What is a Mega Backdoor Roth?

How to Set Up a Mega Backdoor Roth

In addition to the traditional backdoor Roth IRA strategy, high-income earners may benefit from a mega backdoor Roth strategy. A mega backdoor Roth is similar to a traditional backdoor Roth IRA, but it involves making after-tax contributions to a 401k plan rather than a traditional IRA. Once these after-tax contributions are made, they can be rolled over into a Roth IRA.

There are two potential limitations for you to complete a mega backdoor Roth.

1. Not all 401k plans allow for after-tax contributions.
2. Not all 401k plans allow for in-service distributions.

Your mega backdoor Roth IRA is limited by the yearly 401k contribution limits.

• Employee Contribution Limit: $23,000 ($30,500 for those age 50 and older)
• Total Employee + Employer Contribution Limit: $69,000 ($76,500 for those ages 50 and older)

The amount that your employer contributes to your 401k will determine how much in after-tax contributions you can make to remain within the total contribution limits. It is important to note that if you make an after-tax contribution that is too large, it could accidentally reduce or eliminate your employer’s contribution. Thus, it is important to understand your expected employer contribution before making a large after-tax contribution.

For example, a 40 year old who contributes $23,000 to their 401k in 2024 and receives a $11,500 employer contribution could contribute $34,500 after-tax to their 401K that could then be used to complete a mega backdoor Roth conversion [$69,000 - $23,000 - $11,500 = $34,500].*

It is also important to carefully consider the tax implications of this strategy, as it involves making after-tax contributions to a 401k plan that are not tax-deductible. If for some reason you do not transfer these after-tax contributions to a Roth IRA, it is critical to track the after-tax contribution amount so you do not pay taxes on these contributions again at the time of withdrawal (e.g., Required Minimum Distributions). Additionally, it is important to carefully review the terms of your 401k plan to determine if it allows for after-tax contributions and in-service distributions.

Overall, a mega backdoor Roth can be a strategy for high-income earners to maximize their tax-advantaged retirement savings as it allows for the employee to make after-tax contributions whose earnings can grow tax-free in their Roth IRA instead of tax-deferred in their 401k.

The One Day In July office in Wayne, PA provides investment management services as fee-only fiduciary financial advisors to the greater Philadelphia area, the Main Line, and surrounding communities including Villanova, Radnor, St. Davids, Wayne, Strafford, Chesterbrook, Devon, Berwyn, Paoli, Malvern, King of Prussia, Valley Forge, Havertown, and more.

If you would like to understand how to create a mega backdoor Roth, contact us today to set up a free consultation. We can meet in person if you're in the area or set up a phone call or Zoom meeting if you prefer.

*Employer contribution chosen based on 10% recommended employee contribution maxing out employee contribution limit (extrapolating salary to be $230k/yr) and average employer contribution of 5% for a 40 yr old (https://www.fidelity.com/learning-center/smart-money/average-401k-match)