Qualified Withdrawal

What is the “qualified” withdrawal, you ask? If you withdraw money from your Roth IRA 5 years after you first put it in and after you reach age 59 1/2, you do not need to pay any income tax.

Further, with the Roth IRA, there is no “Required Minimum Distribution” when you reach your 70s (please check with your CPA on the age requirement), you could pass your Roth IRA money on to your heirs and possibly stretch the distribution over his/her lifetime.

Lastly, if you withdraw money, this amount won’t be counted as part of the “provisional” income base that causes 85% of your Social Security Benefit to be taxable.

The Possible advantage of a Roth IRA

In summary, the possible advantages of opening a Roth IRA account are:

1. Growth income tax free
2. Withdrawal income tax free if conditions are met
3. No mandatory withdrawal required once reach a certain age
4. Could continue to make contributions even after you are retired if certain conditions are met
   
   

Since Roth IRAs are so attractive, wouldn’t everyone want to set up one and contribute to it? Well, the IRS is ahead of you and has put an income limitation on high- income earners. Here is the link to the IRS’ website for “Amount of Roth IRA Contributions That You Can Make For 2019”.

This allows the high-income earners to be able to contribute to a Roth IRA despite their income limitation. Hence, the backdoor Roth IRA is “born”.

How then to use this strategy—Backdoor Roth IRA

1. Set up an IRA account
2. Put money in the account and designate it as a non-deductible contribution
3. Set up a Roth IRA account
4. Convert your non-deductible IRA contribution to your Roth IRA

Note of Caution:

• If you already have an IRA, SEP IRA and/or SIMPLE IRA, the calculation of the non-deductible amount gets a little bit complicated. The annual contribution limit is combined for both IRA and Roth IRA accounts, and the SIMPLE IRA, SEP IRA and IRA are treated as “IRA” when calculating deductibility amount/percentage. Please consult your CPA, and/or tax advisor for how much of the converted amount is taxable.
• Ensure the institution which sets up your non-deductible IRA sends a form 8606 (which is used to keep track the “base” of non-deductible IRA amounts so that you don’t end up paying the taxes again when you withdraw).

How long should you wait until “converting” your non-deductible IRA to your Roth IRA? 

If you are ineligible to contribute to your Roth IRA and you did it anyway, there will be an excess contribution penalty tax of 6%.

Does the Backdoor Roth IRA make economic sense to your overall financial picture? 

Do you prefer to take tax deductions during working years?

Would you rather have nontaxable income during your “golden years” without worrying about paying taxes on the distribution/withdrawals? Or, would you like the possibility of leaving a legacy if you don’t outlive your accumulated wealth?

What if your spouse is self-employed and has a SEP IRA and you participate in your company’s 401k plan, BUT you still want to take advantage of the Backdoor Roth IRA concept? What do you do? Please discuss this with your special someone and your trusted advisor if you wish to proceed, if I may suggest.

On the other hand, I would be delighted to assist if you prefer a second opinion or are in search of an experienced and compatible financial advisor to work with. Please contact me to schedule a mutual convenient time for a conversation – ask me a question or two and see whether I can explain them to your heart’s content! I welcome the challenge and an opportunity to listen and walk alongside of your financial journey!