Is the “Back Door” Still a Thing? Roth IRA I Should Say??

Loophole still hasn't been closed. Still in play.

Yea..... I just did 2020 and 2021 last week.

Can someone explain the benefit of the "back door" process? I must not be understanding it properly because I see no value in doing this.

If you are contributing say $5,000 of new money (already taxed income) to a traditional IRA that is already existing, and then sending this to a Roth IRA (backdoor), wouldn't this be the same as just putting $5,000 in your Roth IRA?

Is this just for people that can't contribute to an Roth IRA because of income limits?

Sorry if I'm a dumbass for asking this question, I'm just trying to understand the benefit of the backdoor process.

If you switch it over via “back door” is it still $6000 limit?

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If you switch it over via “back door” is it still $6000 limit?

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The annual contribution limit (6K/7K) applies upon the contribution to the Traditional IRA. There is no statutory limit on how much you can convert to Roth, but the mechanics of a true back door also limit it to that amount.

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If you have other balances, you won't be able to convert the entire 6K/7K tax free, because of the pro rata rules.

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Hmm...would it not be accurate to say that the conversion is tax free but that they will not be able to withdraw Roth funds except in proportion to their Pro Rata calculation at the time of retirement so long as they have a combination of Roth/traditional/nondeductible IRA contributions spread amongst all accounts ending in “IRA?”



Pro rata shouldn’t affect tax due today one bit (assuming non-deductible contribution to a traditional IRA that is then converted, minus any few dollars/cents it gains while sitting in the brokerages account, assuming it yields interest...which still isn’t related to the pro rata calf at all). It just changes how the funds are reported/counted/taxed upon withdrawal.

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But if I have 500,000 in a rollover IRA in my name, am I still able to do the back door Roth without penalty?

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Your question is a little incomplete/vague.
Tax =/= penalty
The only penalty I am aware of with would be if you took an immature (<24m old) SIMPLE IRA and tried to convert it.
You will always have to recognize the money characterized as a Roth conversion as income and pay the appropriate income tax on the sum. The beautiful thing about it is that essentially everyone who makes too much to directly contribute to a Roth IRA is going to have a job that offers them a retirement benefit or be self-employed and eligible, then, for SEP-IRA or Solo 401k. To not have this would be a rarity, so the following would not apply. But it probably does. If you are participating in a qualified pension plan (and a SIMPLE IRA, SEP IRA, and 401k are all examples though there are others), you are not eligible to contribute to a tIRA AND (crucial conjunction) deduct the contribution from your income. You do, however, keep track of this on Form 8606, and that basis can be deducted upon withdrawal from the account. Alternatively, you can’t “realize” a gain from something non-deductible, so you can go ahead and convert that contribution to a Roth without paying any additional taxes on the money.



A closer look at your question and answering it the two ways I think it can be read, though I think you mean the former:
1) can I contribute to a traditional IRA and convert it to Roth if I have $500,000 in a traditional IRA?
Yes. You would not owe any taxes now if you did so (unless you, quite stupidly, tried to take a deduction on the tIRA contribution which would show a big misunderstanding on the whole process and concept). Now here, the pro rata rule is going to apply. There are a lot of places that will explain it better than me, but more or less, Roth/traditional IRA accounts cannot be separated in the eyes of the IRS despite being held across different types of IRA accounts or different brokers. Your Roth/traditional blend applied to all the accounts, and your distributions are taxed based on this percentage, basically.
2) can I convert the $500,000 to Roth without penalty?
Yes. There is no penalty for the conversion (unless some part of it is in a <23 month old SIMPLE IRA). But you will owe income tax on the entire converted amount. If the only amount converted is nondeductible and you have never taken the deduction, then no taxes or penalties apply.


Great article on Backdoor Roth


Now, this is somewhat covered in the article above, but to apply to your proposed situation (in sort of a third way I thought the question may have been intended which is, “can I keep this $500K separate, not subject it to my pro rata calculation, not realize/Roth convert it now, and also still contribute to a backdoor Roth?):
let’s say you wanted to do a backdoor Roth IRA, avoid the pro rata rule for future tax consequences, and not convert any of the existing $500,000 tax-deferred sum.
1) if you have a work 401k that allows a rollover IRA in, just do that. It’s super easy. And the pro rata rule doesn’t apply to 401k. So you can $500,000 in deferred income, continue to contribute after-tax in the account, and at retirement, take distributions from each pile, assuming the plan allows for commingled funds to be treated this way
2) you now have no work retirement account or one that doesn’t allow rollover contributions. Go cut your neighbor’s grass for $20 or fill out online surveys for money, apply for an EIN from the IRS, use that EIN to open a solo 401k at a brokerage that allows you to roll in your old IRA, roll it into the 401k so you don’t pay income tax on $500,000, then do your backdoor Roth to your heart’s content.

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Can I still open a traditional IRA account with 6k and then rollover the 6k for 2020 into a Roth account without penalty?

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Specifically you want to know if there is no penalty for this: no, there is no penalty.


I have highlighted the drawbacks above.
Try googling “pro rata rule” and reading a few explanations of it to make sure you comprehend the drawbacks of your proposition before doing it.


Way too simple explanation: your 401k is irrelevant (unless you can roll the $500K back into it, which you almost definitely should do here),
You have $500K in tax deferred growth.
You want to contribute $6k and convert it to Roth. When you do this, you’ll have $506,000 of IRA funds, 1.2% of which are Roth, 98.8% of which are tax deferred. Let’s just say that you enjoyed equal growth from now until retirement and didn’t add any more funds. When you go to take a distribution, you can’t separate the IRA funds from each other. It doesn’t matter if the traditional is at etrade and the $6000 is at Schwab. In the eyes of the IRS, you have 1.2% Roth IRA and 98.8% traditional in both accounts. So you will pay income tax on 98.8% of all the money withdrawn from either account. Do you benefit from tax-free growth? Absolutely. But you give up the freedom of taking a tax free distribution on a whim from your Roth by having both types of funds.


For fun:
You keep your $150K 401k, roll the current e*trade IRA into that account or are able to utilize the strategy I mentioned above (You’ll have to check me on participating in new company’s 401k and opening a Solo 401k on your self-employed income under your own EIN. I do still think it is applicable, but I’m a guy who listens to a guy talk about this a lot who has never had the motivation or need to flush out the specifics on this strategy. )
In that scenario, you’d have two separate 401k (and can treat them entirely separate) and could contribute to a backdoor Roth, enjoy tax-free growth and distributions in the future from this account.
Advantage here? Retirement you fills up to the 12% bracket in distributions from your tax deferred 401k accounts. And then when you hit the last dollar you pay 12% on and would otherwise have to pay a higher tax rate of 22% (because the tax rates haven’t changed in the 10, 20, or 30 year future for the purposes of this exercise), you pull from the Roth account which comes out tax free, a strategy that’s impossible under the Pro Rata Rule, which is different than saying that it isn’t still advantageous to put every dollar you can into some sort of tax-protected retirement account.



To the guy who suggested there is a penalty associated with this, I do not know what he is talking about and would like to see him reference the “penalty.”
It definitely “ruins” the retirement tax-planning strategy of bracket-filling, but outside of the one scenario I have mentioned, I don’t believe he’s correct about an associated penalty. And, while it gets difficult to “prove” anything with so many variables and assumptions that exist in this field, I still think you’ll always come out ahead even while subject to the pro-rata calc on IRA distributions on the back end, but when alternatives exist, there is clear benefit to avoiding it.

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2) can I convert the $500,000 to Roth without penalty?
Yes. There is no penalty for the conversion (unless some part of it is in a <23 month old SIMPLE IRA). But you will owe income tax on the entire converted amount. If the only amount converted is nondeductible and you have never taken the deduction, then no taxes or penalties apply

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Except that when you convert, you don't get to say, I'm only going to convert my non-deductible amount.

I.e. if you have 60k in a traditional IRA that was deductible(on previous tax years) and you decide to make a non deductible $6k contribution to convert to a roth...you don't get the option of when you make that $6k conversion that you're only converting the non-deductible $6k. Instead, due to the pro-rata rule you're going to pay a proportion of taxes owed on that conversion, at your current income rate...which if you're trying to do a backdoor roth, may mean a higher rate than what you deferred taxes on originally.

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After planning to make a $6,000 Roth IRA contribution, you discover that your modified adjusted gross income is beyond the limit and you are not eligible. You then try a “back door Roth IRA” and make a $6,000 non-deductible IRA contribution (after tax) with the intent to convert it to a Roth IRA and avoid the tax on the conversion. The problem is that you already have a $60,000 IRA from an old 401(k) from a previous employer. As a result, the Pro Rata Rule requires you to include that as part of the calculation for taxes owed on the conversion.

Therefore, you must add up all of your non-Roth IRA funds ($60,000 IRA Rollover) and add up all of your non-deductible IRAs ($6,000 ) and determine the percentage of after tax dollars. In this scenario ($6,000/$66,000 = 9.1%). This is the percent that would be tax free on the conversion. Above all, 90.9% would be TAXABLE. Your attempt to convert $6,000 of a non-deductible IRA (after tax IRA contribution) just resulted in 90.9% of that transaction being taxable

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