• Skip to main content
  • Skip to primary sidebar

Ask Liz Weston

Get smart with your money

  • About
  • Liz’s Books
  • Speaking
  • Disclosure
  • Contact

Liz Weston

How long will “back door” Roth conversions be allowed?

January 9, 2014 By Liz Weston

DoorWealthier taxpayers are doing a two-step around Roth income limits by putting money into regular IRAs and then promptly converting the accounts to Roths.

They’re taking advantage of Congress’ decision to remove the previous $100,000 income limit for conversions. That decision, which took effect in 2010, led to a conversion boom: $64.8 billion transferred from regular IRAs to Roths that year, compared to $6.8 billion the year before.

The rich know a good deal when they see one: more than 10% of those earning $1 million or more converted to a Roth in 2010, Bloomberg reported.

Moving money from a regular IRA to a Roth usually requires paying income taxes, but the converted money gets to grow tax-free from then on. Roths also don’t have minimum distribution requirements, so the money can be passed free of income taxes to heirs.

Removing the $100,000 income limit for conversions also opened the door for what’s known as a “back door” Roth contribution.

Your ability to contribute directly to a Roth phrases out with if you’re single and your modified adjusted gross income is between $114,000 and $129,000 in 2014. For married couples filing jointly, the phase out range is $181,000 to $191,000.

People whose incomes are too high to contribute directly to a Roth can get around those limits, however, by contributing to a regular IRA and then converting that money to a Roth. The conversion can happen essentially tax-free if you don’t already have money in an IRA and you convert the money soon after contributing it.

If you already have a fat IRA account, such a conversion can trigger a tax bill, since you have to include all of your IRA assets when figuring the taxes on a conversion. The “pro rata” rule requires you to pay a proportional amount of taxes on the original account’s pretax contributions and earnings. If 90% of your IRA accounts are pretax contributions and earnings, then 90% of your conversion amount would be subject to tax. (Ever-helpful Bankrate.com has a conversion calculator to figure out whether paying the tax might be worthwhile.)

But there’s even a way around the pro rata rule, apparently. If your 401(k) allows you to “roll in” an IRA account, which some do, you can essentially make your existing IRA disappear from the conversion tax calculation.

None of this is exactly secret. This Vanguard video discusses how to do backdoor Roth contributions, as does this Wall Street Journal post, this post from MarketWatch and these piece from Forbes, among many others. This article from the Journal of Accountancy, the “flagship publication” of the American Institute of Certified Public Accountants, discusses the roll-in strategy for avoid the pro rata rule.

But some smart people, like financial planner Michael Kitces, have argued that there’s a risk to backdoor Roth conversions that’s not as well publicized: that IRS could step in at any time and invalidate the conversions, perhaps even imposing a 6% “excess contribution” tax on the money. “The IRS can still call a spade a spade,” Kitces wrote on his blog Nerd’s Eye View, “and the rising abuse of this ‘loophole’ may bring about its permanent end.”

“In the end, the contribute-and-then-convert strategy is not expressly prohibited by the tax code, but the IRS does have the right to tax a transaction according to its true economic reality,” Kitces wrote. “And if the express goal and intent of the client is merely to circumvent the clear intent of the law, and is done in a manner that blatantly disregards it, beware.”

Other smart people, such as IRA expert Ed Slott, have argued that the “step transaction doctrine” that allows the IRS to unwind economically bogus transactions doesn’t apply in this case.

“My general advice to clients who cannot make contributions directly to a Roth IRA (due to high income) is to make the contribution to their IRA first, let it stay there for at least a day or two – so it shows up on at least one traditional IRA statement – and then convert it to a Roth IRA,” Slott wrote.

This is not a new discussion, by the way. You’ll note the blog posts above are a few years old. The IRS has yet to clear up the mystery.

My take: since the IRS hasn’t officially weighed in, there’s a risk involved in these transactions. High earners may feel the risk is well worth taking, given the huge benefits Roths offer.

Filed Under: Liz's Blog Tagged With: backdoor Roths, IRAs, Roth, Roth conversions

Thursday’s need-to-know money news

January 9, 2014 By Liz Weston

Today’s top story: Understanding your credit reports. Also in the news: Sticking to your financial resolutions, the pros and cons of money apps, and confessing your deep, dark money secrets to your financial advisor. Offering Advice

How to Read Your Credit Reports
How to make sure you’re finding any and all errors.

The 3 Pitfalls Likely To Derail Your Financial Resolutions
Steeling your resolve and avoiding money traps.

Are Apps Helping or Hurting Your Finances?
Could your savings apps cause you to spend more money instead of less?

3 Big Secrets You Should Tell Your Financial Advisor
They’ve seen and heard it all.

5 Tips for Preparing for 2014 Taxes
Time to start getting your paperwork in order.

Filed Under: Liz's Blog Tagged With: apps, credit report, financial advice, financial advisors, money apps, resolutions, Taxes

Wednesday’s need-to-know money news

January 8, 2014 By Liz Weston

Today’s top story: Five credit card mistakes that you can fix. Also in the news: Staying financially fit in the new year, making 2014 the year you get out of debt, and how to give your paycheck a boost.Credit Check 1

5 Credit Card Mistakes You Can Fix
How to right credit card wrongs.

5 Ways to Stay Financially Fit in 2014
Getting your wallet in shape.

Why 2014 is the year to get out of debt
There’s no better time than the present.

4 Ways You Can Earn More in 2014
Give your paycheck a boost.

How to Cure Your Post-Holiday Financial Hangover
A little hair of the dog won’t help.

Filed Under: Liz's Blog Tagged With: Credit Cards, debt, earnings, holiday spending, salary, tips

How couples can agree on a retirement plan

January 7, 2014 By Liz Weston

Dear Liz: My husband and I are 56. We need to plan for retirement, but whenever the topic comes up, I find that either we have no idea or we disagree on what we will do during our retirement. Naturally, our activities during retirement will affect the funds we will need. We need help to figure out the things we agree on and where we might want to plan for different individual options. Do you have some resources to suggest?

Answer: You can start with a visualization exercise that some financial planners use to clarify their clients’ values.

Imagine your ideal day in retirement. Start with when you’ll wake up and where — what type of dwelling and in what area. In your mind, walk through your day hour by hour — where you’ll be, what you’ll be doing and with whom. Write it all down, even if you don’t think what you’re visualizing is realistic or even possible. The point is to identify, for yourself and your partner, what’s most important to you: what you want your life to be like and whom you want in it. If you visualize waking up in Paris, for example, it doesn’t mean you need to move there. You may be just as content with a trip to the City of Light or travel to less-expensive destinations.

You each should do the exercise separately and then compare what you’ve written. Don’t despair if you visualize yourself on the Champs-Elysees and he’s fishing off his back porch. As you correctly note, you can have different goals and desires for retirement. Complete harmony has never been a requirement of staying married, and that won’t change when you quit your jobs.

Let’s say you want to get deeply immersed as a volunteer for a local, at-risk school, and your husband wants to spend a year roaming the country in an RV. He could opt to pursue other interests during the school year, and you could take extended trips together during the breaks.

Once you’re clearer about what you want for your retirements, you can start working the numbers and figuring out compromises that work for both of you. Start with your expenses — what you’re spending annually now — and subtract any costs that will disappear or substantially diminish when you retire (such as commuting expenses and work clothes). Add in the amounts you’ll need to pursue your passions. (Will you buy the RV used or new? In retirement or before? Tip: Buying a lightly used vehicle before retirement will give you both a chance to get the hang of RVing and its costs so you can decide whether it’s really for you.)

Compare your expected expenses with your expected income, including Social Security, any pensions and withdrawals from your retirement accounts (which initially should be just 3% to 4% of the total balance, planners say). If there’s a gap, that’s what you’ll need to fill in the coming years with increased savings.

Still at an impasse? Hire a fee-only planner who has experience in “life planning,” or helping clients figure out their life goals. You can get a referral from the Kinder Institute of Life Planning at http://www.kinderinstitute.com/dir/.

Filed Under: Couples & Money, Q&A, Retirement Tagged With: couples and money, Retirement, retirement goals, retirement savings

Explore other options before foreclosure

January 7, 2014 By Liz Weston

Dear Liz: Two years ago we moved to another state. Our old house hasn’t sold in that time, as the housing market there is terrible. We have it listed for $255,000 and owe $242,000. A recent appraisal came back at $190,000 to $205,000 despite the fact that it’s in good condition and only 11 years old. We were thinking we should do a mortgage release on the property to get rid of it as we just can’t keep up the mortgage payments any longer. We didn’t think a short sale would work because there’s been no interest yet on the property. Any suggestions?

Answer: What you’re calling a “mortgage release” is actually a foreclosure, and it would devastate your credit for years to come. That may turn out to be the best of bad options, but explore others first.

Perhaps there’s been no interest in your property because the asking price is too high. Talk to a real estate agent with experience in short sales about what listing price is likely to generate offers. A short sale would hurt your credit scores, although perhaps less severely than a foreclosure if you can persuade the lender not to report the deficiency balance (the difference between what you owe on the mortgage and the sale price). The advantage of a short sale is that you’d spend less time in mortgage lenders’ “penalty box” and may qualify for another loan within two years.

Filed Under: Credit & Debt, Q&A Tagged With: Credit Scores, FICO, FICO scores, foreclosure, foreclosure vs. short sale, short sale

Tuesday’s need-to-know money news

January 7, 2014 By Liz Weston

Today’s top story: Making sense of your credit report. Also in the news: Protecting your credit cards from data theft, four bills you may be able to eliminate in 2014, and the benefits of joining a credit union.The hacker

The 5 Most Confusing Things on Your Credit Report
Unlocking the mysteries of your credit report.

How to Protect Your Credit Card from a Data Breach
Don’t let your credit become a target.

You May Be Able to Eliminate these 4 Bills
Not everything needs to be insured.

The Benefits of Joining a Credit Union
Lower fees and higher interest rates.

How To Profit From Gift Cards, Pay It Forward With Frequent Flier Miles
Don’t let unwanted gift cards collect dust.

Filed Under: Liz's Blog Tagged With: Credit Reports, credit unions, gift cards, Identity Theft, Insurance, interest rates

  • « Go to Previous Page
  • Page 1
  • Interim pages omitted …
  • Page 694
  • Page 695
  • Page 696
  • Page 697
  • Page 698
  • Interim pages omitted …
  • Page 779
  • Go to Next Page »

Primary Sidebar

Search

Copyright © 2025 · Ask Liz Weston 2.0 On Genesis Framework · WordPress · Log in