Roth Income Limits and Backdoor

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Is there any harm in opening and contributing traditional and instantly moving the a full $7K to my Roth?

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No.

I do it every year.

Can someone lay out how to do the backdoor Roth process as if I were a 5 year old child?

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can someone lay out how to do the backdoor Roth process as if I were a 5 year old child?

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At the beginning of the year I put the Roth IRA limit into a traditional IRA (7k currently). On Vanguard it takes a few days for the money to be settled. Once that is done, Vanguard has a button that allows you to directly convert the Traditional IRA to a Roth IRA. It’s that simple. I’m not sure it’s that easy with other brokerages companies but I assume it’s not difficult.

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If you already have traditional tax deferred IRA funds (not 401k, etc), then when you try to convert your after tax IRA to Roth you will hit the prorata rule which will require you to pay additional taxes on the conversion.

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Thanks for the tip. It’ll all be after tax contributions. My understanding is that I couldn’t get a deferral on traditional IRA contributions because the tax deferral income limits for traditional are lower than the Roth contribution limits.

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If you have a retirement plan at work, even if you don't contribute to it, then you can only make after tax contributions to an IRA. If you already have traditional tax deferred IRA funds (not 401k, etc), then when you try to convert your after tax IRA to Roth you will hit the prorata rule which will require you to pay additional taxes on the conversion.

You're young so you may not have any additional tax deferred IRA's, but older people usually have a rollover or two that messes the conversion up.

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I'd say more than half of the Backdoor Roths I see are jacked up by the pro-rata rule.

That's a.... difficult convo I get to have with clients at tax time.

Point of Information: Using a seperate account doesn't get you around the pro-rata rule.

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I've never understood why there are income limits on a ROTH IRA when converting like that is so simple and legal

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1) Pro-rata rule can make this not so simple for some people

2) Because have you met the people who write laws in DC? Some might call the lack of limits on a conversion a "loophole".

The pro rata rule only applies to your traditional taxable IRA to determine how much tax you owe on the amount you converted to Roth.

Example 1: You have $100,000 in a traditional IRA and it is 100% taxable. You have a Roth IRA with any amount. You can convert any or all of your Traditional IRA into your Roth. The amount you convert to Roth is taxable income.

Example 2: You have $100,000 in a traditional IRA and it is 80% taxable and 20% after tax. You have a Roth IRA with any amount. You can convert any or all of your Traditional IRA into your Roth. The amount you convert to Roth is taxable income for 80% of the amount you converted.

In summary, you can convert as much of your Traditional IRA to Roth IRA as you want to in any tax year. You just pay normal unearned income taxes for the taxable amounts you converted.

Right, but his point was when you get someone with that $100,000 Trad IRA and they are trying to convert the $7,500 contribution, people are surprised to hear that only 7% converts tax free.

If you even remotely think you'll go over the limit might as well backdoor it.