[Updated and rewritten on January 1, 2022 after Congress decided to postpone the Build Back Better legislation to 2022.]
President Biden and Congress have been working on the Build Back Better legislation for some time. The House already passed a bill. The Senate has come up with a draft bill. There are some differences between the two versions and there are still some disagreements in what exactly should go into the Senate bill. However, one thing not in disagreement is that Congress wants to ban the backdoor Roth and the mega backdoor Roth. Both the House and the Senate agree this will be part of the Build Back Better package if and when it passes.
These changes, if they become law, will have these effects:
| IRA | Employer Plan | |
|---|---|---|
| Make non-Roth after-tax contribution | Allowed | Allowed |
| Convert pre-tax money to Roth | Allowed* | Allowed* |
| Convert after-tax money to Roth | Not allowed | Not allowed |
* Allowed for everyone through 2031. Still allowed after 12/31/2031 unless your income is above $400k (single) or $450k (married filing jointly).
If the Build Back Better passes, you can still make non-Roth after-tax contributions but you can’t convert those non-Roth after-tax contributions to Roth. This ban covers converting after-tax money from a traditional IRA to a Roth IRA, rolling over after-tax contributions from an employer plan to a Roth IRA, and converting after-tax money in an employer plan to the Roth account within the plan.
Due to the disagreements in other parts of the bill unrelated to backdoor Roth and mega backdoor Roth, President Biden and Congress decided to continue their discussion in 2022. If and when they finally reach an agreement, the effective date will be sometime in 2022 or later.
What should you do if these proposed changes move forward and become law in 2022?
Roth Conversion Isn’t Backdoor Roth
First of all, many people confuse backdoor Roth with a plain vanilla Roth conversion. Although backdoor Roth uses Roth conversion as its second step, a straight-up Roth conversion of pre-tax money isn’t backdoor Roth.
The bills in the House and the Senate allow converting pre-tax money to Roth by anyone for at least 10 years through the end of 2031. Starting in 2032, only those with a high income won’t be allowed to convert pre-tax money. That’s 10 years from now. Who knows what will change by then. If you’re only worried about converting pre-tax money to Roth, please understand it isn’t affected for at least 10 years.
Backdoor Roth – 2021
If the proposals become law in 2022, you’re still allowed to make nondeductible contributions to a traditional IRA for 2021 before April 15, 2022 but you won’t be allowed to convert them to Roth after an effective date to be determined.
If you already contributed to your Roth IRA for 2021 directly and you find out that your 2021 income exceeded the income limit ($125,000 single, $198,000 married filing jointly), you can still recharacterize your Roth IRA contribution to a nondeductible traditional IRA contribution but it’s possible you won’t be able to convert it to Roth in 2022.
Mega Backdoor Roth – 2021
Some employer plans allow non-Roth after-tax contributions and do an automatic conversion on the same day. You’re covered if you signed up for the automatic conversions. If your plan doesn’t offer automatic conversion and you must convert manually, it’s possible your non-Roth after-tax contributions will be stuck after Congress passes the Build Back Better bill.
What About 2022?
As the President and Congress continue their discussion into 2022, we don’t know what the final outcome will be. If you normally do the backdoor Roth in January, should you proceed as usual or should you wait until it’s clear which way it will go? If you’re currently making non-Roth after-tax contributions to an employer plan, should you continue or pause those after-tax contributions?
I see these four possible scenarios:
1. Law Doesn’t Change
It’s possible the discussion reaches an impasse and the bill doesn’t pass in the Senate. If you proceed as usual, you’ll get your backdoor Roth in January. If you wait until say March to learn that the legislation died, you still have time to complete your backdoor Roth and mega backdoor Roth. The difference is only in when, not whether, you complete your backdoor Roth and mega backdoor Roth.
2. Law Changes, Effective 1/1/2023
It’s also possible that the bill passes in the Senate in 2022 with a ban of backdoor Roth and mega backdoor Roth effective 1/1/2023. As far as 2022 is concerned, this is the same as the previous scenario. Either way you’ll get it done in 2022 and the only difference is in which month.
3. Law Changes, Effective Mid-Year with No Advance Warning
Another possibility is the bill passes with no advance warning. Say the bill passes on March 10 with an effective date of March 11. They often do that to avoid a last-minute mad dash to beat the clock. By the time the law changes, it’s already too late to make any changes. Meanwhile, those who performed backdoor Roth and mega backdoor Roth before the effective date won’t be affected.
In this scenario, you’re better off doing the backdoor Roth and mega backdoor Roth before the law changes. You snooze, you lose.
4. Law Changes, Effective 1/1/2022
It’s also possible that the tax law changes will be made retroactive to January 1, 2022. It’s legal and it happened before.
Currently, a Roth conversion or an in-plan Roth rollover can’t be reversed (“recharacterized”). If you already completed the conversion before it’s made illegal retroactively, I imagine they will also give you a one-time exemption to undo it. If you go ahead under the current law, you’ll have the hassle of unwinding your conversion.
In summary,
| Proceed ASAP | Wait | |
|---|---|---|
| Bill fails to pass | $$ in Roth | $$ in Roth |
| Law changes, effective 1/1/2023 | $$ in Roth | $$ in Roth |
| Law changes mid-year | $$ in Roth | miss opportunity |
| Law changes retroactively to 1/1/2022 | unwind conversion | no extra work |
Whether you should go ahead as soon as you can or wait until it’s clear on how the law will change depends on how badly you don’t want to miss an opportunity versus how much you hate the possible hassle of having to undo a conversion. I will proceed ASAP in my personal accounts, but only you can make the decision for yourself.
A Big Loss?
Is it a big loss if the proposed changes become law and you can’t do backdoor Roth and mega backdoor Roth anymore?
It’s a loss because tax-free growth beats tax deferral on the earnings or the lower tax rates on qualified dividends and long-term capital gains. However, the power of saving and investing comes from making the contributions to begin with, not from how the investment returns are taxed.
A taxable account always works. In the end, even if all the tax-advantaged accounts go away and all the returns are taxed as regular income, those who save and invest more will still succeed. You take advantage of all available tax savings but you can’t stake your success on specific tax breaks.
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always_gone says
I’m hoping these proposals never end up seeing the light of day.
Frugal Professor says
+1
However, I’m thinking that the (mega) backdoor Roth is doomed.
null says
The $6k yearly contribution is nothing. Ordinary Americans really have to be able to contribute more to Roth in order to keep up with the heavy inflation.
Lrdx says
This comment doesn’t make sense. The $6k is already indexed for inflation.
David says
Agree with the above comments. One thing I noticed is that there’s still the Roth 401k options that is available and wasn’t addressed in the proposal. Granted it’s not an IRA but it’s still a Roth version
Harry Sit says
The Roth 401k option is still available but it’s only in lieu of pre-tax contributions. It’s usually not a good option for high earners.
TJ says
“This ban covers converting from a traditional IRA to a Roth IRA ”
Normal conversions will be out, too?
So the 5 year conversion ladder would be dead in this proposal?
Harry Sit says
The proposed ban is only on converting after-tax money. A different subsection of the bill bans higher-income people from converting even pre-tax money, but only effective 10 years from now.
Physician on FIRE says
It won’t mean much until it passes the House Committee, House, Senate, and gets signed into law. I expect much of this could change in the meantime.
However, if this section were to stand as written, the backdoor Roth would be available to all for the next 10 years, and after that will be unavailable only to high earners ($400k+).
“In order to close these so-called “back-door” Roth IRA strategies, the bill eliminates Roth conversions for both IRAs and employer-sponsored plans for single taxpayers (or taxpayers married filing separately) with taxable income over $400,000, married taxpayers filing jointly with taxable income over $450,000, and heads of households with taxable income over $425,000 (all indexed for inflation). This provision applies to distributions, transfers, and contributions
made in taxable years beginning after December 31, 2031.”
Weird marriage penalty with singles getting up to $400k in income with married couples only able to add another $50k before the backdoor Roth is disallowed.
Best,
-PoF
Harry Sit says
The part you quoted is about disallowing converting pre-tax money only if you have a high income and it only takes effect 10 years from now. The bill bans everyone from converting after-tax money effective 1/1/2022.
Frank says
I wish there was a single contribution limit that can be freely spread between IRA and employer sponsored plans.
Some people are allowed to max out 403b and 457b accounts, other employers are automatically converting after tax to Roth as soon as the contribution is made; which effectively triples the 401k Roth limit (which is discussed in this article), others offer generous matches or bonus incentives and put them into Traditional 401k’s; which effectively triples the 401 traditional contribution limit, others offer 401k’s with load fees and high fees to the point where it isn’t worth it to participate, while others don’t have access to 401k’s at all.
Harry Sit says
I agree. I think they finally went in the right direction with the HSA. An employer can set up a program with a preferred vendor and do payroll deductions. Both the employer and the employee can contribute. If the employer isn’t willing to do the work, or if you don’t like the employer’s program, you can set up an account and contribute on your own. Regardless of who contributes where, the limit is the same.
Frank says
Contributing to a HSA through payroll deduction saves on payroll taxes. I wish there was a way to get those back.
Eric B says
Yes! It’s incredibly unfair that most people can only contribute $6k/year to retirement plans (IRAs), but then highly compensated people at megacorps are allowed to contribute $50k+/year (401k with mega backdoor Roth).
I’d still mourn the loss of the mega backdoor Roth (were it currently available to me), but this honestly seems like a loophole that should be closed.
Jess says
Hi Harry, thank you for this helpful post. I contribute the maximum to the non-Roth after-tax 401k plan, and am enrolled in the Fidelity automatic Roth-In-Plan conversion, thus its earnings currently should grow tax-free (instead of tax-deferred) even if/after the proposal becomes law in 2022.
1) For my particular case then, is there any need or benefit to still “Complete mega backdoor Roth before 12/31/2021” into my Vanguard Roth IRA? My employer’s 401k plan has good index fund option (e.g. Vanguard 500 Index fund Institutional shares). Or would it be better to let it sit under my Fidelity 401k plan (given that earnings aren’t taxed there anyway)? I thought I can still rollover anytime later during my employment.
2) Can I still rollover money from this bucket into Roth IRA if/after the proposal becomes law? I’m thinking through whether there are any actions needed to take. Thanks your insight.
Harry Sit says
Mega backdoor Roth includes both in-plan conversion and rolling over to a Roth IRA. If these proposals become law, Fidelity will have to stop their automatic in-plan conversions effective 1/1/2022. When you’re contributing the maximum, Fidelity’s automatic conversion is already helping you complete mega backdoor Roth before 12/31/2021.
You’ll need to remember to change your payroll deduction % for the non-Roth after-tax contribution type to zero effective the first payroll in 2022. Otherwise you’ll keep contributing after-tax money but the money won’t be converted.
The already converted money in the Roth 401k can still be rolled over to a Roth IRA after you leave your job.
Jess says
Thank you, Harry! If the proposal becomes law in 2022, looks like it would be better to contribute to regular taxable account since the tax-free growth benefit is lost, and at least in the regular taxable account the earnings will be accessible before age 59.5. So for those who can annually maximize pre-tax 401k (plus company’s match) + Roth IRA + regular taxable account, would it not be better to instead contribute to: ROTH 401k (and get company’s match) + Roth IRA + regular taxable account, so as to shelter more money into tax-advantaged account (in this case into the Roth 401k instead of pre-tax 401k)?
Harry Sit says
I wrote these a long time ago but the principles still apply.
– The Case Against Roth 401(k)
– Roth 401(k) for People Who Contribute the Max
mark says
The way I read this, it only prohibits conversions for contributions made after this year — “effective for distributions, transfers, and contributions made after Dec 31, 2021”.
So, pre-tax contributions made this year (2021) for example, can actually still be converted to Roth next year. However, any new contributions in 2022 are prohibited from the rollover. Do you agree?
This could be an important distinction for those of us making pre-tax 401k contributions this year and planning to convert next year. My employer only allows Roth conversions twice a year.
Harry Sit says
Pre-tax contributions can still be converted whether they’re made in 2021 or 2022. Non-Roth after-tax contributions can’t be converted after 12/31/2021 whether they’re made in 2021 or 2022. See the table in the post.
mark says
Oops, my mistake. In my comment, I mean to say “post-tax” contributions (for a mega-backdoor).
Either way, the proposed law does not appear to prohibit “post-tax” contributions made prior to Dec 31, 2021 from being converted in 2022. The language states it’s only effective for contributions made after that date.
Harry Sit says
Conversion counts as a distribution being rolled over as a “rollover contribution.”
Jon says
If I had a trad IRA that was 90% pretax and 10% taxed would I still be able to do a ROTH conversion on part of it?
Harry Sit says
Only the pre-tax part – yes in the next 10 years, no after 2031 if you have a high income. See the table in the post.
Jon says
So currently if I want to take 1000 out of a 90% pre/10% post traditional IRA and convert it to Roth, my conversion is automatically prorated. $900 will be taken from pre-taxed and $100 from post-taxed.
Are you saying that this will change if the bill goes through and that I will be able to convert $1000 of pre-taxed into the Roth?
Harry Sit says
Right now when you convert $1,000 from your Traditional IRA to your Roth IRA, your IRA custodian doesn’t know how much is pre-tax and how much is after-tax. They send you a 1099-R for $1,000. You do the proration on the tax form and it says $900 is taxable. If the bill passes, the custodian will still send you the 1099-R for $1,000. The IRS will have to change the tax form to remove the proration calculation. That’ll make the entire $1,000 taxable.
jon says
Very clear.
Thank you very much.
Marty Meyer says
So Harry, if the bill becomes law all pre tax IRA contributions sitting in a 401k or IRA will no longer be able to be converted after 12/31/21 regardless of income level?
Harry Sit says
Did you mean after-tax? See the table in the post.
Marty Meyer says
So my regular IRA contributions haven’t been taxed yet. My plan was to convert approximately 200k over the next 10 years to a Roth IRA to build up. If the bill passes is this strategy out the window because conversions won’t be allowed?
Harry Sit says
The bill says converting pre-tax money to Roth will still be allowed for at least 10 years. After 10 years, only those with a high income won’t be allowed to convert pre-tax money.
Achilles says
Harry- if I tell my Plan (Voya) to distribute my 401k after tax on 12/24/21 (my last paycheck for year) and a check gets sent directly to my TD Ameritrade Roth IRA, do you suppose Ameritrade will accept it even if it doesn’t arrive until early January? I assume so, since Ameritrade just cashes the check and really has no reporting requirements.
Harry Sit says
Whenever I run into an ambiguous situation like this, I try to make the results not depend on having the correct answer. Even if they accept the check, maybe it becomes an excess contribution after January 1 when legally you aren’t allowed to roll over after-tax money anymore. Avoid crossing the year-end to begin with.
If the plan offers same-day or next-day in-plan rollover to the Roth 401k account within the plan, go for that. If the plan doesn’t offer that, I would start the process one payroll cycle sooner. Make sure everything is done before the end of the year so there’s no question whatsoever it’s all proper and legal.
David says
Thank you for writing such a clear and detailed article. Very helpful.
My spouse and I file MFS and live together. I have been doing a backdoor Roth IRA because of the 10k roth cut-off for MFS. There is the same cutoff for making deductible/pre-tax contributions to an IRA for MFS filers. With this proposal, would it have the effect of prohibiting traditional contributions for us, as they are not deductible? Or would I just be prohibited from ever converting the funds to Roth, as they are not pre-tax funds?
Harry Sit says
You can still make nondeductible contributions to a Traditional IRA but such contributions can’t be converted to Roth. You still get tax deferral on the earnings. When you eventually take the money out, the earnings will be taxed as ordinary income, not the preferential rate for long-term capital gains.
BRIAN says
If you can still make nondeductible contributions to 401k…
Keep doing that…then upon separation transfer to Roth.
This is how I did my first mega-back-door when I retired.
Might that work?
Harry Sit says
That won’t work if the bill passes. If they want to close the backdoors, they won’t make it so easy to defeat. The non-Roth after-tax contributions won’t be eligible to roll over to Roth. They can only go into a Traditional account.
BRIAN says
Got it, thanks. I was hoping the separation event might be treated as a different case. At my old employer we weren’t able to do in-plan roth converts, separation was the only time we could mega-back-door all of our previous years of after-tax contributions. I was hoping the tax law might include an exception for this case, since there likely are people out there in this situation where they have been stuffing their after-tax account in anticipation of retiring in the next few years and converting upon separation. But logic/consistency often doesn’t apply to this tax stuff.
Brian2 says
Thank you for asking this, Brian. I had a similar question after reading several online articles that implied this would be possible (e.g., https://www.cnbc.com/2021/09/29/what-to-do-if-democrats-ax-the-backdoor-roth-ira-strategy.html: “While the Democrats’ proposal applies to conversions after 2021, employees may still have the option to transfer after-tax 401(k) contributions to a Roth IRA when they retire and roll over their funds, Schmehil said. ‘It appears that the proposal would not impact the current ability to take your after-tax 401(k) contributions and move them to a Roth IRA when you separate from service,’ he said.)
Sean says
So assuming this provision passes as written, am I correct that you will still be able to convert gains above all your cumulative contributions into a non-deductible traditional IRA each year into a Roth?
Let’s assume someone starts fresh with their first traditional IRA in 2022, and they make a $6,000 contribution that is not deductible and therefore becomes basis. Over the year, that $6,000 becomes $7,000. Today, a $1,000 conversion would be 1/7 taxable and 6/7 non-taxable. In 2022, however, you could only convert $1,000, but it would all be taxable, correct? Or is the conversion not allowed at all since the gains were from after-tax dollars?
Thanks.
Harry Sit says
The gains are pre-tax. Converting pre-tax dollars is still allowed by anyone for at least 10 years.
Sean says
Thanks for the quick response!
Expanding on my scenario, what happens if you have $1,000 in gains and you convert that $1,000 gain, but by 12/31 the value of the remaining IRA goes down by $500 to $5,500. Have you now made an illegal conversion? If so, what is the penalty/fix?
Brian2 says
Finance Buff readers may be interested to know that an updated version of this bill has removed the ban on mega backdoor Roth conversions as described here: https://www.mysolo401k.net/good-news-backdoor-roth-and-mega-backdoor-removed-from-pending-reconciliation-bill-build-back-better-act-of-2021/. Of course, this could change back or in some other way before December 31st, so stay tuned for further developments. I’m on the edge of my seat. 🙂
Cleotus says
Unfortunately on November 3rd they revised the bill once again and the ban on after-tax Roth conversions is back. If this current version is passed, there will be no more backdoor Roth or after-tax 401k to Roth conversions.
Brian2 says
Thank you, Cleotus. Time to recontact Congressional representatives again. Hopefully, if it could be removed once, it could be removed again. For anyone interested, here is information on how to register an opinion on this aspect of the legislation: https://www.mysolo401k.net/mega-backdoor-roth-ira-solo-401k-is-under-attackcall-your-senator-representative/. See especially the Call Script subsection past the halfway point of the page.
billy says
I marked this on my calendar for a month from now, the work mega backdoor is a gem for sure.
Don Haskeli says
What is the rationale for favoring a taxable account over an after-tax 401k contribution if Mega Roth is taken away? I see it as a weighing of deferral (after tax) vs flexibility to withdraw (taxable). If you are comfortable with what you have in taxable and/or are close enough to 59 1/2, doesn’t the deferral on the income make sense? Seems like it is not one size fits all here.
Harry Sit says
Investment gains in an IRA are taxed as income, not as long-term capital gains. It takes a long time for the tax deferral to overcome the higher tax rate. Here’s an article from Morningstar (may require free registration):
Without the Backdoor, Aftertax IRA Contributions Don’t Add Up
Mike says
I have a question similar to Sean’s question (#19). The reply indicates the gains are pre tax and eligible for conversion. It is my understanding the IRS requires distributions/conversions to be prorated between pre and post tax balances as of the prior EOY. If traditional IRA balances include both pre and post tax balances that must be prorated, how can gains only (pre tax balance) be converted?
Mike says
A further inquiry on this issue….. If a traditional IRA contains both pre and post tax balances after 12/31/2021, will that (effectively) prohibit any further conversions if conversion is required to be prorated?
Harry Sit says
Suppose you have $100,000 in your Traditional IRA. 90% is pre-tax and 10% is after-tax. First you take a distribution of $10,000, $9,000 of which is pre-tax and $1,000 is after-tax. When the after-tax distribution isn’t eligible to be converted to Roth, you send $9,000 to your Roth IRA and $1,000 to a Traditional IRA.
Or they can drop the pro-rata rule on conversions, because there’s nothing to prorate with when the after-tax contributions aren’t eligible in a conversion. So you can choose to convert any amount up to $90,000 to Roth but not more than that.
D says
I have been thinking about this. I have a tax deferred balance in my 401(k) of about $500K. I am in the 24% bracket. I have been doing both the BD IRA and the MBD 401(k) for 4 years. So essentially, I am taking after tax dollars that are at my marginal rate (24%) making non-deductible contributions, then converting without a gain.
I plan to FIRE and expect that I will be in the 12% bracket for about 10 years. So, if congress shuts down the BD – no more conversions at 24%, and my roth balances don’t grow via contributions anymore. But thinking it through, in FIRE I will be able to convert at 12%, which is a better deal. If I ever want to convert at 24%, I have $500K waiting for me, that can be converted at 24%. No big loss. Just a change in mechanics.
Matt F. says
Should those of us who are set up with a solo mega back door roth IRA consider making our 2021 after tax contributions and conversions prior to the end of the year?
I don’t believe there is any limitation on making this contribution prior to the end of the year provided you don’t make an excess contribution after closing the books.
Harry Sit says
Yes. To avoid excess contributions, be conservative and put in say 90% of your estimate. Getting 90% done by the end of the year beats the risk of missing 100% if you wait.
Aatash P. says
I just read the article and the comments. Have I missed the bus for executing mega-backdoor Roth conversion by 12/31?
I already have a Solo 401K plan with EF and did the conversion earlier this year for 2020. It had taken almost a month to complete the conversion and have the funds in the Vanguard Roth IRA account.
Harry Sit says
An in-plan Roth rollover is usually faster if your plan has enabled that feature.
serbeer says
RE: “If a law passes in 2022, it can be made retroactive to January 1. ” from your newsletter.
What is your take on annual backdoor Roth conversion if the law is dragged into 2022? Normally, I contribute the limit to my and spouse’s NDIRA and convert to Roth as early in the year as possible. If I do so prior to law being enacted later in 2022 and it is made retroactive to January 1st, it will be a problem, correct? So postponing till later in the year until law’s future is clear a good idea? Or will I be missing a chance for last backdoor Roth since with recharacterization prohibited now, they are unlikely to make it retroactive to begin with if law enacted later in 2022? No certainty is possible here of course, but interested in your opinion, so what is your take on it Harry?
Harry Sit says
You have two choices: contribute for 2022 and convert immediately or wait. We don’t know what the law will say or whether it will pass. Running through the possibilities:
– Law doesn’t pass: no difference
– Law passes, effective 1/1/2023: no difference
– Law passes, no lead time for conversion: miss the boat if you wait
– Law passes, retroactive to 1/1/2022: undo the ineligible part of the conversion
I would think if they make it retroactive they’ll let you undo the part you already did before you know it isn’t allowed. So whether you should jump ahead or wait just depends on how badly you don’t want to miss an opportunity versus the possible hassle of undoing it.
sdfjasld says
I’m more worried about the mega backdoor conversion. Sure you can unwind it but I don’t think that money can leave your 401k so you are left with unconverted after-tax contribution which is not ideal as it’s subject to income tax at withdrawal.
Cleotus says
I am unaware of any mechanism to undo the mega backdoor Roth, though the IRS could create one. Due to this I wonder if the IRS would create a big mess by retroactively prohibiting the mega backdoor Roth. I just mailed my contribution to the after-tax 401k and will do the Roth conversion next week. I think the real concern is if Harry’s third option comes true. That’s why I didn’t wait until later in the year.
Rachel says
I think it’s unreasonable that they have not provided a tax preferred option for those without an employer plan but with a “high” income (in many locations, the limit isn’t even high).
For example, someone earning $1M in annual W2 income can contribute to an employer 401K pre-tax (or direct to ROTH).
Someone making $205K without an employer plan cannot contribute to any tax preferred account. Their IRA is non-deductible, thus provides no tax advantage.
It seems unreasonable to allow such a disparity to continue.
A better solution would be to limit the use of tax preferred to [some number] for everyone, and provide for catch up contributions to some lifetime limit like Canada does for RRSP accounts.
Matt F says
“Someone making $205K without an employer plan cannot contribute to any tax preferred account. Their IRA is non-deductible, thus provides no tax advantage.”
You seem to forget that under the CURRENT rules you can make a back door Roth Ira contribution for tax advantage. We will have to wait and see if that changes.
Someone at $205k w2 without an employer plan should be in a good position to lobby for a plan in the modern low cost market. The only case where this is not true is where the plan is guaranteed to fail means testing. This can happen with small employer with a lot low paid workers. In which case they should suck it up, and pay by implementing a safe harbor, or you should find a new employer.
I am not familiar with the Canadian setup, but a system that heavily favors meeting likely expected future needs while limiting favorable treatment of those that are guaranteed to exceed future needs is rational.
Maybe contribution limits should be based on age and current account balance?
If you have no retirement saving but are suddenly earning several million you should be able to fill up retirement accounts base on your age.
I say this a someone who has gained significant benefit from the current rules contributing $64k Roth and $19.5k to tax deferred in 2020.
Rachel Noah says
Replying to:
“You seem to forget that under the CURRENT rules you can make a back door Roth Ira contribution for tax advantage. We will have to wait and see if that changes. We will have to wait to see what happens.
Someone at $205k w2 without an employer plan should be in a good position to lobby for a plan in the modern low cost market. The only case where this is not true is where the plan is guaranteed to fail means testing. This can happen with small employer with a lot low paid workers. In which case they should suck it up, and pay by implementing a safe harbor, or you should find a new employer.
I am not familiar with the Canadian setup, but a system that heavily favors meeting likely expected future needs while limiting favorable treatment of those that are guaranteed exceed needs is rational. Maybe contribution limits should be based on age and current account balance? I say this a someone who has gained significant benefit from the current rules contributing $64k Roth and $19.5k to tax deferred in 2020.”
The context of this discussion isn’t about what is in-place now, but the proposed changes. You come from a place of privilege, where you not only earn an income that allows such massive contributions to tax-preferred space, but you also have access.
Examples of a businesses that can’t afford a safe-harbor plan:
Food production (gummy vitamins, produce packing), Farming, most retail.
Managers and support staff make moderate salaries but most do not break 6-figures. Most laborers are making somewhere in the minimum wage range. Finding laborers has become so difficult for “factory” low-skill roles that the Federal Government added extra H2-B Visa capacity this year to bring in foreign workers. Worker participation in a non-safe-harbor plan would be near zero when 85% of the workforce is not making ends meet. Food is primarily a commodity. Increasing cost induces margin compression. There is no room to make pay adjustments of 3% for safe harbor, and if the employer did, the lowest wage base would most certainly opt-out anyway.
The RRSP idea ensures equal access. There is a current year contribution limit, then a lifetime limit based on your work-history. This means early-career participants that cannot save large amounts don’t lose the space as the space accumulates over time. For example, if the current limit is $26,500 and I’ve been working for 10 years, assuming the limit has been 26,500 for each of those 10-years, I’d have up to $265,000 in space to-date. If I’ve only contributed $85,000 so far, I can catch-up my contributions until I reach my max.
Craig says
What I don’t understand is _how_ they will disallow after-tax conversions. Your brokerage doesn’t know how much of your traditional IRA balance is non-deductible basis. So couldn’t it only be enforced with a tax penalty? If it’s retroactive to January 1, 2022 but only like 10% it’s probably still worth doing for most people.
Harry Sit says
That’s too easy. Brokers will issue the 1099-R tax form. All conversions done after the effective date will be marked as 100% taxable. I doubt many will want to pay tax twice.
Craig says
That’s what I suspected too, which would be very punitive, especially considering Congress said the backdoor Roth was just fine a couple years ago. There’s also no guarantee that they provide a mechanism for undoing after-tax conversions performed before it becomes law, assuming it is effective retroactively.
Carnig says
Harry: In one of your replies above, you state “The Roth 401k option is still available but it’s only in lieu of pre-tax contributions. It’s usually not a good option for high earners.” Are you saying that contributions are not a good idea for high earners and if so, why and how high is too high for earnings?
Harry Sit says
Contributing to a Roth 401k in lieu of a pre-tax Traditional 401k is usually not a good idea for high earners because you have to give up the upfront tax savings whereas you don’t give up anything with mega backdoor Roth. There isn’t a hard cutoff for how high is too high. It’s always a spectrum. $50k isn’t too high. I would say $200k is too high.
MK says
Harry, I completed a backdoor Roth IRA contribution at custodian A earlier this month, but am now thinking of moving funds to custodian B for simplicity and or a transfer bonus. Do you think I should wait to move the funds in case the conversion must be undone based on future laws? If I do move the funds to custodian B and have to undo the conversion, would there be a way to do so?
Harry Sit says
It’ll be impossible or very difficult to undo when Custodian B has no history of the conversion. I would stay put.
Jeff says
As someone who is trying to get to retirement in the next 5 years, I have been using the “Mega” backdoor Roth after-tax conversion strategy for the past 4 years.
An issue I have is that this has been characterized as a vehicle for the “highly compensated” and wealthy. That is why it has been targeted by Congress today. But for some of us clearly in the middle class, it is a vehicle to achieve financial independence that is being taken away.
A common scenario in our company – which allows after tax contributions and roll-over in our 401k plan … Many of us are defined as HSEs (highly compensated employees) in the 401k world and are making barely over $130K a year. Thus we can only contribute 12% and our 401k pre-tax contribution maxs out at ~$16K a year, short of the $19.5K 2021 limit.
With this “loophole” we can contribute another $3500 after-tax and then roll that over to a Roth IRA to save the full $19.5K. Or in my case I more than double that and contribute about $9K/year aftertax and roll that over each year.
When I started this my plan was to put in $9K for 10 years and with an estimated 12% average return I would have $175K in my Roth IRA on top of my 401K – providing a little more tax free income in my retirement. I drive older cars and live in a smaller house so that I save towards a comfortable retirements. I am far from wealthy.
Will losing this break my retirement goals? No. But it is one less arrow in the quiver of the middle class who desire to retire comfortably and not be reliant of the government in our old age.
Jason says
I personally hope the Mega Backdoor Roth continues on, meaning, the Build Back Better plan does not pass Congress. I believe that as we drag farther into 2022, the likelihood of it passing in its previously envisioned form decreases. Fragments of it may pass though (including a ban on the MBR.) As one of the previous posters said – this is just another tool that the middle class has to get them to a secure retirement; Congress seems to think only the most wealthy and entitled members of society benefit from these type of retirement arrangements. I am a white collar worker and not an HCE per the IRS’s definition; I do the best I can to save for retirement with the tools available. The MBR has definitely helped me.
Jason says
Has there been any updates on the mega backdoor Roth being eliminated in the latest effort to pass the Presidents infrastructure plan in the Senate? I see an uptick in this topic in my daily news feed… the senate wants to pass something before August recess, didn’t know if this was back on the chopping block or not.
Harry Sit says
I haven’t seen a full list of items in the latest deal yet.
James says
If they were to stop allowing a backdoor Roth, would it still be worthwhile to contribute to a non-deductible tIRA? I assume that it is still better to do that (if my income is too high to contribute to a Roth IRA) because earnings would grow tax free, and I would imagine that the non-deductible contribution would just be included in the basis going forward. So that at least in the future when withdrawing, that amount contributed would be tax-free since it was already taxed when putting it in as a non-deductible contribution. What are your thoughts about the next best option if they stop the backdoor Roth? I appreciate your help so that I can plan for potential changes in the future. Thanks!