Author Topic: Backdoor Roth - sanity check please  (Read 5641 times)

k_to_the_v

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Backdoor Roth - sanity check please
« on: March 04, 2016, 07:43:03 AM »
I have been researching backdoor Roth IRAs, and I think I should be able to do this without any hitches. I just need a bit of a sanity check. Here is the relevant information:

  • I am currently above the income limits to contribute directly to a Roth IRA.
  • I am currently maxing out a company-sponsored 401K plan.
  • I do NOT have any existing traditional IRA accounts. My only tax-advantaged plan right now is my 401K.

Based on this, I believe I can:

  • Open a traditional IRA and deposit the max contribution limit of $5500.
  • Convert that $5500 from the traditional to Roth IRA.

As far as I can tell, because I have no existing traditional IRAs, there should be no tax implications of this transaction (unless I happen to earn on the investment in the short time between transactions).

Am I missing anything?

GrowingTheGreen

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Re: Backdoor Roth - sanity check please
« Reply #1 on: March 04, 2016, 09:16:22 AM »
Good news: you are, in fact, sane! Everything looks squared away.

hoping2retire35

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Re: Backdoor Roth - sanity check please
« Reply #2 on: March 04, 2016, 02:21:43 PM »
It will increase your tax burden by $5500 when you rollover.

dandarc

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Re: Backdoor Roth - sanity check please
« Reply #3 on: March 04, 2016, 02:28:07 PM »
It will increase your tax burden by $5500 when you rollover.
Curious what you mean by this?

JustGettingStarted1980

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Re: Backdoor Roth - sanity check please
« Reply #4 on: March 04, 2016, 02:39:36 PM »
Looks like you're good to go!

Oh, and in response to HopingtoRetire's comment:

He already paid taxes on it, so no more taxes on conversion to Roth AND no more taxes on any future gains --> this is the point of the Roth IRA

In addition, this isn't a Rollover from a company IRA to another IRA, this is a Conversion of a Nondeductible Traditional IRA to a Roth IRA

hoping2retire35

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Re: Backdoor Roth - sanity check please
« Reply #5 on: March 10, 2016, 06:47:26 AM »
AH HA. did a irs.gov search, sounds like the Op needs to get his MAGI down. I don't make crazy($71,000 for one person is not so much) HCOL income so these deduction phase outs are not normally in my tax planning thinking. maybe look at some schedule C business.

Zman

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Re: Backdoor Roth - sanity check please
« Reply #6 on: March 10, 2016, 08:07:44 AM »
Ok, so the big time save is to not invest any of your traditional IRA funds. Just leave it in as cash and/or convert to the roth right away. If you invest the funds then you need to call in and start a "re-characterization of funds" which takes a bit and can be a taxable event.    (My experience is with Vanguard and its been easy)

dandarc

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Re: Backdoor Roth - sanity check please
« Reply #7 on: March 10, 2016, 08:13:31 AM »
OP has the backdoor Roth 100% right.

A recharacterization changes the original contribution from traditional to Roth or vice-versa.  A recharacterization can also undo a Roth conversion.  OP does not need to do this.  A backdoor Roth IRA is simple:

1.  Contribute to traditional IRA (which is empty - no tIRA money anywhere to make this work)
1a.  Don't take the deduction (usually because you can't)
2.  Convert to Roth as soon as you can after 1

Doesn't matter if you leave it in cash, although that would certainly minimize any gains - might do that for simplicity if I was going to convert within a day or two, if I was waiting a while, then I'd want the money invested.

zephyr911

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Re: Backdoor Roth - sanity check please
« Reply #8 on: March 10, 2016, 09:16:20 AM »
AH HA. did a irs.gov search, sounds like the Op needs to get his MAGI down. I don't make crazy($71,000 for one person is not so much) HCOL income so these deduction phase outs are not normally in my tax planning thinking. maybe look at some schedule C business.
Why would OP want to make less money just to reduce taxes? Take that to its full logical extent, and he should make $0 to pay $0 taxes.

dandarc

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Re: Backdoor Roth - sanity check please
« Reply #9 on: March 10, 2016, 09:26:27 AM »
AH HA. did a irs.gov search, sounds like the Op needs to get his MAGI down. I don't make crazy($71,000 for one person is not so much) HCOL income so these deduction phase outs are not normally in my tax planning thinking. maybe look at some schedule C business.
Why would OP want to make less money just to reduce taxes? Take that to its full logical extent, and he should make $0 to pay $0 taxes.
I have only a vague idea what either of h2r's posts in this thread mean, even less how they relate to the original question about a backdoor Roth.  Please explain h2r!

hm13hm13

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Re: Backdoor Roth - sanity check please
« Reply #10 on: March 10, 2016, 01:44:01 PM »
A backdoor Roth IRA is simple:

1.  Contribute to traditional IRA (which is empty - no tIRA money anywhere to make this work)
1a.  Don't take the deduction (usually because you can't)
2.  Convert to Roth as soon as you can after 1


Is 1a critical to the backdoor roth? You absolutely cannot take the deduction for it? In 2015, I took 5 mo of maternity leave, so my income is actually below the deductible threshold. This is the only year this will ever happen, so I am curious if I should NOT take the deduction?



MickeyMoustache

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Re: Backdoor Roth - sanity check please
« Reply #12 on: March 11, 2016, 07:13:10 AM »
I did 2 conversions earlier this year and you got it.  It's actually simpler than it sounds at first... open the tIRA, add funds, click the convert to Roth button, done!

mom22boys

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Re: Backdoor Roth - sanity check please
« Reply #13 on: March 11, 2016, 08:14:28 AM »
A backdoor Roth IRA is simple:

1.  Contribute to traditional IRA (which is empty - no tIRA money anywhere to make this work)
1a.  Don't take the deduction (usually because you can't)
2.  Convert to Roth as soon as you can after 1


Is 1a critical to the backdoor roth? You absolutely cannot take the deduction for it? In 2015, I took 5 mo of maternity leave, so my income is actually below the deductible threshold. This is the only year this will ever happen, so I am curious if I should NOT take the deduction?

hm13hm13 - If you can take the deduction for the traditional IRA, most people on the forum will say that you should do that. The reason is because that money will likely be taxed at a higher rate NOW than after you are retired. But....remember that if you do that, then you cannot do #2 in the list, meaning you can't convert it to a Roth IRA.  (Note that I'm assuming you are asking about all 5.5k. I believe you can do a mix)

I did 2 conversions earlier this year and you got it.  It's actually simpler than it sounds at first... open the tIRA, add funds, click the convert to Roth button, done!

+1 for how easy this process is (I'm using Vanguard). I did it last year by putting the 5500 into the tIRA, cash only. Then the next day after it was cleared, I did the conversion online.  Easy peasy.

dandarc

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Re: Backdoor Roth - sanity check please
« Reply #14 on: March 11, 2016, 08:44:56 AM »
A backdoor Roth IRA is simple:

1.  Contribute to traditional IRA (which is empty - no tIRA money anywhere to make this work)
1a.  Don't take the deduction (usually because you can't)
2.  Convert to Roth as soon as you can after 1


Is 1a critical to the backdoor roth? You absolutely cannot take the deduction for it? In 2015, I took 5 mo of maternity leave, so my income is actually below the deductible threshold. This is the only year this will ever happen, so I am curious if I should NOT take the deduction?
It will be a wash if you deduct and convert in the same year.  The tIRA deduction shelter's the taxes, but the Roth conversion is a taxable event, and since you took the deduction, the whole amount is taxable.

Edit to Add: If you can take the deduction, it is highly likely you don't need to do a backdoor Roth IRA anyway.  Limit for regular Roth contribution is higher than the tIRA deduction limit for most people.
« Last Edit: March 11, 2016, 08:52:24 AM by dandarc »

kasperle

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Re: Backdoor Roth - sanity check please
« Reply #15 on: March 11, 2016, 12:28:12 PM »
Seems sane to me. If my understanding of the tax code is correct, you may wish to wait awhile before making the conversion to avoid it counting as a step transaction. The tl;dr there is that the IRS will tax a series of events based on the outcome of that series of events. So if in a single year you make a series of transactions with the end result being that you have a Roth IRA, you may still get taxed as if you had gone ahead and opened the Roth IRA directly.

For folks who are able to contribute directly to a Roth, this is no problem. But given that your income level prevents you from contributing to a Roth, that would not be good.

The article linked above mentions the relatively low likelihood of this being a problem, but I tend to be cautious about these things.
« Last Edit: March 11, 2016, 12:48:17 PM by kasperle »

hoping2retire35

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Re: Backdoor Roth - sanity check please
« Reply #16 on: March 11, 2016, 01:05:00 PM »
AH HA. did a irs.gov search, sounds like the Op needs to get his MAGI down. I don't make crazy($71,000 for one person is not so much) HCOL income so these deduction phase outs are not normally in my tax planning thinking. maybe look at some schedule C business.
Why would OP want to make less money just to reduce taxes? Take that to its full logical extent, and he should make $0 to pay $0 taxes.
I have only a vague idea what either of h2r's posts in this thread mean, even less how they relate to the original question about a backdoor Roth.  Please explain h2r!
If the goal is to back door the roth and the easiest way to do that is with a IRA, that is preferably deductible. So if you make $80k and need to get your MAGI TO $70K then you could put $10k equity into a business. You write off the loss and have hopefully gained an asset. If you make $250k trying to get your MAGI down to $70k  becomes impractical but still can reduce your tax burden. Even if you do not make much off of it you can have this nest egg business once you FIRE. You can have a tax loss 2 out of 5 years in a small business and still write it off.

I know several people that do this with rental income and farms. The rental income makes a lot of money and they pour money into their farms buying more cows, better fences etc. then only claim a small profit(so as to not increase tax liability) in the 3 years that they must but big losses in the two years that they can write off losses. (the goal being having a large farm or any business that takes minimal effort but can make good money in the future.)Basically you build some asset instead of paying taxes. Make sense?

dandarc

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Re: Backdoor Roth - sanity check please
« Reply #17 on: March 11, 2016, 01:36:18 PM »
But if you take the tIRA deduction, you're either not doing a backdoor Roth (just leave it in the tIRA) or you won't come out ahead.  Taking the deduction renders the conversion step 100% taxable.
« Last Edit: March 11, 2016, 01:38:21 PM by dandarc »

dandarc

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Re: Backdoor Roth - sanity check please
« Reply #18 on: March 11, 2016, 01:38:07 PM »
Seriously, "business expenses reduce taxes", while a true statement, has nothing to do with what this thread is about.