth contributions, there is no need to make non deductible contributions and expose them to pro rating. If you can make regular contributions there is no additional tax due like there would be if you convert amounts that are pre tax. You must file jointly to make regular Roth contributions unless your income is near -0-. If your modified AGI is in the phaseout range for regular Roth contributions, then it is simpler to go back to the non deductible-conversion method.

Submitted by Amar Patel on Wed, 2014-01-29 04:05

Like usual, the experts at this site do not disappoint.  But, like usual, I have additional follow-on questions:

  • In the third bulleted point, Alan suggests rolling directly from a 401(k) to a Roth IRA.  Completely bypass the TIRA… brilliant!  Except… Schwab didn’t seem to indicate that this was an option to get around pro-rata rules on the nondeductible contribution-and-conversion in the TIRA.  This could have been a Schwab oversight or perhaps I asked my questions of them poorly.  But I’m happy to work with my wife to discuss a direct rollover from the Roth 401(k) at JP Morgan to a Roth IRA at Schwab.  Can someone explain how the pre-tax portion (the employer contributions) are to be handled in such a direct rollover?
  • in the fourth bulleted point, I didn’t understand that part about ” less than 100% taxable” or “paying the taxes more slowly”.  Can that be explained in any other way?

Thanks!  Really, this is so tremendously helpful to me, I really do appreciate it.

Submitted by Alan - IRA critic on Wed, 2014-01-29 21:40

  • We need to clarify the make up of her 401k. A 401k will have a pre tax account and may or may not have a Roth account. If her 401k has both Roth 401k and pre tax 401k balances. and a rollover is done, the Roth portion MUST go to a Roth IRA in a non taxable direct rollover. THe pre tax portion usually goes to a TIRA in a non taxable direct rollover, but CAN be directly rolled to a Roth IRA instead as a qualified rollover contribution that is tantamount to a Roth conversion and therefore subject to tax. If this latter option is elected the TIRA is not involved because the assets are never contributed to it.
  • But if you are going to convert all pre tax assets, the taxable income will be the same whether you convert directly to Roth from the 401k or first roll the pre tax 401k to a TIRA and then convert from the TIRA.
  • Does she have a Roth 401k balance?
  • I know she has a pre tax 401k balance, but are there any after tax contributions in her pre tax account (not the Roth account)> 

Submitted by Amar Patel on Thu, 2014-01-30 03:27

Ignoring the Roth IRA, the wife has:

  • A 401(k) with both Roth balances (via contributions made by my wife herself) and pre-tax balances (via matching contributions made by wife’s previous employer)
  • She will soon have after-tax contributions in a new TIRA at Schwab (just earlier this week we sent off $5500 as her 2013 contribution, which we’ll report on Form 8606 as nondeductible, in prep for a Roth conversion soon after the account is open and funds have settled)

We have not yet done so, but we planned to check with JP Morgan (who administers her 401(k)) to see if *partial* rollovers from there to Schwab were possible in her plan.  If so, we may consider a partial conversion direct to Roth IRA based on expected tax brackets and deductions, etc. for 2014.  If not, we still may consider a full rollover, so long as we don’t bump up into the next tax bracket (not likely) nor have a realistic shot of dropping into a lower one (via maximization of other deductions, etc.).  If we expect to be in the same tax bracket with or without the full rollover, it wouldn’t hurt us too bad to just be out of the 401(k) and have a smaller number of accounts to manage instead of accounts sprawled all over (and the documentation headache to match).

Submitted by Amar Patel on Sat, 2014-02-01 05:22

I’ve read something about a limit on the number of rollovers into a IRA per 12 months.  How might that apply here?  My wife and I will soon convert the nondeductible contributions we just made to a TIRA to our Roth accounts.  We’re still looking at rolling her JP Morgan 401(k) over to the Roth.  Would that be disallowed?  What about the other 401(k)s that we’re trying to combine into the Roth (she still technically works with one of the employers, but went from full-time to part-time, so we’re seeing if they allow it).

Submitted by Alan - IRA critic on Sat, 2014-02-01 18:05

No problem. The one rollover limit does NOT apply to Roth conversions OR to rollovers where a qualified plan is on either end of the transaction. In other words, 401k to IRA does not count and IRA to 401k does not count. Another way of putting this is that the only transactions that ARE subject to the one rollover limit are rollovers between IRAs of the same type (assume SEP IRA and SIMPLE IRA are the same type as TIRA).

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