Update: March 7, 2022
IRS has released new regulations on SECURE Act implementation
Beneficiaries are now subject to annual RMDs and the 10-year rule imposed by the SECURE Act. The new regulations state:
If the account owner dies before their required beginning date: The 10-year rule applies. This means that the entire account must be emptied by December 31 of the tenth year following the year of death. There are no annual RMDs.
If the account owner dies after her required beginning date: The 10-year rule applies and RMDs are required in years one through nine.
Update: November 15, 2021
The elimination of Backdoor Roths are back!
The elimination of the backdoor Roth IRA is back in the latest version of the House Democrats’ tax and spending bill. Below are the three main changes.
- Contribution Limit: According to the latest bill, individuals would not be able to contribute to a Roth or traditional IRA for a taxable year if the total value of IRAs and defined contribution retirement accounts was over $10 million at the end of the prior taxable year. The rules are even more complicated for those whose retirement accounts exceed $20 million. This limit would apply to single taxpayers with an income in excess of $400,000, or married filing jointly taxpayers with an income in excess of $450,000. If the bill is passed, then this provision would come into effect in 2029.
- Required minimum distributions: If an individual’s combined traditional IRA, Roth IRA, and defined contribution retirement account balances exceed $10 million at the end of a taxable year then a minimum distribution would be required. The required minimum distribution would be 50% of the balance above $10 million. The rules are more complicated for those whose balances exceed $20 million. This would apply to single taxpayers with income in excess of $400,000, or married filing jointly taxpayers with an income in excess of $450,000. This would come into effect in 2029.
- Elimination of backdoor Roth IRAs: The latest bill prohibits backdoor Roth IRAs and mega backdoor Roth IRAs. This applies to everyone regardless of income level. This would come into effect at the start of next year as per the original House Ways and Means Committee’s Build Back Better bill in mid-September.
The legislation is always changing. The fact that these provisions were in and then out again suggests that anything could happen. We will continue to keep you updated to help you plan accordingly. If you have any questions, feel free to reach out to one of our financial planners.
Update: November 2, 2021
Good News: Proposal to Eliminate Backdoor Roth is Dropped from Reconciliation Bill
In September 2021, there was a proposed bill approved by House Ways and Means that would prevent people from doing Backdoor Roth IRAs.
As of November 2021, the proposed provisions have now been dropped from the Pending Reconciliation Bill Build Back Better Act of 2021. This includes:
- The proposed ban on after-tax IRA contributions from being converted to Roth has been removed.
- The proposed ban on pre-tax IRA and 401(k) conversions to Roth has been removed.
- The proposed ban on employee after-tax 401(k) contributions has been removed.
- The proposed new required minimum distribution and contribution limits for high-balance retirement accounts have been removed.
Even though many of the previously proposed changes were dropped from this bill, they may still make it into the SECURE Act 2.0. For now, those who want to do backdoor Roths and mega backdoor Roths can continue to do so in 2021. We will keep you updated if anything changes. If you need help with a backdoor Roth IRA, schedule a free discovery call with one of our credentialed financial planners.
The House Democrats proposed several changes to retirement plans on September 13, 2021.
This is part of their wider plan to make the tax code more equitable and pay for the $3.5 trillion budget plan under consideration. The proposed plan will lead to several changes to IRA and 401(k) retirement accounts. In particular, this will spell the end of the backdoor Roth and mega backdoor Roth strategies. If this bill is approved, most of these changes will begin in 2022.
This blog will cover the three main changes to retirement plans that the bill is proposing. The first two changes will likely only affect a small fraction of the population, whereas the third change may actually affect you.
3 Proposed Changes to IRAs and 401(k) Plans
1. New Contribution Limit:
This bill will prohibit taxpayers from contributing to a Roth or a Traditional IRA once their total retirement account balance exceeds $10 million. This total is counted as the sum of one’s IRA and 401(k)-type workplace accounts. The contribution limit would apply to single taxpayers with more than $400,000 of taxable income, $425,000 for head of households, and $450,000 for married filing jointly taxpayers. There is a slight disadvantage for married filing jointly taxpayers. If you were two single taxpayers making $400,000 each you could still contribute, but not if both filed married filing jointly.
2. New Required Minimum Distribution:
Individuals whose combined IRA and 401(k) retirement accounts exceeding $10 million at year’s end would have to withdraw at least 50% of the excess the following year. Those with accounts over $20 million will have to withdraw from Roth IRAs and 401(k)s first. This would only apply to those with incomes over the same limits as above – more than $400,000 of taxable income, $425,000 for head of households, and $450,000 for married filing jointly taxpayers.
3. Eliminates “Backdoor” Roth IRA Strategy:
The new retirement plan proposal would affect two types of backdoor Roth strategies. This includes the basic backdoor Roth IRA and the mega backdoor Roth IRA. It will end up eliminating these strategies.
- Basic Backdoor Roth IRA
Under the current law, you can get around the Roth IRA income limits by doing the backdoor Roth IRA strategy. A backdoor Roth IRA is when you contribute to an after-tax traditional IRA, and then convert it to a Roth IRA. Since anyone can contribute to a Traditional IRA, this allows you to go around the Roth income limits. You pay the taxes you owe on that money right away. But the investments then grow tax-free.
This bill would prohibit the conversion of an after-tax IRA to a Roth IRA, thus totally eliminating the backdoor Roth IRA strategy
- Mega Backdoor Roth IRA
The mega backdoor Roth IRA uses a similar strategy to the backdoor Roth IRA. It is a retirement savings strategy that can allow you to put up to $38,500 in after-tax 401(k) contributions, then convert that to a Roth 401(k), and eventually to a Roth IRA. This $38,500 is on top of your regular $19,500 annual contribution and can only be found in very few 401(k) plans. If available, this currently lets savers contribute up to $58,000 total in a 401(k).
The proposed plan would prohibit all employee after-tax contributions in 401(k)s. In doing so, the bill would completely eliminate the mega backdoor Roth strategy. This policy will apply to everyone regardless of their income level.
This would come into effect starting January 1, 2022.
The House Ways and Means Committee will vote on these proposed changes to retirement plans this week. We will keep you updated with these changes.
Alvin Carlos, CFP®, CFA is an investment advisor and fee-only financial planner, in Washington, D.C that works with clients across the country. He has a Master’s degree in International Relations from SAIS-Johns Hopkins. Alvin is a partner of District Capital, a financial planning firm designed to help professionals in their 30s and 40s achieve their financial goals through smart investing, reducing taxes, retirement planning, and maximizing their money. Schedule a free discovery call to learn how we can help elevate your finances.