Mega Backdoor Roth: rollover to Roth IRA worth the hassle?

[Bird In Hand]

I'm planning on starting MBR, but I'm really on the fence about whether to do in-plan rollover to 401k Roth, or roll out to my Roth IRA.  My plan supports both, but in-plan is far more streamlined.  Vanguard makes it dead simple to execute automatic same-day conversion; I set it up once, and forever after my after-tax contributions are converted to Roth 401k the same day they hit my account.

If I roll out to my Roth IRA, I have to make a phone call to Vanguard each time.  There is no fee to do this, but calling Vanguard CS ~26 times a year isn't super appealing.

Of course I could roll out less frequently, but I'm wary of the complications of those converted funds that may have earnings.  I don't have a traditional IRA and don't really feel like setting one up (looks like it would require $1,000-$3,000 to set one up at Vanguard, and I don't qualify for a deductible IRA).  So rolling out earnings into a traditional IRA and contributions to Roth IRA isn't a great option.

My hesitancy about rolling earnings into Roth IRA isn't so much about paying ordinary income tax on those minimal earnings.  It's more about wanting to avoid making my future life more complicated.  I'll have to keep track of up to 26 different conversion amounts (and the associated earnings, if any) per year.  It could end up being hundreds of conversions over the next 10+ years.  It's unclear to me whether I'd ever have to detail any of this information on an IRS form; maybe if my withdrawals never exceed my original contributions before I'm 59.5, then it's nothing to worry about?

The main point in favor of the after-tax going to Roth IRA is that I have access to it while I'm still working.  That could end up being super useful should I continue working at my current employer for quite a while longer, which is a distinct possibility.

For those who have studied or executed MBR, do you have any insight or advice?  Am I imagining that the consequences of mixed contributions/earnings is more complicated than it really is?  Should I consider making things easier in myself by just converting once or twice a year?

[pasadenafr]

Convert automatically, avoiding any gain. Then you can either leave the money there, or roll it over to a Roth IRA at any time. Since the money is already Roth, thanks to the auto-conversion, you don't need to worry about the gains, ever. You can rollover every month, every year, every 10 years if you want, all for $0 tax.

Personally, I use the daily auto-conversion, and roll over to my Roth IRA once I've maxed out for the year, but only because I like the funds available in my RIRA better than the ones available in my 401(k). That's one phone call a year.

The only things to be aware of is that a Roth 401(k) is subject to RMDs, so you will want to roll over at some point before you're 72.5 y-o. That, and the availability of funds in the Roth IRA (including the 5-year clocks)

[seattlecyclone]

Don't worry about the need to track 26 separate conversion events. Your 401(k) provider will combine those all into one 1099-R at the end of the year, listing the total taxable amount. You'll have one number to report and keep documentation on each year, not 26.

How important is it that you have access to this money before you leave the company? What circumstances do you envision yourself taking advantage of that opportunity? I personally wouldn't value that highly enough to be worth spending time talking to customer service on a fortnightly basis, but to each their own. Also have you checked to make sure that you wouldn't have access to this money before leaving the company? My 401(k) allowed in-service withdrawals of certain amounts rolled over, and I believe this included the in-plan conversion amounts. Triple-check the plan documentation before you commit yourself to waiting on hold every other week.

[Bird In Hand]

Convert automatically, avoiding any gain. Then you can either leave the money there, or roll it over to a Roth IRA at any time. Since the money is already Roth, thanks to the auto-conversion, you don't need to worry about the gains, ever. You can rollover every month, every year, every 10 years if you want, all for $0 tax.

I would certainly do it this way if we had in-service distributions from the Roth 401k plan, but we do not.  Once the after-tax has been converted to Roth 401k, I can't touch it until I separate from service.

[Bird In Hand]

Don't worry about the need to track 26 separate conversion events. Your 401(k) provider will combine those all into one 1099-R at the end of the year, listing the total taxable amount. You'll have one number to report and keep documentation on each year, not 26.

Ah...for some reason I was thinking each conversion would have its own 5 year clock.  But it sounds like all conversions within the same calendar year share the same clock and are therefore aggregated as two numbers for the year on the 1099-R (contributions and earnings).  That makes sense, and is much simpler than I was imagining.

How important is it that you have access to this money before you leave the company? What circumstances do you envision yourself taking advantage of that opportunity?

Mainly if I switch to PT in the future, having access to the Roth IRA funds could be handy to help with various expenses.  Having part of our income coming from Roth could result in a lower tuition bills via higher need-based grants.  And supplementing earned income with Roth could reduce the PT hours needed for our living expenses.

Also have you checked to make sure that you wouldn't have access to this money before leaving the company?

According to the SPD and HR, I can't touch the Roth 401k account (except contributing, in-plan conversions, or rolling in funds) until separation. :(

[pasadenafr]

Don't worry about the need to track 26 separate conversion events. Your 401(k) provider will combine those all into one 1099-R at the end of the year, listing the total taxable amount. You'll have one number to report and keep documentation on each year, not 26.

Ah...for some reason I was thinking each conversion would have its own 5 year clock.  But it sounds like all conversions within the same calendar year share the same clock and are therefore aggregated as two numbers for the year on the 1099-R (contributions and earnings).  That makes sense, and is much simpler than I was imagining.

How important is it that you have access to this money before you leave the company? What circumstances do you envision yourself taking advantage of that opportunity?

Mainly if I switch to PT in the future, having access to the Roth IRA funds could be handy to help with various expenses.  Having part of our income coming from Roth could result in a lower tuition bills via higher need-based grants.  And supplementing earned income with Roth could reduce the PT hours needed for our living expenses.

Also have you checked to make sure that you wouldn't have access to this money before leaving the company?

According to the SPD and HR, I can't touch the Roth 401k account (except contributing, in-plan conversions, or rolling in funds) until separation. :(

Hmmm it's a little weird to me that you can convert AT out of the plan but you can't move in-plan converted funds. But there's probably many flavors.

How is this worded in the SPD? In mine, you can't withdraw your Roth 401(k) contributions, but Roth In-Plan conversions are fair play. Unless it's very clear in the SPD, I would ask Vanguard. HR people are not usually very good with these kinds of "niche" technicalities.

[Tigerpine]

Convert automatically, avoiding any gain. Then you can either leave the money there, or roll it over to a Roth IRA at any time. Since the money is already Roth, thanks to the auto-conversion, you don't need to worry about the gains, ever. You can rollover every month, every year, every 10 years if you want, all for $0 tax.

Personally, I use the daily auto-conversion, and roll over to my Roth IRA once I've maxed out for the year, but only because I like the funds available in my RIRA better than the ones available in my 401(k). That's one phone call a year.

The only things to be aware of is that a Roth 401(k) is subject to RMDs, so you will want to roll over at some point before you're 72.5 y-o. That, and the availability of funds in the Roth IRA (including the 5-year clocks)

Also be cognizant that the conversion may involve fees.  My 401(k) charges $20 per such transaction, and for that reason, I limit my conversion to a Roth IRA to once a year.

[Bird In Hand]

Hmmm it's a little weird to me that you can convert AT out of the plan but you can't move in-plan converted funds. But there's probably many flavors.

How is this worded in the SPD? In mine, you can't withdraw your Roth 401(k) contributions, but Roth In-Plan conversions are fair play. Unless it's very clear in the SPD, I would ask Vanguard. HR people are not usually very good with these kinds of "niche" technicalities.

The HR person I talked to was surprisingly well-versed on these topics.  I asked a roundabout question hinting at MBR, and she responded with step-by-step instructions on both in-plan after-tax conversions to Roth 401k, and roll-outs to Roth IRA.  She even talked about the 5 year clock on conversions and when the pro-rata rules might apply to withdrawals.

Unfortunately both the HR rep and the SDP said the same thing about no in-service withdrawals from Roth 401k. There are exceptions for hardship withdrawals, loans, etc., but I can't simply roll out my Roth 401k balances...unless I'm rolling out $$ that was previously rolled in from another plan.

[pasadenafr]

Hmmm it's a little weird to me that you can convert AT out of the plan but you can't move in-plan converted funds. But there's probably many flavors.

How is this worded in the SPD? In mine, you can't withdraw your Roth 401(k) contributions, but Roth In-Plan conversions are fair play. Unless it's very clear in the SPD, I would ask Vanguard. HR people are not usually very good with these kinds of "niche" technicalities.

The HR person I talked to was surprisingly well-versed on these topics.  I asked a roundabout question hinting at MBR, and she responded with step-by-step instructions on both in-plan after-tax conversions to Roth 401k, and roll-outs to Roth IRA.  She even talked about the 5 year clock on conversions and when the pro-rata rules might apply to withdrawals.

Unfortunately both the HR rep and the SDP said the same thing about no in-service withdrawals from Roth 401k. There are exceptions for hardship withdrawals, loans, etc., but I can't simply roll out my Roth 401k balances...unless I'm rolling out $$ that was previously rolled in from another plan.

OK, so the way I see it you have a few options

1) Contribute AT and auto convert daily. No gains, no tax. Leave in the 401(k) and lose the 5 ability of withdrawing your contributions before leaving your remployer.
2) Contribute AT and invest the funds. Then rollover when you're ready. Pay taxes on the gains. One way to limit the tax is to park the money to a money market or ultra short-term bond fund. May or may not be a good idea.
3) Do the above but roll over more often. Yes it's annoying to have to call every two weeks. Maybe you can squeeze it into fewer paychecks than 26?

If you don't want to roll the gains to a tIRA you should be able to simply pay the tax and send them to the Roth IRA with the rest of it.

A few years ago, my plan's auto-conversion feature was quarterly. I did either 2 or 3 (using a MM fund). My plan is at Fidelity, and while it was a little annoying to call them every 2 weeks, we also had a dedicated phone number that made it much easier (less wait and better skilled people). Thankfully I didn't have to do this 24 times a year, because I only contributed to the MBR after maxing out my pre-tax 401(k).

But to answer your question, YES it's worth the hassle.

[Bird In Hand]

My 401(k) allowed in-service withdrawals of certain amounts rolled over, and I believe this included the in-plan conversion amounts.

I missed this the first time.  My plan does say that 401k balances "attributable to rollover contributions' can be withdrawn by contacting Vanguard.  I would not interpret in-plan conversions as rollovers, and certainly HR didn't either, but maybe we're wrong.

[seattlecyclone]

Yeah, worth calling Vanguard to see. The after-tax funds can be withdrawn while in-service, and there's a certain logic to allowing those funds to maintain that character after an in-plan conversion, but logic doesn't always play into these things.

[Bird In Hand]

Good news: my first after-tax contribution went through Friday.

Bad news: I called Vanguard this morning, and they said rolling out the funds to my Vanguard IRA requires paperwork every time.  I call, Vanguard sends me paperwork in the mail, I fill out the paperwork and mail it back, and then Vanguard transfers the money.  What's more, apparently I have to specify the dollar amount that I want rolled out, which will obviously differ from the account balance at the time that the actual transfer occurs (by the time they receive my mail and process it).

I'm tempted to think the rep I talked to is misinformed.  But he seemed to know exactly what I was trying to do, and even offered that I could roll the after-tax into a Roth IRA and the earnings into a traditional IRA.  He also said that were I rolling out to an IRA at another institution, they could process it automatically.  When I pointed out that it seems odd that it's easier to roll out externally vs within Vanguard, he said he was reading the plan document "and it's very clear that this transaction requires a paper trail when rolling to a Vanguard IRA."

I think I'm going to call back and see if a different rep has the same answer.  If so...well this kind of sucks!  Maybe the path of least resistance would be to open a new Roth IRA at Fidelity or Charles Schwab to eliminate the snail mail. :o

Has anyone else experienced this with Vanguard for MBR Roth?

[Bird In Hand]

Ugh, I called back and another rep confirmed the same thing: each and every roll-out would require a snail mail round trip.  Worse, the plan documents require that my spouse signs the paperwork, and it has to be notarized every time.

So the best version of MBR is off the table.  For now I'm settling for the pale imitation: in-plan conversion to Roth.  This removes a lot of the appeal for me, since part if why I wanted the $$ in Roth IRA was to access it (if needed) while still working.  I'll have to give some thought to whether I want to continue with this, or just dump it in taxable.

I know, I know...this is definitely a Mustachian Person Problem.

[seattlecyclone]

What if you don't tell Vanguard's 401(k) department that you're rolling the money over to a Roth IRA? Can you trigger a distribution to your checking account through the website with no paperwork or notarization? You would then have 60 days to contribute the money into your IRA. Note that the one-rollover-per-year rule does not apply to rollovers from workplace plans to IRAs.

[ender]

I have had multiple megabackdoors with Fidelity and they've also confirmed that I have paperwork to do in order to do the inservice rollover to an IRA (even if it was with Fidelity).

I've always opted for auto conversions as a result if I can as the hassle factor just isn't worth it. Plus, it results in less taxable gains on the rollover vs calling in to do a rollover.

Ugh, I called back and another rep confirmed the same thing: each and every roll-out would require a snail mail round trip.  Worse, the plan documents require that my spouse signs the paperwork, and it has to be notarized every time.

So the best version of MBR is off the table.  For now I'm settling for the pale imitation: in-plan conversion to Roth.  This removes a lot of the appeal for me, since part if why I wanted the $$ in Roth IRA was to access it (if needed) while still working.  I'll have to give some thought to whether I want to continue with this, or just dump it in taxable.

I know, I know...this is definitely a Mustachian Person Problem.

Do you have Roth principal elsewhere? I thought about this as an option as I have a lot of Roth IRA principal I could withdraw too if needed as my understanding is once you do a conversion it's subject to the 5 year rule for withdrawals, even if it's in an IRA? maybe this isn't true, as now that I write that it seems off - I've not looked into it too closely.

[seattlecyclone]

Do you have Roth principal elsewhere? I thought about this as an option as I have a lot of Roth IRA principal I could withdraw too if needed as my understanding is once you do a conversion it's subject to the 5 year rule for withdrawals, even if it's in an IRA? maybe this isn't true, as now that I write that it seems off - I've not looked into it too closely.

There's a five-year rule for the taxable part of your conversion. The after-tax principal for your mega backdoor has no five-year seasoning requirement, only the pre-conversion growth that you pay tax on when you convert.

[ender]

Do you have Roth principal elsewhere? I thought about this as an option as I have a lot of Roth IRA principal I could withdraw too if needed as my understanding is once you do a conversion it's subject to the 5 year rule for withdrawals, even if it's in an IRA? maybe this isn't true, as now that I write that it seems off - I've not looked into it too closely.

There's a five-year rule for the taxable part of your conversion. The after-tax principal for your mega backdoor has no five-year seasoning requirement, only the pre-conversion growth that you pay tax on when you convert.

oh TIL, nice. That also makes my spreadsheet tracking Roth principal a lot easier :-)

So if I wanted, I could do the auto conversion on aftertax contributions, then if I decide I want a withdrawal do an inservice distribution to a Roth IRA and then withdraw the contribution amount penalty/tax free?

With auto conversions, then, it'd just be all the contributions and no 5 year requirements (and the gains would be till 59.5). So if I did $10k of megabackdoor auto conversions in 2021, I'd be able to roll say $20k into a Roth IRA (assuming 2x growth because I'm a bad mustachian and #yolo things in my 401k) and then withdraw the $10k in contributions penalty/tax free?

[seattlecyclone]

Right, it's only the taxable part of the conversion that is subject to the five-year rule. It can get messy if you have a mix of taxable conversions and post-tax conversions because the conversions are withdrawn from the Roth IRA in FIFO order, so in some cases you might need to pay a 10% early withdrawal tax on some taxable conversion from three years ago before you're allowed to withdraw the post-tax conversion from two years ago that's free to take out whenever.

[ender]

Luckily I'm looking at only maybe $100 total in taxable conversions (2/3 of my jobs have enabled auto/instant conversions, one I had to call every paycheck to initiate so there was a bit of delay there).

[Bird In Hand]

What if you don't tell Vanguard's 401(k) department that you're rolling the money over to a Roth IRA? Can you trigger a distribution to your checking account through the website with no paperwork or notarization? You would then have 60 days to contribute the money into your IRA. Note that the one-rollover-per-year rule does not apply to rollovers from workplace plans to IRAs.

Interesting thought!  My understanding is that the notarization is required for any money coming out of the plan in-service, so I'm guessing I can't avoid that part no matter what I do.  I'm also hesitant about taking matters into my own hands like this and assuming it "counts" as a after-tax -> Roth conversion in the IRS's eyes.  Since I'm also contributing $6k to my Roth IRA each year, I'm concerned it would look like I'm simply contributing more than the maximum allowed.

[Bird In Hand]

I have had multiple megabackdoors with Fidelity and they've also confirmed that I have paperwork to do in order to do the inservice rollover to an IRA (even if it was with Fidelity).

I've always opted for auto conversions as a result if I can as the hassle factor just isn't worth it. Plus, it results in less taxable gains on the rollover vs calling in to do a rollover.

It's hard to argue with the simplicity of the auto conversions, especially when the alternative is such a pain.  Yes, we lose flexibility because we don't have access to the converted amounts until after separating from service...but big picture, we're able to stuff a bunch more into Roth which will ultimately be very useful for controlling MAGI.