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1. Overview of Retirement Plan Account Types
2. Roth Conversion Basics & Reasons to Convert
3. How the Mega Backdoor Roth Strategy Works
4. In-Plan Roth Conversions & After-Tax Rollovers
5. Examples: Mega Backdoor Roth (with and without Company Match)
6. Examples: Mega Backdoor Roth (Partial Year – 2020)
7. Examples: Mega Backdoor Roth (Full Year – 2021+)…(read more)

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Mega Backdoor Roth Strategies: A Comprehensive Guide

The Mega Backdoor Roth is a tax-advantaged retirement savings strategy that allows high-income earners to contribute more money to their Roth IRA. The strategy involves making after-tax contributions to a company-sponsored retirement plan, such as a 401(k), and then rolling those contributions over into a Roth IRA. This allows individuals to increase their retirement savings and reduce their tax burden.

How does the Mega Backdoor Roth work?

In a traditional 401(k) plan, employees can contribute up to $19,500 per year (as of 2021), with an additional $6,500 catch-up contribution for those aged 50 or older. However, the total contribution limit, including employer contributions, is $58,000 per year (as of 2021). This limit includes all contributions made to the plan, including pre-tax and Roth 401(k) contributions.

With the Mega Backdoor Roth, high-income earners can contribute additional after-tax dollars to their 401(k) plan, up to the total contribution limit of $58,000. Once those after-tax contributions are made, they can be rolled over into a Roth IRA, where they will grow tax-free until retirement.

Why is the Mega Backdoor Roth beneficial?

The Mega Backdoor Roth strategy is beneficial for several reasons. First, it allows high-income earners to contribute more money to their retirement plan than they would otherwise be able to with traditional contributions. Second, because the contributions are made after-tax, the funds can be withdrawn tax-free in retirement. This is beneficial for individuals who expect to be in a higher tax bracket in retirement than they are currently.

Additionally, the Mega Backdoor Roth allows individuals to diversify their retirement savings. By contributing to both a pre-tax and Roth account, individuals can hedge against future tax changes and ensure a tax-efficient retirement income stream.

What are the requirements for utilizing the Mega Backdoor Roth strategy?

To utilize the Mega Backdoor Roth strategy, individuals must have a company-sponsored retirement plan that allows after-tax contributions and in-service withdrawals. Additionally, individuals must meet income and contribution limits. The contribution limits vary depending on the individual’s income and the type of retirement plan they have.

For individuals with a 401(k) plan, the maximum after-tax contribution limit is $38,500 (as of 2021), which, when combined with pre-tax and Roth contributions, cannot exceed the total contribution limit of $58,000.

For individuals with a Solo 401(k) or SEP IRA, the maximum after-tax contribution limit is $58,000 (as of 2021), which cannot exceed the total contribution limit.

It is important to note that not all retirement plans allow for after-tax contributions and in-service withdrawals. Individuals should consult their plan documents or speak with a financial advisor to determine if the Mega Backdoor Roth strategy is feasible.

What are the potential drawbacks of the Mega Backdoor Roth strategy?

While the Mega Backdoor Roth strategy is a tax-efficient way to save for retirement, there are potential drawbacks to consider. First, the strategy may not be feasible for individuals who cannot afford to make after-tax contributions up to the maximum limit. Second, individuals who plan to retire early may want to avoid the Mega Backdoor Roth, as funds cannot be withdrawn penalty-free before age 59 and a half.

Additionally, rolling over after-tax contributions into a Roth IRA may trigger additional taxes if the funds have appreciated since they were originally contributed. Finally, the Mega Backdoor Roth strategy may not be beneficial for individuals who expect to be in a lower tax bracket in retirement than they are currently.

Conclusion

The Mega Backdoor Roth strategy is a tax-efficient way for high-income earners to increase their retirement savings and reduce their tax burden. Individuals should consult with their financial advisors to determine if the strategy is feasible for their financial situation and retirement goals. By diversifying their retirement savings and taking advantage of tax-advantaged accounts, individuals can ensure a more secure retirement.