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Part 3/3: How to Successfully Complete a Backdoor Roth IRA Contribution

If you have been following our series on backdoor Roth IRA contributions, you should now have a good understanding of what a backdoor Roth IRA is and why it can be a valuable tool for retirement savings. In this final installment, we will provide you with a step-by-step guide on how to successfully complete a backdoor Roth IRA contribution.

Step 1: Contribute to a Traditional IRA
The first step in the backdoor Roth IRA process is to contribute to a Traditional IRA. This can be done through a bank, brokerage firm, or other financial institution. The maximum annual contribution for 2021 is $6,000 ($7,000 if you are 50 or older), and this amount is subject to annual cost-of-living adjustments. Be sure to make your contribution before the tax-filing deadline for the year in which you are contributing.

Step 2: Convert to a Roth IRA
Once you have made your contribution to a Traditional IRA, the next step is to convert that amount to a Roth IRA. This can be done with the same financial institution or with a different one. You will need to complete a conversion form, where you will specify the amount you wish to convert. There are no income limits for converting Traditional IRAs to Roth IRAs, so anyone can take advantage of this strategy.

Step 3: Pay Taxes
When you convert your Traditional IRA to a Roth IRA, you will need to pay taxes on the amount you are converting. This is because contributions to Traditional IRAs are made with pre-tax dollars, while contributions to Roth IRAs are made with after-tax dollars. The amount you will owe in taxes will depend on your marginal tax rate at the time of the conversion. You can choose to pay the taxes out of pocket or withhold them from the converted amount.

Step 4: Report the Conversion
Finally, you will need to report the conversion on your tax return. You will need to file IRS Form 8606, which is used to track the basis of your Traditional and Roth IRAs. This form will help the IRS determine the taxability of your distributions in the future. Be sure to keep a copy of this form for your records.

By following these steps, you can successfully complete a backdoor Roth IRA contribution and take advantage of the benefits of tax-free growth on your retirement savings. If you have any questions or need assistance with this process, be sure to consult with a financial advisor or tax professional. With careful planning and execution, the backdoor Roth IRA can be a valuable tool for building your retirement nest egg.