Back Door Roth IRA
Alhambra Tax Center
Generally, you can only contribute to a Roth IRA if you have taxable compensation and income less than the top of the phaseout range for your filing status (see IRS.com for limits). If your income is greater than that threshold amount, you are prohibited from contributing directly to a Roth IRA.
A “backdoor Roth IRA” allows a taxpayer to bypass income limitations by first making a nondeductible contribution to a traditional IRA and then converting it into a ROTH IRA. If the contribution happens soon after the original contribution, there will be little or no taxable income or tax assessed. Due to the distribution rules for traditional IRAs, this works best if you have no other traditional IRAs.
Generally, if you are prohibited from making a direct Roth IRA contribution, you are phased out from making a deductible traditional IRA contribution as well. Therefore, in order to make a backdoor Roth IRA contribution, you would first make a nondeductible contribution to a traditional IRA. Nondeductible contributions are considered to be made with money you have already paid tax on (after tax).
You can withdraw all or part of the assets from a traditional IRA and reinvest then in a ROTH IRA. The amount that you withdraw and timely contribute to the Roth IRA is called a conversion contribution. If properly rolled over, the 10% additional tax on early distribution will not apply.
There are no income limitations on converting a traditional IRA into a Roth IRA. The conversion is treated as a rollover, regardless of the conversion method.
If this is something that may interest you, my suggestion is to speak to a professional that is familiar with backdoor Roth IRAs. It is really important that they understand nondeductible contributions, if it is done incorrectly it may cause extra taxes.
The information for this article is from ©2020 Tax Material, Inc.