Backdoor Roth IRA Conversions: A Smart Move for Your Financial Future

When it comes to retirement planning, Traditional IRAs are a familiar choice. But they come with a catch — you’ll pay taxes on withdrawals. Enter the Roth IRA, a strategy that allows for tax-free withdrawals during retirement. While high earners are often shut out of contributing to Roth IRAs directly, the "backdoor" Roth IRA conversion provides a valuable workaround.

Why Roth IRAs Are a Game-Changer

1. Tax-Free Withdrawals: Unlike traditional IRA withdrawals, qualified Roth IRA withdrawals are federal-income-tax-free. If you expect to be in a higher tax bracket in retirement, this can be a game-changer.

2. No Required Minimum Distributions (RMDs): While traditional IRA owners must take RMDs starting at age 73, Roth IRA owners aren't required to make withdrawals at all during their lifetime, making Roths a powerful wealth transfer tool.

How the Backdoor Roth IRA Strategy Works

If your income is too high to qualify for Roth IRA contributions, you can still take advantage of its benefits. Here’s how:

1. Make a nondeductible contribution to a traditional IRA ($7,000 for 2024, $8,000 if you're 50 or older).

2. Convert it into a Roth IRA.

If you have no other traditional IRAs, this move is tax-free. But if you have multiple IRAs with accumulated earnings, a portion of the conversion may be taxable.

Example in Action

Bob has two traditional IRAs with combined balances of $107,000, but only $22,000 of that amount represents nondeductible contributions. He opens a new IRA, funds it with $7,000, and converts it into a Roth IRA. Because of the rules regarding total IRA balances, 79.44% of his conversion is taxable, resulting in $5,561 in taxable income.

Is a Backdoor Roth IRA Right for You?

The backdoor Roth IRA conversion is a savvy move for those looking to lower taxable income in retirement and pass on wealth to heirs. But if you have existing traditional IRAs, be prepared for some taxable income.

The deadline to make a 2024 nondeductible IRA contribution is April 15, 2025. Don’t wait until the last minute. Contact Verity CPAs at info@verity.cpa or 808.546.5026 to see if this strategy aligns with your financial goals.