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"Backdoor" Roth IRA - how to?
Old 06-23-2017, 05:02 AM   #1
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"Backdoor" Roth IRA - how to?

My wife and I are above the earnings threshold for having a Roth IRA. My question is the so called "backdoor Roth" IRA. I have heard people mention a technique where they are able to stash an additional $5,500 per spouse in this type of account.

I am a little clueless when it comes to Roths in general b/c we have always been beyond the threshold for funding one. Any help on the backdoor idea is appreciated.
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Old 06-23-2017, 06:04 AM   #2
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While I have never done a back door Roth, I have been looking into it recently. Here is a great article I found on the subject:

https://www.kitces.com/blog/how-to-d...tion-doctrine/
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Old 06-23-2017, 07:03 AM   #3
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Another link: https://www.bogleheads.org/wiki/Backdoor_Roth_IRA
Be sure to also read the link contained at the top of this link.

A mini-warning. If you read the bogleheads.org forum you will see everyday,
1 or more threads about botched backdoor conversions. I haven't followed them in enough detail to really understand but I have the sense that a lot of the problems come from tax software where the inputs are from an interview, the incorrect answer is given by taxpayer, an error is then made in the tax return, taxpayer doesn't recognize error until IRS comes calling.

The suggestion I have seen is that before you do this, understand the tax situation so that you know what the tax form should look like ahead of time
so any errors can be recognized & fixed. This is not meant to discourage but just cautionary to keep you out of trouble.
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Old 06-23-2017, 08:16 AM   #4
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It's pretty easy IF you don't have anything in a regular IRA at first. Fidelity or Vanguard are two companies that walk you through it holding your hand.

You both fund an IRA - since you are over the income limit, you don't get a tax break.

A few days later, you transfer to two roth IRAs - you have to pay any taxes on growth - but since you just did it, there shouldn't be any. Then you have ROTHs funded. After that they grow tax free - but you don't get any tax benefit this year.

IF YOU ALREADY HAVE IRA's - the transfer must assume some ratio's of IRA earnings and it gets more complex. Either way, this year's tax return is easy to fill out wrong - as the person before said, it's not hard, but you have to be careful.
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Old 06-23-2017, 08:22 AM   #5
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It's pretty easy IF you don't have anything in a regular IRA at first. Fidelity or Vanguard are two companies that walk you through it holding your hand.

You both fund an IRA - since you are over the income limit, you don't get a tax break.

A few days later, you transfer to two roth IRAs - you have to pay any taxes on growth - but since you just did it, there shouldn't be any. Then you have ROTHs funded. After that they grow tax free - but you don't get any tax benefit this year.

IF YOU ALREADY HAVE IRA's - the transfer must assume some ratio's of IRA earnings and it gets more complex. Either way, this year's tax return is easy to fill out wrong - as the person before said, it's not hard, but you have to be careful.
If you open a different IRA account, isn't that the same as not having and IRA? i.e. open an IRA at some other brokerage, put the money in, transfer to a Roth the next day?

Nevermind. I just read the first article. I don't have a regular IRA but I was thinking of doing "back door" Roth contributions from my 401K after I retired.
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Old 06-23-2017, 08:31 AM   #6
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If you open a different IRA account, isn't that the same as not having and IRA? i.e. open an IRA at some other brokerage, put the money in, transfer to a Roth the next day?
For IRS purposes, you only have 1 TIRA even though you may have multiple accounts at various places. They are treated as a single entity for this purpose.
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Old 06-23-2017, 08:37 AM   #7
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.................................. I don't have a regular IRA but I was thinking of doing "back door" Roth contributions from my 401K after I retired.
This would be an ordinary Roth conversion........it wouldn't be a "back door"
Roth contribution.....you can't make contributions if you don't have earned income.
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Old 06-23-2017, 09:24 AM   #8
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Originally Posted by AginMS View Post
While I have never done a back door Roth, I have been looking into it recently. Here is a great article I found on the subject:

https://www.kitces.com/blog/how-to-d...tion-doctrine/
I used exactly that article last year and it worked great.
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Old 06-23-2017, 09:33 AM   #9
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I used exactly that article last year and it worked great.
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Old 06-23-2017, 03:07 PM   #10
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I did it myself, and trust me you don't need any article for that. You can just open a traditional IRA account, fund it with after tax money. Then once funds settled open Roth IRA, and transfer money from traditional to Roth IRA. It is important to do that immediately, to minimize taxes on traditional IRA. It is easier to transfer money within one company, so I have both accounts at Fidelity. Also please make sure you have just one traditional IRA: if you have more, then things are getting more complicated. And you need to have earned income, to contribute to IRA.
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Old 06-23-2017, 03:17 PM   #11
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I did it myself, and trust me you don't need any article for that. You can just open a traditional IRA account, fund it with after tax money. Then once funds settled open Roth IRA, and transfer money from traditional to Roth IRA. It is important to do that immediately, to minimize taxes on traditional IRA. It is easier to transfer money within one company, so I have both accounts at Fidelity. Also please make sure you have just one traditional IRA: if you have more, then things are getting more complicated. And you need to have earned income, to contribute to IRA.
any words of wisdom about tax filing?
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Old 06-23-2017, 03:18 PM   #12
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I cringe whenever i hear the term "backdoor." Im not eligible for the Roth one, and i certainly do not want the other one.
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Old 06-23-2017, 03:36 PM   #13
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any words of wisdom about tax filing?
Well, I funded traditional IRA with after tax money, and it should not trigger any tax event. Otherwise, you need to pay a tax. But once money are in Roth IRA , they grow tax free and this is the major advantage, as I can see it. You can withdraw principal with no tax or penalty at any time. But earnings can be withdrawn tax and penalty free, when you keep account for at least 5 years and at the age of 59.5 only.
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Old 06-23-2017, 03:39 PM   #14
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IF YOU ALREADY HAVE IRA's - the transfer must assume some ratio's of IRA earnings and it gets more complex.
If you aready have IRA with any significant money in them, the proration rules make it (backdoor Roth) a terrible thing to do. Basically, if you put non-deductible money into an IRA you get shafted when you withdraw it, unless virtually *all* the money in the IRA is non-deductible.

And as was already said, the IRS considers you to have only one IRA, regardless of how many separate accounts you have.
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Old 06-23-2017, 04:02 PM   #15
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Well, I funded traditional IRA with after tax money, and it should not trigger any tax event..
And how does IRS know that when you withdraw funds for conversion ?
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Old 06-24-2017, 04:54 AM   #16
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And how does IRS know that when you withdraw funds for conversion ?
The custodian (broker) reports it to the IRS on a 1099 form.

They also report contributions. And if they report a $25,000 contribution to a Roth, the IRS expects to see a $25,000 withdrawal from an IRA.
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Old 06-24-2017, 06:39 AM   #17
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Well, I funded traditional IRA with after tax money, and it should not trigger any tax event..

K:And how does IRS know THAT when you withdraw funds for conversion ?

rayvt: The custodian (broker) reports it to the IRS on a 1099 form.

They also report contributions. And if they report a $25,000 contribution to a Roth, the IRS expects to see a $25,000 withdrawal from an IRA.

K: The question was how does IRS know if you fund TIRA w/ after tax money
and that this is not a taxable event. Yes the 1099R reports the withdrawal but then the bias is to consider the conversion as a taxable event. I believe this is how many of the problems/audits w/ IRS start because the tax reporting is not correct, not necessarily because the tax software is wrong, but because the human interface is susceptible to error if you answer a question incorrectly.
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Old 06-25-2017, 05:30 AM   #18
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"The question was how does IRS know if you fund TIRA w/ after tax money and that this is not a taxable event."
It is up to you to keep track of any after-tax contributions. Form 8606.
Better have great record-keeping procedures, because the time-span between the contribution and the withdrawal may be decades apart.

But the killer is the pro-ration rules for the withdrawals.

Say your total IRA balances are $200,000 and over the years you've made $10,000 after-tax contributions.
The logic is, you paid tax on the $10,000 when you put it in, so you shouldn't have to pay tax when you take it out.

Now you want to withdraw $8000.

You would like to say, "That $8000 comes from the $10,000 I put in after-tax." Like the way you can choose tax-lots when you sell stock.

Can't do that. The IRS says that your withdrawal are prorated among the taxable and non-taxable portions. 10,000/200,000 (5%) is nontaxable and the rest is taxable.
Of your $8,000 withdrawal, $400 is tax-free and $7,600 is taxed.

Next year, the IRA balance has grown back to $200,000 but now $9,600 is after-tax. ($10K minus $400).
You go to withdraw another $10,000.
The nontaxed amount is 9,600/ 200,000 (4.8%) of $10,000, or $480. Your new after-tax balance is $9,120.

And so it goes, Each year a smaller and smaller portion of your withdrawal is non-taxable.

You *never* get to the point where you have recovered all of your after-tax contributons as non-taxed withdrawals -- until you've withdrawn every last penny from all your IRAs.

Worse yet, if you have been very successfully investing and you IRAs total $400,000 instead of merely $200,000, the first-year ratio is 10,000/400,000 or 2.5%. So only $240 of your $10,000 withdrawal is tax-free.
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Old 06-25-2017, 07:00 AM   #19
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Originally Posted by Alex The Great View Post
Well, I funded traditional IRA with after tax money, and it should not trigger any tax event..

K:And how does IRS know THAT when you withdraw funds for conversion ?

rayvt: The custodian (broker) reports it to the IRS on a 1099 form.

They also report contributions. And if they report a $25,000 contribution to a Roth, the IRS expects to see a $25,000 withdrawal from an IRA.

K: The question was how does IRS know if you fund TIRA w/ after tax money
and that this is not a taxable event. Yes the 1099R reports the withdrawal but then the bias is to consider the conversion as a taxable event. I believe this is how many of the problems/audits w/ IRS start because the tax reporting is not correct, not necessarily because the tax software is wrong, but because the human interface is susceptible to error if you answer a question incorrectly.
Contributions are recorded on IRS form 5498. I don't believe this determines if this is before or after tax since you only have after tax $ to contribute to an IRA. The way you get pre-tax contributions is by how you file your tax forms. That is did you claim the IRA deduction on 8606 (I think) and line 32 of the 1040. This is what makes this before tax contribution. So the IRS knows by the combination of the 5498, 8606 and 1040.
The backdoor roth really requires nothing in your TIRA to start. Even if all contributions were after tax, the growth over time has not been taxed. This will require you to prorate the taxable amount which makes it a more like a roth conversion. If you are wondering how the IRS will or should know.. look at the forms mentioned above. By the time backdoor roths became popular, I had too much growth or pretax $ in my IRA from a 401k rollover.

I believe the IRS has enough info to catch mistakes or fraud in this area. However, I don't know if they have the tools. Personally I try to follow the rules. But that is an ethical consideration.
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Old 06-25-2017, 08:00 AM   #20
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It is up to you to keep track of any after-tax contributions. Form 8606.
..............................................
Finally, the magic words! (from both you and bingy bear). The question was motivated by an earlier comment by someone that they had done the backdoor and didn't need to read "no stupid article" (my exaggeration) to do it. The words that followed never listed any tax details on how it was done. Every day
at bogleheads.org, it seems like there are there are several threads about problems w/ doing the backdoor.......like IRS inquiries to taxpayer.....so it appears easy to go astray here.

My point is that there are messy details to attend to and the referenced links provide them if read. I haven't followed the boglehead threads closely enough but I get the sense that the 8606 often isn't filled out correctly by software because of incorrect operator input in the interview. The recommendation has been to learn how to fill it in yourself so , if using software, you will recognize any errors that are produced, if any.
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