Mega Backdoor Roth: What It Is and How It Works

A mega backdoor Roth is a retirement strategy that high-income earners can use to get around Roth IRA income restrictions. This strategy allows individuals to contribute after-tax dollars to a 401(k) plan, then convert these funds to a Roth IRA. This effectively gets around the contribution restriction for single filers earning $146,000 or more or those filing jointly and earning $230,000 or more.

What is a mega backdoor Roth IRA?

A mega backdoor Roth IRA is a powerful retirement savings strategy that allows high-income earners to make significant contributions to a Roth IRA, even if they're above the Roth IRA income limits. It's similar to the regular backdoor Roth IRA but with the potential for much larger contributions.

While a backdoor Roth IRA allows you to contribute up to $7,000 (as of 2024) indirectly to a Roth IRA, a mega backdoor Roth IRA can enable you to contribute up to $69,000 minus other 401(k) contributions to a Roth IRA in a single year by utilizing your qualified 401(k) plan.

The mega backdoor Roth IRA is essentially a turbocharged version of the backdoor Roth IRA. Both strategies are designed to help high-income earners save more money in a Roth IRA, which offers the benefits of tax-free growth and tax-free withdrawals in retirement. However, the mega backdoor Roth IRA takes it to the next level by allowing for significantly larger contributions.

However, this strategy requires an employer-sponsored retirement plan that allows for after-tax contributions and in-plan Roth conversions or rollovers.

How does a mega backdoor Roth IRA work?

Imagine you receive a bonus of $50,000 in addition to your regular salary. If you want to use the mega backdoor Roth IRA strategy to boost your retirement savings, here's how you could approach it:

• Max out your regular 401(k) contributions: $23,000 of your bonus goes towards your traditional 401(k) contributions.
• Consider employer matching contributions: Let's assume your employer matches 50% of your contributions up to 6% of your salary. If your annual salary is $150,000, your employer will contribute $4,500 (6% of $150,000 is $9,000, and your employer matches 50% of that, which is $4,500).
• Make after-tax contributions: After maxing out your regular 401(k) contributions, you can contribute the remaining $27,000 ($50,000 bonus - $23,000 regular 401(k) contributions) to your 401(k) as after-tax contributions.
• Convert after-tax contributions to Roth IRA: Initiate an in-plan Roth conversion or Roth 401(k) rollover to move the $27,000 in after-tax contributions to your Roth IRA.

How does this compare to a Backdoor Roth IRA?

The mega backdoor Roth IRA and the traditional backdoor Roth IRA are both strategies that allow high-income earners to contribute to a Roth IRA when their income is above income restrictions. However, there are some key differences between the two strategies.

	Mega backdoor Roth IRA	Backdoor Roth IRA
Contribution limits	Up to $69,000 minus other 401(k) contributions (as of 2024)	$7,000 (as of 2024)
Requires specific employer plan	Yes, 401(k) with after-tax contributions and in-plan conversions or rollovers	No, just a traditional IRA
Conversion Process	In-plan conversion or rollover to Roth IRA	Convert traditional IRA to Roth IRA
Complexity	More complex, may require professional guidance	Relatively simple, can be done without professional help

The main advantage of the mega backdoor Roth IRA is the significantly higher contribution limit, which allows for supercharging your retirement savings. However, it requires a specific type of employer plan and can be more complex to execute.

In contrast, the traditional backdoor Roth IRA is more widely accessible and simpler to implement but has lower contribution limits. It's still a valuable strategy for high-income earners looking to contribute to a Roth IRA.

What is the contribution limit for a mega backdoor Roth?

The contribution limit for a mega backdoor Roth in 2024 is $69,000 minus any pre-tax 401(k) contributions and employer matching contributions.

This means that if you max out your pre-tax 401(k) contributions at $23,000 and receive an employer match of $4,500, you could potentially contribute up to $41,500 of after-tax dollars to your 401(k) and then convert that amount to your Roth IRA.

That's why the mega backdoor Roth strategy is typically best for high-income earners who have already maxed out their pre-tax 401(k) contributions and have additional funds to save for retirement. 

How is a mega backdoor Roth IRA taxed?

A traditional 401(k) mainly receives pre-tax contributions, and you'd pay taxes on your withdrawals in retirement. With a mega backdoor Roth, you use your after-tax money to contribute to a 401(k) before converting it to a Roth IRA, so you don't need to pay taxes on the contributions again in retirement.

If you convert these after-tax contributions from your 401(k) to your designated Roth IRA immediately, you won't have to pay taxes on the converted amount. But if you wait and there are earnings on those contributions, you may have to pay taxes on the earnings portion when you convert to a Roth IRA.

You may also be subject to a pro-rata rule, which prevents you from only converting your after-tax contributions when you make an in-service withdrawal from your 401(k). This rule requires you to convert a proportional amount of both pre-tax and after-tax funds. However, you may be able to avoid this issue if your employer tracks your pre-tax and after-tax amounts separately.

It’s usually a good idea to talk to a financial advisor rather than doing a mega backdoor Roth on your own. The tax implications of a mega backdoor Roth IRA could be complicated, and you risk increasing your tax bill if you don’t go about it the right way.

3 steps to create your mega backdoor Roth IRA

Learning how to do a mega backdoor Roth IRA might involve a learning curve. These are the steps you would need to follow to get started:

1. Check your 401(k) plan rules

First, check with your plan administrator to make sure it allows for a mega backdoor Roth. Your plan needs to accept post-tax contributions. It also needs to allow in-service distributions.

In other words, your plan needs to allow you to roll over the post-tax money you contribute into a Roth IRA while you’re still working for your employer. You could also discuss your plan with a financial consultant.

2. Contribute post-tax dollars up to the limit

Once you confirm that your plan allows this mega backdoor Roth strategy, your next step is to contribute post-tax dollars. It’s generally a good idea to reach the limit of your traditional 401(k) contributions before investing additional money. This limit is $23,000 in 2024.

Once you reach that limit, you could contribute up to $46,000 in post-tax dollars in 2024.

3. Rollover your post-tax contributions into a Roth IRA

Your final step would be to immediately roll over your post-tax contribution into your Roth account before it starts accruing investment earnings.

Keep in mind that if your employer doesn’t track the pre-tax and post-tax amounts in your account, you might need to deal with the complex tax implications of the pro-rata rule.

Once your money is in your Roth account, it could receive tax-free growth. You would be able to make qualified withdrawals of your earnings starting at age 59 1/2. Unlike a traditional IRA, you wouldn’t have any required minimum distributions in retirement.

Who would benefit from a mega backdoor Roth IRA?

People with high incomes who have already met their other savings goals might benefit from a mega backdoor Roth IRA. Here are some situations when this retirement strategy might make sense:

• You’ve already maxed out your 401(k) contributions and employer-matching benefit.
• Your income makes you ineligible for direct Roth IRA contributions, or you’d like to save more than the annual IRA limits.
• Your company’s 401(k) plan makes this strategy possible because it allows after-tax contributions and in-service withdrawals.
• You’ve already taken care of other financial priorities, such as creating an emergency fund or college fund and paying down debt.

Suppose you’re not able to do a mega backdoor Roth IRA. You could still save in your employer’s 401(k) and max out any matching benefit your employer offers, such as matching contributions or fixed employer contributions. Plus, you might be able to open a traditional IRA or contribute to a Roth 401(k) up to the annual IRA contribution limits.

FAQ

Bottom line

The mega backdoor Roth IRA offers a way to increase your retirement contributions while enjoying the tax benefits of a Roth account. However, before pursuing this strategy, make sure that your 401(k) plan allows you to contribute after-tax dollars and immediately roll over this amount into a Roth account.

Since the pro-rata rule might complicate in-service withdrawals, it might be best to consult with a financial advisor or tax professional rather than attempting the mega backdoor Roth on your own.

If your financial situation doesn't make this mega backdoor strategy worth the effort, you could still make the most of other retirement savings strategies.

Using the best tax software might help you find optimal retirement savings targets while reducing your taxable income. You could also learn how to manage your money to find ways to increase your retirement contributions while balancing your personal finance goals.