Backdoor Conversion to Roth IRA

Roth Conversion, Backdoor, Roth, IRA, Tax-Free

When relevant?

1. You made contributions to a traditional IRA but, you are not eligible for tax deductions due to MAGI constraints. As a result, part or all your money is stuck as after-tax.
2. Due to high MAGI, you are not eligible to make direct contributions to Roth IRA.

Why perform Backdoor?

This procedure allows transferring/contributing money to Roth IRA, allowing tax-free growth and tax-free qualified withdrawals.

How to perform?

1. Make contributions to a traditional IRA (if you haven’t done yet). Do not ask for tax deductions. Basically, you make after-tax (nondeductible) contributions.
2. Perform Roth Conversion. Transfer the money to Roth IRA. Note that there are no taxes due for transferring the after-tax money to Roth. You might owe taxes on transferring pre-tax money to Roth, though.
3. File form 8606.

Pitfalls

Before performing Backdoor, check If any of your IRAs (traditional, Rollover, SEP, SIMPLE) hold pre-tax money. Mixing after-tax contributions with pre-tax money in IRA may create tax owe during Backdoor. Pay attention to the next two rules:

1. IRA Aggregation: In some cases, all traditional IRAs (including Rollover, SEP, SIMPLE) form one aggregated IRA account.
2. Pro-rata: Transferring money from an IRA holding pre-tax and after-tax must be made according to pro-rata share.

Those two rules apply to Backdoor/Roth Conversion.

Workaround

If you have pre-tax money in IRA, before making after-tax contributions, transfer all traditional IRAs (Rollover, SEP, SIMPLE) to a traditional 401k (if you have such one that allows Reverse Rollovers). Pre-tax money in 401k does not cause any problems to Backdoor.