Information About the Little Known Mega-Backdoor Roth

Korey Knepper |

The 401K is the employer retirement plan for America in 2023, and that doesn’t seem to be changing anytime soon. The pension system is slowly being phased out, and it’s almost there. They typical 401K, or 401K equivalent (TSP, 403B, 457A etc.) offer a lot of great tax benefits when it comes to investing that are hard to find anywhere else. Yes, you can open a Traditional IRA and get some tax benefits, but you have a contribution cap of 6500 (plus 1000 for 50+ catchup contributions). This is far less than the 22,500 of the 401K (plus 7500 for 50+ catchup contributions). We also see an income limit when it comes to investing in a Roth IRA, but don’t have one when investing in a Roth 401K. Then we have the less used, but extremely important wealth builder, that is only offered in some plans, the After-Tax 401K.

What is the After-Tax portion? Well, if we look at the contribution limits of the 401K, we see a cap of 66,000 (not including catch-up contribution). However, there is a cap of 22,500 for traditional, and a cap of 22,500 for Roth, which is a total of 45,000. This leaves us with an additional 21,000 that would go to the After-Tax contributions. The After-Tax account is post-tax like Roth when it comes to contributions, however, when you take the money out, the gains are taxed at ordinary income. This is similar to a brokerage account, if there were only short-term capital gains taxes, and not a long-term capital gains rate. For example, if you invested 21,000 into the After-Tax account, you would have already paid the taxes on that income, which could be as high as 12,333 in taxes if you are in the 37% tax bracket. Then, if the account grows to say 25,000, you must pay an additional income tax on the 4000 in gains upon withdrawn. At that same 37% tax rate, that is an additional income tax of 1480.

So why would anyone do that? Why subject yourself to double taxation? Well, the devil is in the details. If you put in 21,000 at the beginning of the year, and it grows to 25,000 by the end of the year, you can then roll the 21,000 initial investment into a Roth IRA, if your plan allows it. You can then take the 4,000 in gains and roll that into a Traditional IRA. This is what is categorized as a mega-backdoor Roth IRA. By using the max contribution to each, and converting to the Roth IRA, we see a total contribution of 43,500 of tax-free growth.

This is a very complex and difficult to pull off maneuver, but with the proper guidance, it can be done relatively easily. There are some key things to note on the mega-backdoor Roth. First of all, your employer plan has to allow it. If your plan does not allow it, you may want to find a plan that does if you have that kind of pull in your company. Second, this is a strategy that takes a significant amount of income to complete. Even if you use 25% of your income to complete this, that still means your income is around 265,000 a year. If you are in that boat and would like to see if your plan has this capability, you can email me at If you would like more market, and investing information, sign up for our newsletter here and receive a free eBook.