Mega Backdoor Roth Untapped Opportunity for Corporate Employees

Chris Reddick |

There are several reasons Roth IRAs are an excellent opportunity to save money for retirement. You put in after-tax money now, so there is no immediate tax saving—but any growth, dividends, and interest are all tax-free after that. The significant part is that this is not just tax-deferred, like a 401(k) or Traditional IRA. So this is an excellent opportunity to maximize your retirement savings.

A Roth IRA has no Required Minimum Distributions (RMDs), so you can leave the money in as long as you want. As a result, Roth IRAs were very suitable for retirement income planning. You can keep contributing to a Roth IRA as long as you have taxable compensation. There is no need to stop at age 72.

There are several limitations, such as the annual contribution limit is $6,000 per person in 2022. In the year you turn 50, you can contribute an additional $1,000. You must have at least that much in “earned income.” Income from a job counts, and net profit from self-employment.

To be eligible for a single person filing taxes as Single or Head of Household, when your Adjusted Gross Income (AGI) is above $144,000 in 2022, you are not permitted to make any contribution directly to a Roth IRA. In addition, there are higher limits that typically change yearly with inflation that should be referred to each year.

The Backdoor Roth has become a familiar term since it became possible in 2010, and you may have heard of it. It’s a workaround that enables high-income people to get up to $6,000 each ($7,000 if they’re 50 or over) into a Roth IRA each year if they follow a complicated procedure.

The Mega-Backdoor Roth is unknown and underutilized. The Mega is a relatively new, relatively rare, and precious opportunity. It’s a way to get a lot of money into a Roth IRA, offering you tax-free growth over the long-term, with no income limitations.

To do a Mega Backdoor Roth, you designate some portion of your paycheck to go into the After-Tax retirement plan. Note that this is not the Roth option on your 401(k). You need to specify After Tax. Your contributions there do not count against your 401(k) contribution limit of $20,500 in 2022. You can defer $20,500 into the tax-deferred 401(k) and still do this.

The total amount that contributed to your 401(k) plan in 2022 is $61,000 (assuming you’re under 50). That amount includes your $20,500 salary deferral and whatever amount your Company adds as a matching contribution and your After-Tax contributions. For example, for 2022, you have an annual limit of $61,000 - $20,500 – [for example] $5,000 match = about $35,500 available to put into after-tax. Then the goal is to roll that $35,500, or whatever amount up to the limit, into a Roth. Make sure you check with someone in your HR and Benefits department or read your plan documents to find out exactly how to complete the process.

Specific recommendations if you have a Mega Backdoor Roth in your corporate job.

1. Always make the maximum possible pre-tax contributions to your Company 401(k) plan first. That’s $20,500 in 2022 under 50. Making pre-tax contributions will lower your taxes in the current year.

2. Now, add an extra amount of withholding per paycheck designated as after-tax contributions (not Roth). You will most likely have to set this up with your HR or financial institution that holds your 401(k) plan. Note that many 401(k) plans do not offer after-tax contributions.

3. Follow whatever steps your Company and whatever financial institution manages your Company’s 401(k) plan require to make sure that the after-tax portion is rolled into your Roth IRA as soon as possible after each contribution is made.

4. After you max out your 401(k), do a Mega Backdoor Roth, then finally do a regular Backdoor Roth IRA above the income limits for a regular Roth contribution.

If the Mega Backdoor Roth is available, this is a powerful vehicle to save for retirement. Reach out to me if you want to learn more about maximizing your retirement savings and reaching your financial goals.


*This content is developed from sources believed to be providing accurate information. The information provided is not written or intended as tax or legal advice and may not be relied on to avoid federal tax penalties. Individuals are encouraged to seek advice from their tax or legal counsel. Individuals involved in the estate planning process should work with an estate planning team, including personal legal or tax counsel. Neither the information presented nor any opinion expressed constitutes a representation of a specific investment or the purchase or sale of any securities. Asset allocation and diversification do not ensure a profit or protect against loss in declining markets.

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