Pre-tax IRA and 401(k) contributions are a powerful tax planning tool for high earners, allowing you to defer income during your peak earning years and potentially pay taxes at a lower rate in retirement. However, relying solely on pre-tax savings can become a burden later in life and may have unintended tax consequences for both you and your heirs. Building Roth balances is still possible for high earners, and having these accounts can provide greater flexibility and control when managing withdrawals and taxes across different income phases and life stages. Below are three strategies to help you build Roth balances.
Non-Deductible IRA Contributions
- For individuals covered by an employer retirement plan, the ability to deduct a Traditional IRA contribution begins to phase out at $129,000 of modified adjusted gross income for married couples filing jointly and $81,000 for single filers.
- Direct contributions to a Roth IRA are also subject to income limits, with the phaseout beginning at $242,000 for married filing jointly and $153,000 for single filers.
- However, there is no income limit on non-deductible contributions to a Traditional IRA. Those non-deductible contributions can then be converted to a Roth IRA, a strategy known as a Backdoor Roth IRA contribution. This can be an effective way for high earners to build Roth assets despite income restrictions.
- Note: If you have existing pre-tax IRA balances, the IRS applies the pro-rata rule, which may result in some taxes owed on the converted amount. This strategy is ideal for individuals with retirement savings primarily in employer sponsored plans.
Roth Conversions
- Roth conversions involve moving pre-tax IRA dollars into a Roth IRA. The converted amount is taxed as ordinary income, but this strategy can provide significant long-term benefits. For individuals with large pre-tax 401(k)s or Traditional IRAs, retirement tax planning can become complex due to Required Minimum Distributions (RMDs), which can create substantial tax burdens, increase Medicare premium surcharges, and affect the taxation of Social Security benefits and capital gains.
- Converting dollars to a Roth IRA reduces future RMDs, providing long-term tax relief. Additionally, having Roth dollars offers flexibility for large expenses, since qualified withdrawals are tax free. This enables more strategic management of taxes throughout retirement. Roth accounts also offer benefits for your heirs. Traditional IRAs are taxable to beneficiaries, while Roth IRAs are generally tax-free and highly desirable to inherit.
- The timing of Roth conversions depends on individual circumstances. Often, the period between retirement and RMD age is ideal, as income may drop significantly, allowing conversions in a lower tax bracket (for example, we could look to intentionally fill up the 12% or 22% brackets). Once RMDs begin, conversions remain valuable but require careful planning to manage the impact on taxable income and Medicare premium surcharges.
Mega Backdoor Roth IRA
- For plan sponsors that offer this strategy, it can be a powerful way to quickly build a Roth balance. Many people think of contribution limits only in terms of the employee elective deferral limit which is $24,500 for 2026 (with additional catch-up contributions for those age 50+), but the total 401(k) contribution limit including employee contributions, employer match, and after-tax contributions is $72,000.
- For example, if you earn $300,000, contribute $24,500 to a pre-tax 401(k), and your employer provides a 5% match ($15,000), that leaves $32,500 of remaining space that could potentially be contributed as after-tax 401(k) dollars and then converted to Roth using the mega backdoor Roth strategy, if your plan sponsor allows this strategy.
Effective retirement planning involves strategically managing pre-tax, Roth, and non-qualified assets to fit your unique situation. Having multiple levers to pull provides flexibility to optimize both your retirement goals and tax outcomes.
If you have questions about your retirement account funding options, feel free to contact us online or at (515) 225-6000.