What is a Backdoor Roth IRA Conversion? - Medicare Life Health (2024)

FAQs

What is a Backdoor Roth IRA Conversion? - Medicare Life Health? ›

A backdoor Roth IRA isn't a type of IRA; it's a strategy that converts contributions in a traditional IRA into a Roth IRA. It's useful for high earners who can't contribute to a Roth IRA because of income limits but still want its tax-advantages.

Roth conversions require you to understand the potential effect it has on your Medicare premiums. When funds are converted, the IRS sees this as income that has come out of the traditional IRA, which can raise your MAGI past a certain level, thereby increasing the premiums you pay for Medicare B and D.

Cons: All or part of a backdoor Roth IRA conversion could be a taxable event. You may have to pay federal, state, and local taxes on converted earnings and deductible contributions. Conversions could kick you into a higher tax bracket for the year.

If you complete a Roth conversion and that raises your modified adjusted gross income (MAGI) past a certain level, you could be increasing the premiums you pay for Medicare B and D and reducing the intended tax savings. This increase is called an income-related monthly adjustment amount.

Disadvantages of Converting to a Roth IRA

Higher taxable income that year could have one or more of these negative effects: A higher tax bracket, A higher portion of Social Security benefits subject to tax, Higher Medicare premiums, and.

It does not include withdrawals from Roth 401(k)s and/or Roth IRAs. The IRMAA surcharge is determined by your earnings for two years prior to signing up for Medicare. Your income at 63 years old will affect what you pay for Medicare when you turn 65.

The amount you convert from a traditional account to a Roth account is treated as income—just like all taxable distributions from pretax qualified accounts. Therefore the conversion amount is part of your MAGI, and it may move you above the tax's thresholds.

You may not need a backdoor Roth conversion if you are able to meet your savings goals with the maximum retirement limit through your workplace retirement account, and are not expecting a need for additional savings.

A backdoor Roth is a loophole that avoids income limits to be eligible to contribute to a tax-free Roth IRA retirement account. The loophole: Taxpayers making more than the $161,000 limit in 2024 can't contribute to a Roth IRA, but they can convert other forms of IRA accounts into Roth IRA accounts.

Tax Implications of a Backdoor Roth IRA

For example, if you contribute $6,000 to a traditional IRA, claim a deduction for the $6,000 on your tax return, and then convert that money to a Roth IRA, you'll owe taxes on the $6,000.

When not to do a Roth conversion? ›

Roth conversions won't affect the calculation of your Social Security benefit that you're eligible to receive, but they can impact whether you pay taxes on your benefit – and how much.

If you expect yourself to be in a higher income tax bracket in retirement, a Roth IRA conversion may make sense. It's an opportunity to be tax-efficient with your retirement funds by paying the tax when your tax bracket is lower. In many instances, it is difficult to influence your tax bracket.

A Roth conversion has no limits, unlike contributions made from earned income. You can convert assets in any amount and as often as you like. Otherwise, at 70 you must still have qualifying earned income through work or a business to make regular contributions, which are capped by an annual limit.

Accessed Apr 8, 2022. You'll need the money in five years or less. Money converted from an IRA to a Roth IRA falls under a Roth five-year rule: If you don't wait five years to withdraw it, you could owe taxes and a 10% penalty. The withdrawal from your IRA will push you into a higher income tax bracket.

The backdoor Roth may not last forever

If the IRS decides that the loophole is a violation, you could owe a 6% excise tax for overfunding your Roth. And if restrictions do come into play at some point, they could require backdoor Roth converters to pay a penalty, or they might include a grandfather clause.

A Roth conversion adds to your provisional income, which in turn can increase the taxable amount of your Social Security.

Remember, if you're already over 73, you will have to take an RMD for the current tax year before you can convert to a Roth IRA—that is, Roth conversions do not satisfy the RMD requirement, although you can use all or part of the RMD to pay the taxes due from the conversion.

A Roth conversion is not wages or income from self-employment, so it has no effect on the additional Medicare tax calculated on Form 8959.

Before you decide to make a conversion your AGI and your modified AGI are both equal to $80,000. If you convert this IRA to a Roth IRA your AGI will increase to $200,000. But the conversion doesn't count as part of your modified AGI, so you can still make contributions to your Roth IRA.