Some clients might be able to do both the backdoor Roth and the mega-backdoor Roth, contributing as much as $65,000 to a Roth this year with minimal tax, if any. A qualifying couple with the means to do this could double that amount to $130,000, with $65,000 going into each Roth IRA this year.
But if Congress has its way, this sweet deal will end after this year, so this might be the last chance for your clients to take advantage of this.
For the mega-backdoor Roth, the after-tax funds for 2021 would have to be contributed to the plan this year so that they can be converted this year, before it’s no longer allowed.
The same would hold true for the backdoor Roth process, which begins with a contribution to a nondeductible traditional IRA. Even though you have until April 15, 2022, to contribute to a 2021 IRA, if the client waits until next year, as is common practice for most, then the proposed ban on converting after-tax funds would eliminate the backdoor Roth conversion in 2022, even if the contribution was for 2021.
Advisors should let clients know that while the tax on the mega backdoor Roth will be minimal, since there is little time before year-end for earnings to accrue on the after-tax plan contributions, the same may not be true of backdoor Roths. The after-tax funds cannot be converted tax free if there are other IRA funds in any traditional IRA, including SEP or SIMPLE IRAs. The pro rata rule would apply. The tax-free portion of the conversion would be based on the percentage of after-tax funds in the IRA balance to the value of all the IRAs. A large rollover from a plan to an IRA during the year would likely make more of the conversion taxable. But even so, this would only apply to the $6,000 or $7,000 of nondeductible IRA contributions being converted (or double that amount if both spouses did this on a joint tax return).
If the House bill becomes law, after 2021, no after-tax IRA or plan funds can be converted. Therefore, advisors should alert clients now if they want to take advantage of the one last chance to get a backdoor Roth.
It's now or possibly never again for backdoor Roths and mega-backdoor Roths.
Ed Slott, CPA, is a recognized retirement tax expert and author of many retirement-focused books. For more information on Ed Slott, Ed Slott’s 2-Day IRA Workshop and Ed Slott’s Elite IRA Advisor Group, please visit www.IRAhelp.com.