Author Topic: Standard & Mega Backdoor Roth IRA vs. After-Tax Brokerage  (Read 616 times)

rational_dblthinker

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Standard & Mega Backdoor Roth IRA vs. After-Tax Brokerage
« on: December 23, 2018, 06:37:32 PM »
Trying to figure out whether to do the Standard & Mega Backdoor Roth IRAs any longer or just stick with after-tax brokerage.

Background
Age: Late 20s
Income: $175k

Current Savings Snapshot:
  • Pre-tax 401(k): +$60k
  • Roth IRA +$150k
  • HSA +$10k
  • After-tax Brokerage: +$125k

Annual Savings Scheme:
  • Max pre-tax 401(k): +$19k
  • Get company match: +$7k
  • Max pre-tax HSA: +3.5k

Additional post-tax savings of $50k to allocate one of two ways:

Scenario A
  • Backdoors into Roth IRA: $5k Standard + $30k Mega
  • After-tax brokerage: +$15k

Scenario B
  • After-tax brokerage: +$50k

Analysis

Retirement is essentially taken care off
Assuming a real 5% growth rate, my pre-tax 401(k) will grow to $250k and my Roth IRA to $650k at age 60 based purely off current balances.  This doesn't even incorporate some additional pre-tax 401(k) contributions (I'll at least do the company match) I'll be making into my 30s.  So let's conservatively say I'll have at least $1.25M in real retirement dollars (split roughly 50% pre-tax and 50% Roth).  For my generally frugal ways, this is a sufficient retirement fund (and doesn't even account for social security / medicare).

Building after-tax balance for liquid purposes
I'm a few years away from what I consider the most expensive 20 year period of life (call it mid 30s to mid 50s).  During this period, I expect to purchase a ~$750k-$1M home, several $20-50k cars, K-12 & college educations/extracurriculars for a couple kids, healthcare for a family of 4, etc. (you get the idea). I'm wondering, given retirement (post-60)^ is taken care of, if my post-tax savings $ this point forward (beyond pre-tax 401(k) contributions) are best routed towards an after-tax brokerage account. Ensuring liquidity for the heavy expenses I'm projecting for the mid 30s and onwards phase.

Going against the MMM/Bogleheads grain regarding Backdoor Roth IRAs
I don't believe I'm a full-fledged/bonafide Mustacian, meaning I'm a bit too material to live hyper frugally with regard to my family in the middle phase of life.  I know people here and at Bogleheads will talk about always maxing tax-advantaged accounts, especially when I already currently have a reasonable $125k after-tax brokerage balance.  That said, I'd rather see my after-tax brokerage balance grow to a very large # in my 30s and 40s.  Being able to add $50k/year vs. $15k/year (if I were to route the other $35k into the Roth IRA via standard and mega backdoors) seems preferable. 

A key consideration: Accessibility of the Roth IRA
I realize that the annual $35k contribution lots (standard and mega backdoors) can be pulled at any time (and that only the earnings are tied up).  Also I have no real withdrawal ordering issues with my Roth IRA.  All my meaningfully large lots of taxable converted $s (i.e. old employer pre-tax 401(k)s which I foolishly triggered taxes on, during pre-my MMM awareness days, and converted into Roth IRA $s) have already vested for the 5 years.  The only thing sandwiched in between will be the nominal lots of taxable income that accrue on after-tax 401(k) dollars during the brief period before they're Mega Backdoor'd into the Roth IRA following each paycheck.  Annually, these taxable amounts of $100-200 annually are small/negligible.  Meaning to say they don't make it too difficult to pull money from the Roth IRA. 

Thoughts?
« Last Edit: January 05, 2019, 12:21:49 AM by rational_dblthinker »

MDM

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Re: Standard & Mega Backdoor Roth IRA vs. After-Tax Brokerage
« Reply #1 on: December 24, 2018, 12:03:59 AM »
I know people here and at Bogleheads will talk about always maxing tax-advantaged accounts, especially when I already currently have a reasonable $125k after-tax brokerage balance.  That said, I'd rather see my after-tax brokerage balance grow to a very large # in my 30s and 40s.  Being able to add $50k/year vs. $15k/year (if I were to route the other $35k into the Roth IRA via standard and mega backdoors) seems preferable.
Why does it seem preferable to you?

rational_dblthinker

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Re: Standard & Mega Backdoor Roth IRA vs. After-Tax Brokerage
« Reply #2 on: December 24, 2018, 01:58:51 AM »
I know people here and at Bogleheads will talk about always maxing tax-advantaged accounts, especially when I already currently have a reasonable $125k after-tax brokerage balance.  That said, I'd rather see my after-tax brokerage balance grow to a very large # in my 30s and 40s.  Being able to add $50k/year vs. $15k/year (if I were to route the other $35k into the Roth IRA via standard and mega backdoors) seems preferable.
Why does it seem preferable to you?

Because I expect to be putting $150-200k down on a house in about 7-8 years for starters and would have a mortgage 4x that, property taxes and maintenance to cover for an indefinite period that point forward.  Followed by several large one-off purchases (cars, house appliances, unexpected family medical expenses, etc.) not long thereafter.  Followed a bit further down the road by $200-300k/kid for college educations. 

^Admittedly not all that Mustachian.  But as I mentioned in OP, I expect mid-30s to mid-50s to be the highest spend phase of my life.  I've been fairly frugal in my 20s and expect to continue being that way for another half decade or so, and later plan to return to low spendiness nearer traditional retirement age.
« Last Edit: December 24, 2018, 02:18:10 AM by rational_dblthinker »

rational_dblthinker

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Re: Standard & Mega Backdoor Roth IRA vs. After-Tax Brokerage
« Reply #3 on: January 02, 2019, 03:28:18 AM »
Doing a bump on the thread to catch attention of any MMMers who were offline during the holidays.

tl;dr:  I'm already maxing pre-tax 401k and standard non-deductible $6,000 Backdoor Roth IRA.  Now for the next ~$30k of after-tax savings dollars, I'm debating value of putting that money into a taxable brokerage (very likely into VTSAX, which spits out 2% dividends annually which will be taxed at a qualified 15% tax rate, i.e. effective drag on my position is 0.3% annually PLUS the long term 15% tax hit on capital gains when I want to withdraw funds) vs. into the Roth IRA via a Mega Backdoor (this would moot any annual dividend-driven taxes, however nominal^ like the 0.3% effective cost. The annual contributions of ~$35k, via the Standard and Mega Backdoors, will always be accessible BUT gains wouldn't be without triggering the 10% penalty + marginal tax). 


MustacheAndaHalf

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Re: Standard & Mega Backdoor Roth IRA vs. After-Tax Brokerage
« Reply #5 on: January 05, 2019, 08:19:07 AM »
Alright, I'll bite.

Do you plan to wait until retirement to buy a house?  Probably not - so don't put the down payment in a retirement account.  Think of those as separate goals, with separate time frames.  And because you want to buy a house sooner than a retirement account normally allows, I'd agree with putting money in taxable.

If you're flexible on the timing, you can invest more aggressively.  You could have a high percentage of stocks, and then switch to cash when you're within 3-6 months of buying a home.  The aggressive part is this: if the stock market corrects 6-12 months before you want to buy, you instead wait for next year - the flexibility.  If you're buying a house in a specific year, with no flexibility, then you need cash accounts and CDs to make sure the money is all there.

jacoavluha

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Re: Standard & Mega Backdoor Roth IRA vs. After-Tax Brokerage
« Reply #6 on: January 05, 2019, 08:22:31 AM »
You mention college. What about 529 plans? Any tax deduction in your state?
I assume you're married? If so then backdoor Roth is $12k per year. That's $23k now if you didn't make 2018 contributions.
Make sure you have an emergency fund, and necessary insurance.
I'd plan to pay cash for cars.
Regarding future house down payment. Do you already own a home? Will you have equity when time comes to buy future home?

rational_dblthinker

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Re: Standard & Mega Backdoor Roth IRA vs. After-Tax Brokerage
« Reply #7 on: January 05, 2019, 08:45:40 AM »
Alright, I'll bite.

Do you plan to wait until retirement to buy a house?  Probably not - so don't put the down payment in a retirement account.  Think of those as separate goals, with separate time frames.  And because you want to buy a house sooner than a retirement account normally allows, I'd agree with putting money in taxable.

If you're flexible on the timing, you can invest more aggressively.  You could have a high percentage of stocks, and then switch to cash when you're within 3-6 months of buying a home.  The aggressive part is this: if the stock market corrects 6-12 months before you want to buy, you instead wait for next year - the flexibility.  If you're buying a house in a specific year, with no flexibility, then you need cash accounts and CDs to make sure the money is all there.

Thanks for the thoughts!  Definitely flexible.  Although I probably will start shifting to cash 2-3 years ahead of the down payment.  But, on a more general level, good to validate my preference to use the taxable brokerage > Roth IRA (at least in the context of this specific goal).

rational_dblthinker

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Re: Standard & Mega Backdoor Roth IRA vs. After-Tax Brokerage
« Reply #8 on: January 05, 2019, 08:52:49 AM »
You mention college. What about 529 plans? Any tax deduction in your state?
I assume you're married? If so then backdoor Roth is $12k per year. That's $23k now if you didn't make 2018 contributions.
Make sure you have an emergency fund, and necessary insurance.
I'd plan to pay cash for cars.
Regarding future house down payment. Do you already own a home? Will you have equity when time comes to buy future home?

I do need to look into 529 plans.  It's been on my to-do list.  I've just been wary to put too much in.  The educational model in this country looks ripe for overhaul.  My imaginary children are 2 decades plus away from college.  This savings goal I'll probably invest more thought/action once I'm closer to the starting a family phase.

Not married.  Rather projecting cash outlays 10-20 years away.   Putting money into the Roth now entails some risk.  Rules on contributions and seasoned conversions could change, ultimately affecting their accessibility. 

Emergency fund of 6-12 months of expenses, check.

Yep, cash for cars, what I did for my current car and plan to for future purchases.

jacoavluha

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Re: Standard & Mega Backdoor Roth IRA vs. After-Tax Brokerage
« Reply #9 on: January 05, 2019, 10:13:50 AM »
Well there's no right answer. Me, I'd definitely do backdoor Roth. Then probably split the rest taxable vs after tax to 401k. Of course you need to verify that your 401k allows for in plan Roth rollover or in service withdrawal to Roth IRA. You've probably already done so.

rational_dblthinker

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Re: Standard & Mega Backdoor Roth IRA vs. After-Tax Brokerage
« Reply #10 on: January 05, 2019, 06:09:24 PM »
Well there's no right answer. Me, I'd definitely do backdoor Roth. Then probably split the rest taxable vs after tax to 401k. Of course you need to verify that your 401k allows for in plan Roth rollover or in service withdrawal to Roth IRA. You've probably already done so.

I can indeed immediately convert after-tax 401k to a Roth IRA (i.e. the Mega Backdoor).  I've already done the $6k Standard Backdoor into the Roth IRA.  I'll be maxing my pre-tax 401k contribution.  Then it's a question of how much to split between taxable vs. Mega Backdoor.

I'm leaning towards a 70/30 taxable to Mega Backdoor split given my near/medium term savings goals (for houses, cars, healthcare, education).  I'm one of the simpletons who doesn't want to touch the Roth IRA till traditional retirement age.  And instead finance any semi-FIRE phase prior with long term capital gain realizations out of my taxable account.