Jose Luis Pelaez Inc/Getty Images
A Roth IRA is a great way for savers and investors to grow wealth. The advantages include tax-free growth on money withdrawn after age 59 ½, assuming the account has been open for at least five years.
But high earners often can’t contribute to a Roth IRA. If your modified adjusted gross income (MAGI) is more than $153,000 in tax year 2023 ($228,000 if married, filing jointly), you can’t contribute to a Roth IRA at all.
This situation gave rise to the backdoor Roth and the mega backdoor Roth. They sound similar, but there are many differences between the two strategies. If you’re a high earner, one of them might be worth pursuing.
What is a backdoor Roth IRA?
A backdoor Roth IRA is fairly straightforward. If you make too much to contribute to a Roth IRA, you contribute to a traditional IRA instead. While you can only contribute up to $6,500 to an IRA in 2023 ($7,500 for those 50 and over), there is no specific conversion limit.
Suppose you’ve been contributing to a traditional IRA for years. You could theoretically convert several years of contribution at once, moving them from traditional to Roth. However, if you have pre-tax money in your traditional IRA, you may not be able to move it into a Roth account. This is due to the IRS’s pro-rata rule. And even if this doesn’t apply, the conversion could be taxable.
What is a mega backdoor Roth?
The backdoor Roth is a good way to grow wealth without paying taxes on earnings, but the pro-rata rule makes it infeasible for some. In that case, the mega backdoor Roth might be a viable alternative.
The mega backdoor Roth works a little differently. With this strategy, you usually contribute the maximum amount to a 401(k), which is $22,500 in 2023 ($30,000 for those 50 and over). Then, you contribute an additional $43,500 in after-tax dollars to your 401(k), assuming no employer match. Finally, you convert the money to a mega backdoor Roth, which can be either a Roth IRA or Roth 401(k), if your plan allows.
The reason for the $43,500 limit is this plus either $22,500 or $30,000 puts you at the maximum total contribution for the year. You must deduct that from the $43,500 if your employer offers matching contributions.
To pursue this strategy, your employer’s plan must allow after-tax contributions to their 401(k). It must also allow either in-service distributions or let you move money from an after-tax part of your plan to the Roth 401(k) part of your plan.
While this strategy is more complex than the backdoor Roth, it can be worth it for those who earn a lot — and whose employers’ plans have the characteristics necessary to enable the mega backdoor Roth.
Mega backdoor Roth vs backdoor Roth IRA
Both strategies can give your savings a boost, but each has pros and cons:
Backdoor Roth pros
- Get around income limits: A backdoor Roth allows you to contribute to a Roth IRA, even if your income would normally preclude you from doing so.
- Tax benefits: Money in a Roth IRA can be withdrawn tax-free in retirement, assuming the account has been open for five years.
- No required minimum distributions (RMDs): There are no RMDs for Roth IRAs, so you can withdraw the money whenever you want.
Backdoor Roth cons
- Tax consequences: There could be state, local or federal taxes that apply to backdoor Roth conversions.
- Higher income brackets: Because backdoor Roth conversions mean moving money from a pre-tax bucket to an after-tax bucket, it could move you into a higher income tax bracket.
- Five-year rule: Money must generally sit in a Roth IRA for at least five years before you can withdraw it penalty- and tax-free.
Mega backdoor Roth pros
- Larger contributions: This strategy lets you contribute much more than normal into a Roth IRA (up to $43,500 in 2023).
- Tax-free growth and withdrawals: Once the money is in the Roth account, it can be withdrawn tax-free in retirement.
- Minimizes taxes: If you roll funds into a Roth plan soon after the contribution, you can minimize the taxes you would otherwise pay on gains.
Mega backdoor Roth cons
- Limited availability: To access this strategy, your employer’s plan must allow after-tax contributions to a 401(k), plus either in-service distributions or conversions.
- Tax implications: You may still owe taxes on the money you convert from a traditional 401(k) to a Roth account.
- Five-year rule: Much like the backdoor Roth, money generally must sit in a Roth account for at least five years before you can withdraw it penalty- and tax-free.
Bottom line
The backdoor Roth and the mega backdoor Roth are both viable strategies for getting around the typical income limits of a Roth IRA. The backdoor Roth IRA is best for converting money from a traditional account to a Roth. Meanwhile, the mega backdoor Roth is most suitable for high earners who want to contribute more than the typical contribution limit. Consider working with a financial advisor before committing to one or the other.
FAQs
The backdoor Roth IRA is best for converting money from a traditional account to a Roth. Meanwhile, the mega backdoor Roth is most suitable for high earners who want to contribute more than the typical contribution limit. Consider working with a financial advisor before committing to one or the other.
What is the difference between Backdoor Roth and Mega Backdoor Roth? ›
While both strategies let you get around Roth IRA income limits, they work differently. With a backdoor Roth, you roll funds from a traditional IRA into a Roth IRA. The mega backdoor Roth strategy involves moving money from your 401(k) into a Roth IRA or 401(k).
What are the cons of mega backdoor Roth? ›
Potential disadvantages include:
- Mega-backdoor Roth-capable Solo 401k plans are more complex and have setup and ongoing fees.
- Mega-backdoor Roth contributions can only be Roth, so investors who have a strong desire for traditional contributions (e.g., those in the SSTB phase-out range) may see adverse tax impacts.
The Mega Backdoor Roth is a tax loophole that many affluent individuals take advantage of to put $69,000 into a Roth. If you are familiar with Roth IRAs, you know they are limited to only $7,000 a year in contributions ($8,000 if you're over 50 years old) and they have income phase-outs.
How to avoid pro-rata rule for mega backdoor Roth? ›
An approach to bypass the pro-rata rule: do a “reverse rollover” by rolling all pre-tax IRA funds into a non-IRA-based employer-sponsored workplace retirement plan such as a 401k, 403(b), governmental 457(b) (although the plan must allow for the rollover). A reverse-rollover “empties” pre-tax IRA funds.
What are the downsides of backdoor Roth IRA? ›
Cons: All or part of a backdoor Roth IRA conversion could be a taxable event. You may have to pay federal, state, and local taxes on converted earnings and deductible contributions. Conversions could kick you into a higher tax bracket for the year.
What is the 5 year rule for mega backdoor? ›
The 5-year rule applies to being able to withdraw earnings from a Roth account tax-free and penalty-free after age 59.5. For Roth Solo 401k accounts, the 5-year clock starts separately for each 401k plan, including when rolling over from a previous employer's Roth 401k to a new Roth Solo 401k.
Is Backdoor Roth still allowed in 2024? ›
Another option, if your employer's plan offers it, is the mega backdoor Roth. Under this option you would make after-tax contributions into your employer's 401(k) plan. For 2024 the limit for these after-tax contributions is $46,000.
Is the mega backdoor Roth going away? ›
Is the mega backdoor Roth going away? Right now, the mega backdoor Roth is not going away as long as your employer plan allows it. That's good news! But it's not permanent news – there could be legislation on the way that eliminates the option to make after-tax contributions.
What are the limitations on backdoor Roth IRAs? ›
Understanding Backdoor Roth IRAs
The limits are as follows: For 2023: Between $138,000 and $153,000 for single filers and between $218,000 and $228,000 for joint filers. For 2024: Between $146,000 and $161,000 for single filers and between $230,000 and $240,000 for married couples filing jointly4.
Here's a checklist to determine if a mega backdoor Roth IRA is possible for you: You earn more than $161,000 if your filing status is single or head of household in 2024 (or $153,000 in 2023). For married couples filing jointly, the limit is $240,000 in 2024 (or $228,000 in 2023).
How do I save on taxes with mega backdoor Roths? ›
Put very simply, the mega backdoor Roth strategy entails 2 steps: (1) making after-tax contributions to your 401(k) or other workplace retirement plan, and (2) then doing a conversion either to a Roth IRA or Roth 401(k). (Note that not all plans allow these steps; more details on that below.)
What is the magic of the mega backdoor Roth? ›
This is the magic of a mega-backdoor Roth, a distinctive 401(k) rollover strategy that allows individuals with higher incomes to roll monies over a Roth IRA totaling an amount that exceeds the federal government's limits on contributions.
What is the difference between backdoor and mega backdoor Roth? ›
The backdoor Roth IRA is best for converting money from a traditional account to a Roth. Meanwhile, the mega backdoor Roth is most suitable for high earners who want to contribute more than the typical contribution limit. Consider working with a financial advisor before committing to one or the other.
What is a super backdoor Roth? ›
A mega backdoor Roth allows high-earning investors — who otherwise couldn't put money in a Roth account because of income restrictions — to move money from a 401(k) plan to a Roth IRA or Roth 401(k) plan.
Is Mega backdoor Roth still allowed? ›
At the end of 2023, only about 11% of 401(k) plans permitted mega backdoor Roth conversions, according to data from Fidelity Investments. Before making after-tax contributions, experts recommend reviewing your 401(k) documents to understand your plan's features and restrictions.
How much is mega backdoor Roth worth? ›
Roth 401(k) contributions are not subject to an income limit. By employing the two-step mega backdoor Roth strategy, any high-income individual can contribute as much as $69,000 ($76,500 if catch-up eligible) to a Roth account for 2024.
What is the mega backdoor Roth tax return? ›
Bottom Line. A mega backdoor Roth conversion involves transferring after-tax contributions from a 401(k) to a Roth IRA, and can provide an opportunity to maximize retirement savings with potential tax-free growth. This is a common strategy for high-income earners who are restricted by income limits.
