Contributing to a tax-advantaged retirement account is one of the best ways to reduce your federal income tax liability while also preparing for a stable future. But once you reach retirement, you will have to pay taxes on withdrawals from those accounts. For those who earn a higher income, and therefore tend to save more, that rule could equal larger withdrawals and higher taxes in retirement.
A Roth IRA is a good answer to this dilemma. The account allows you to sock away after-tax dollars now, so that you can enjoy tax-free distributions in retirement. But many higher earners aren’t eligible to contribute to a Roth IRA, making this option seem inaccessible to you.
You can still contribute to a traditional IRA, but if you’re also covered by an employer-provided retirement plan (such as a 401k) then you might not be able to deduct your IRA contributions. So you’re losing potential tax savings through contributions, and the money will also be taxed when you begin to take withdrawals in retirement!
A back-door Roth IRA is often the perfect solution to this dilemma. You can’t open and fund a Roth IRA in the traditional way, but you can convert a traditional IRA to a Roth account via a loophole in IRS regulations. When you begin taking distributions from your Roth IRA after you retire, you will enjoy a form a tax-free income. Depending upon how you take distributions from your traditional retirement account(s), this could protect you from being thrown into a higher tax bracket.
But an IRA rollover is not an easy maneuver, and it is subject to some complicated tax rules. Before attempting to fund a back-door Roth account, call us to schedule a consultation. We can analyze your situation, help you decide if a Roth account is right for you, and help you perform the rollover in the most tax-friendly way.
Source: Nerdwallet
