Backdoor To Tax Savings

Backdoor To Tax Savings

Why do investors love Self-Directed Roth IRAs (SDIRAs)? Because they can invest in almost anything they want, including private investments and other alternatives – all tax-free.


Unlike SDIRAs, the knock-on company-sponsored 401(k)s is that:


  • You can’t invest in the private markets.
  • You can’t invest in anything you want.
  • You’re limited to public mutual funds.
  • You may have a choice of funds, but you’re prohibited from going outside the Wall Street garden.


Despite the freedom to invest in unregistered securities (i.e., private offerings, private placements, private investments, or private equity), the drawback of SDIRAs is the annual contribution limit of $6,000.
With 401(k)s, on the other hand, allow as much as $58,000 a year of after-tax contributions, including employer-matching.


If only 401(k)s would allow investors to invest in the more lucrative and less volatile private markets like with SDIRAs, but with the added benefit of employer matching.


What if I told you that there is a way to get around the 401(k) limits on investing in private investments?  There is a way, and it’s known as a mega-backdoor Roth conversion.


According to a recent Wall Street Journal article, the mega-backdoor Roth conversion strategy permits participants in 401(k) plans that allow after-tax contributions to put as much as $58,000 a year into a 401(k) account and convert a substantial chunk of the money to a tax-free Roth account where the account holder can grow wealth tax-free through alternative investments. The backdoor Roth conversion is at the employer’s discretion.


Many technology companies are using it as a carrot to compete for workers, said Lars Phillips, a Bellevue, Washington adviser with tech-industry clients utilizing the strategy:

“If a company allows you to throw an extra $30,000 into a Roth annually, that’s a huge benefit. It’s a great way to save for retirement.”


It is available at many large companies that employ people to save significant sums, including Microsoft, Amazon, and Facebook. It’s tax strategies like the backdoor Roth conversion that has allowed tech titans like Peter Thiel to amass $5 billion tax-free in a Roth IRA.


If you have private investments in mind that you’d like to participate in and would like to realize gains from those investments tax-free, you need to inquire with your employer as to whether they allow for Roth IRA conversions of your 401(k). What do you have to lose?


Would you rather watch your money languish in a 401(k) invested in mutual funds that can’t even beat the market? I say this with confidence because a recent report found that over 90% of professionally managed funds (i.e., mutual funds, ETFs, etc.) fail to beat the market.  


In the right hands, private investments, on the other hand, offer far superior returns insulated from Wall Street volatility. That is why SDIRAs appeal to investors and why they have grown significantly in popularity in recent years.  


The backdoor conversion strategy offers potentially huge tax benefits. It’s how many Silicon Valley billionaires can amass significant sums of wealth tax-free.


But, you don’t have to be a billionaire to take advantage of this strategy. You have to make sure your employer allows it as part of their 401(k) plan. And if your employer permits it, you should move fast to take advantage of this loophole because it may not be around much longer.


That’s because the mega-backdoor Roth IRA conversion is one of the sacred cows the Democrats have targeted for slaughter as part of their proposed tax reforms and broader economic agenda.



It’s just one move among many by the Dems that make up their broader plan to raise money to help pay for their $3.5 trillion healthcare, education, and climate bill.


There’s a chance the Dems’ plan to eliminate the conversion fails, but why wait? Take advantage of it now so you can begin to grow your wealth with employer-matched 401(k) funds tax-free.

About The Author

John Turley
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