Dems want to close "backdoor" Roth IRA loophole

Discussion in 'Business, Investing & Finance' started by BMF, Sep 15, 2021.

  1. BMF

    BMF Bad Mother....
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    Democrats Want to End This Lucrative Retirement Account Loophole

    Democrats Want to End This Lucrative Retirement Account Loophole

    Congressional Democrats want to slam shut a tax loophole known as the “backdoor” Roth IRA. In one of several proposed changes that target the retirement accounts of wealthy Americans, Democrats on the House Ways and Means Committee want to prohibit people who make more than $400,000 per year from converting pre-tax retirement savings accounts into a Roth IRA. The proposed reforms are part of the Democratic push to raise taxes on the wealthiest to fund a $3.5 trillion spending plan.


    [​IMG]
    Democrats are proposing a number of tax reforms related to retirement accounts, including the elimination of backdoor Roth IRA conversions for the wealthiest Americans.



    [​IMG]
    Democrats are proposing a number of tax reforms related to retirement accounts, including the elimination of backdoor Roth IRA conversions for the wealthiest Americans.
    Under current tax law, individuals making more $140,000 per year are barred from contributing to a Roth IRA, where retirement savings grow tax-free. However, since 2010, workers who exceed this income threshold have been permitted to convert their pre-tax contributions into a Roth IRA. After paying income taxes on the initial contributions and gains, their retirement savings grow tax-free and will no longer be subject to required minimum distributions (RMDs).

    These backdoor Roth conversions, which have grown in popularity, allow high-income earners to sidestep the income requirements on Roth IRAs and capitalize on the tax-free growth these types of accounts offer.

    But the use of this strategy could be coming to an end. Democrats on the House Ways and Means proposal, want to prohibit Roth conversions for people making more than $400,000 per year. If approved, the rule change would apply to distributions, transfers, and contributions made in taxable years beginning after Dec. 31, 2031.

    The proposed legislation also seeks to eliminate “mega backdoor” Roths, a sophisticated strategy that allows people enrolled in certain retirement plans to save up to $38,500 in extra after-tax contributions for retirement. If approved, the provision that targets mega backdoor Roth conversions would take effect after Dec. 31, 2021.

    New Limitations on IRA Contributions

    Democrats also want to prohibit high-income taxpayers from amassing tax-deferred fortunes inside retirement accounts. To do so, they plan to restrict people above specific income thresholds from continuing to contribute to Roth and traditional IRAs if they already have $10 million saved in IRAs or other defined contribution retirement accounts. Under current law, taxpayers can contribute to IRAs regardless of how much they already have saved.

    The proposed limit on contributions would apply to single or married taxpayers who file separately and make more than $400,000, married taxpayers filing jointly with taxable income greater than $450,000 and heads of households who make more than $425,000.

    The proposed crackdown comes as the retirement accounts of the wealthiest Americans continue to swell. According to the Government Accountability Office, 9,000 taxpayers had at least $5 million saved in IRAs in 2011. Eight years later, that number had more than tripled to over 28,000, data from the Joint Committee on Taxation shows.

    Under this leg of the Democratic proposal, employer-sponsored defined contribution plans would also be required to report balances of over $2.5 million to both the Internal Revenue Service and to the plan participant whose balance exceeds $2.5 million.

    Minimum Distribution Required for Accounts Exceeding $10 Million

    [​IMG]
    Democrats are proposing a number of tax reforms related to retirement accounts, including the elimination of backdoor Roth IRA conversions for the wealthiest Americans.
    Democrats also propose that high-income earners with more than $10 million saved in retirement accounts must take minimum distributions from those accounts.

    “If an individual’s combined traditional IRA, Roth IRA and defined contribution retirement account balances generally exceed $10 million at the end of a taxable year, a minimum distribution would be required for the following year,” the proposal reads.

    Under the legislation, the IRS would require high-income earners with more than $10 million saved in retirement accounts to take a distribution equal to 50% of their savings that exceed the $10 million threshold. For example, if Joan has $12 million in her 401(k) and various IRAs, she would be required to take a $1 million distribution the following year.

    The income thresholds would be identical to those from the proposal aiming to curb IRA contributions for the wealthy. If approved, both provisions would take effect after Dec. 31, 2021.

    Bottom Line

    Big changes could be coming to the retirement accounts of wealthy Americans. Democrats on the House Ways and Means Committee want to eliminate backdoor Roth IRA conversions, prohibit high-income earners with over $10 million in retirement accounts from contributing to their IRAs and mandate that certain high-income earners with massive retirement savings take annual distributions.
     
    • Bushmaster

      Bushmaster Well-Known Member
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      This was a popular back when Roth IRAs were just starting out. To convert it you had to pay the tax over 3 years and you were good to go. Democrats liked it because it was taxed NOW instead of later.

      I literally have not had a single request to do this in over 20 years. Why pay tax NOW when you are high income earner when you can pay it later at a lower rate.

      Now when/if the market tanks again, I am moving all my stuff over to a ROTH, pay the tax on a much lower amount, and the hopefully ride the wave back up again, TAX FREE.

      You see, I am one of these evil rich bastards who doesn't want to pay his "fair share".
       
      • FireFoley

        FireFoley Senior Member
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        See Thiel, Peter. Turned $1,700 in a Roth IRA into $5 BILLION.
         
        • BMF

          BMF Bad Mother....
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          This proposal would only block those making over $400k/year from doing it. I know a lot of people (who make much less than that) that have done this. The thought is that taxes are at a pretty low level right now (Trump's tax cuts) and are only going to go up...especially after the spending spree our government just went on the last 18 months. So, paying taxes on it now seems like a deal - if you believe we'll have higher tax rates in the future.
           
          • UFHealthGator

            UFHealthGator Well-Known Member
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            Because as a high income earner I have already maxed out all my tax deferred strategies. Also income tax rates are probably the lowest they will ever be and likely to be significantly higher by the time I retire. I would rather have a Roth IRA over an IRA any day. I have been doing a backdoor conversion every year for my spouse and myself for the past 4 years. Backdoor Roth IRAs are extremely popular among physicians.

            I am using my Roth IRA to put my high flying future bets like Crypto inside.
             
            • Concrete Helmet

              Concrete Helmet Hook, Line, and Sinker
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              Just a general thought here kinda on this topic. Has anyone thought about the effects of inflation in regards to propping up their assets value in a tax sense? I've always heard that inflation was just another form of taxation for the government. If you took the average middle to upper middle class earner that would be considered a boomer or gen xer that was half way responsible over the last 20-30 years they would easily have over a million in assets when you include their home probably even more....Isn't it odd they are trying to increase the death tax at a time when such a large percentage of the population is retiring or has already done so? And after the last few years of economic cocaine to inflate everyone's assets?

              Is this a plan or is Crete off on another conspiracy theory about a corrupt government takeover? :lol:
               
              • Bushmaster

                Bushmaster Well-Known Member
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                So your answer is to add even more income in current year and pay tax at the rate you currently pay now??

                Do you think your tax rate is going to be higher in retirement or higher now?
                 
              • UFHealthGator

                UFHealthGator Well-Known Member
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                Buddy, 6k / 12k a year for a couple is peanuts in the big scheme of things for a high earner. And yes after maxing out my 401k, and 457b, a backdoor Roth IRA is a great way to hedge against significant increase in taxation in the future. There are also other advantages to a Roth IRA. You can withdraw the principle 5 years in without a penalty.

                I have a vessel to put my really high risk high reward bets without having to worry about taxes on them. Lets just take an example.

                Lets say I invested 6k in a Roth IRA. I bought Bitcoin inside the Roth IRA when it was worth 30k. Thats 0.2 Bitcoin. Assuming my marginal tax is 37%, that means I paid about $9523 in pre-tax income. Now lets say Bitcoin goes to 500k come retirement age. That means now I have 100k worth of Bitcoin that is completely tax free.

                Now let us assume I put 6k in an IRA on a pretax basis. That means I saved $2220 in taxes this year assuming top marginal rate of 37%.

                Now that 6k of bitcoin later grows to 100k come retirement age. That's a gain of 94k. I want to take a disribution. Assuming I want to kick back and my annual expenses have gone down significantly, but I still want to live a fat comfortable life and I am taking in about a 180k annually instead of 600k annually. Assuming nothing changed in the tax code, now I owe about 24% on that marginal income I am taking out of my IRA(after taking distributions from my 401k, 457b, Pension and taxable account).

                I would owe 23k in taxes on my gains. So an IRA would have saved me about 2k upfront, but would have cost me 23k come withdrawal, vs a Roth IRA cost me about 3.5k upfront, but saved me more than 23k down the line.

                The math can get a lot bigger in favor of a Roth IRA if Bitcoin goes higher, or you start compounding 6k over many years. Math gets lower if Bitcoin does not make significant gains and you want to live on a smaller income below say 100k.
                 
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                • Bushmaster

                  Bushmaster Well-Known Member
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                  You probably don't know that I do this for a living. You just told me you expect to have a lower tax rate in retirement than you do now. The "significant tax increase" you mention is a proposed increase from 37% to 39.6% for the top bracket. Everything being equal, you will save more with tax deferred products than converting to a Roth.

                  What you failed to account for is the 2200 you saved in taxes at 37% top rate can be invested in the same items and with rate of return, will offset the ordinary income tax rate and pay 15%.

                  Roth v Traditional has been batted around amongst us tax people for almost 25 years. I am not against a Roth, I have one that I set up years ago and my kids have them. If you are you going to be in a higher tax bracket when you take from a tax deferred account, the Roth makes sense. If not, there is not any financial advantage to having one. There are some advantages depending on how much you have in retirement when considering estate tax, inheritance, which money you pull out, etc. When dealing with 8 figure estates, it becomes much more complex.

                  Here is a simple exercise. Take your $6,000 in bitcoin and invest it at age 30. Assume a 10% ROI. At 65, you will have $185,476.08. In order to generate $6,000 with marginal rate, you have to earn $9,523.81.

                  Take that same $6,000, and add the tax savings of $3,523.81, you really have $9,523.81 to invest. Run the same numbers above and you have $294,406.50 at age 65, but you have to pay tax on that right, but you have $108,930.42 MORE income. Guess what? The difference is a 37% tax rate, but even if you took it all out at today's tax rates, its only $60,000 in income tax. My way you have $49,000 MORE MONEY. Your way, well, you are not.


                  And I am not your "buddy". Save your condescending attitude. Advice is only worth what you pay for it, and most of the time its not worth that much.
                   
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                  • UFHealthGator

                    UFHealthGator Well-Known Member
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                    Well if you did this for a living I would really hope you realize the basic fact that high income earners do not qualify for tax deduction on a traditional IRA if they are covered by a retirement plan at work, like a 401k. Tax deduction phases out for people earning above 198k (not exactly 198, it is actually 125k for the person covered by employer retirement plan, but 208k for spouse of a person who has an employer retirement plan) . You can still contribute to a Traditional IRA, but there is no tax savings doing so, which renders all the math moot. So you are paying taxes going in and coming out in a tradtional IRA, while pay only taxes going in a backdoor Roth IRA. That's the main reason why most high income earners elect to perform a backdoor roth IRA. At least we get a tax advantage doing so.

                    2021 IRA Deduction Limits - Effect of Modified AGI on Deduction if You Are Covered by a Retirement Plan at Work | Internal Revenue Service

                    Other reason is tax diversification. No one has a crystal ball on what the future holds.Final reason is there are no RMDs on Roth IRAs.

                    You need to chill a bit, guy.

                    I agree.
                     
                    #10 UFHealthGator, Sep 16, 2021
                    Last edited: Sep 16, 2021
                    • Bushmaster

                      Bushmaster Well-Known Member
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                      You really just have typed those last 2 words, taken your ass kicking, and moved along.

                      I showed you how your plan isn't working like you thought, and all you come back with is "there is no RMD on a Roth". Well, no ****. That is one of the advantages I was talking about above.

                      No comment on the numbers and how you are paying more in tax NOW on your conversion to a Roth versus just leaving the money where it is. The reason these things don't work is VERY few people are in a higher income tax bracket when they get the money from retirement than they are when they are working.

                      I am really glad you are a high income earner and from your screen name guess you may be a physician, which would explain both the arrogance and the fact you have the tax and business sense of a farm animal. Of all the businesses I advice, physician practices are the most difficult because people like you think you know more about my profession than I do. So I just increase their bill and let them move along.

                      But hey dude. You do you and keep on trucking.
                       
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                      • UFHealthGator

                        UFHealthGator Well-Known Member
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                        I am really not sure you understand English. High income earners that are covered by an employer retirement account do not qualify for a Traditional IRA tax deduction. That's why we do a backdoor Roth IRA after maxing out tax deferred retirement accounts.

                        Also your math is wrong. I can explain why, but it is a waste of time because traditional IRAs are not an option any way.

                        Go back to the drawing board. Lots of anger I sense in you. I really hope I don't know any physicians that work with you. Seems like you would be giving them bad overpriced advice.
                         
                        #12 UFHealthGator, Sep 17, 2021
                        Last edited: Sep 17, 2021
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                        • Gatormac2112

                          Gatormac2112 The Voice of Reason
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                          I don’t trust that I’ll be in a lower tax bracket in retirement, so I’m putting all my money in Roth accounts. The tax I’m paying doesn’t bother me now, and I don’t want to be bothered with it in retirement. I’ve run the numbers both ways and I realize that I could bring more money home now, it’s just not enough for me to worry about, whereas in retirement I might worry if they raise taxes like I suspect they will.
                           
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                          • Bushmaster

                            Bushmaster Well-Known Member
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                            Ironic, since I didn't mention a traditional IRA in the quote.

                            For your dumbass to put $6,000 in a ROTH, you have to pay the tax on that NOW. At your "high income earner" rate of 37%, that means you have to come out of pocket $9,523.81 to NET $6,000, that is whether you transfer it from a tax deferred investment or after tax.

                            This is really a simple question of:

                            What is my tax rate now?

                            What is my tax rate when I withdraw the funds?

                            Which one is higher?

                            It is just stupid to pay tax at the high rate NOW when I can pay a lower rate in the future.
                             
                            • Bushmaster

                              Bushmaster Well-Known Member
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                              Curious as to why you think you will make more money in retirement than you do now.

                              we are actually discussing Mr. "High income earner" at a max rate of 37%, which is in excess of $600,000. Its really impossible to pay more in income tax than the highest rate.

                              So if this doesn't apply to you, its apples and oranges.

                              I have no issues with a Roth. Its a great retirement vehicle. But if your marginal rate is 37%, it makes no sense to convert it to a Roth and pay the tax now. In fact, you lose money without even considering that you can manage better what income you pay tax on when you retire.
                               
                            • UFHealthGator

                              UFHealthGator Well-Known Member
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                              Are you really sure you do this for a living? When you do a backdoor roth conversion, you fund a traditional IRA account with after tax dollars. You DO NOT pay taxes again on it when you convert it to a Roth IRA, as long as your Traditional IRA/SEP IRA balance is zero by EOY. You have to file the proper 8606 form by the end of the year. I have done this both myself, and with multiple CPAs and FAs before.

                              In case you need more education on the subject:

                              Backdoor Roth IRA 2021 [Step-by-Step Guide] | White Coat Investor

                              Filed under one of the many FAs who have no clue what they are doing.
                               
                              #16 UFHealthGator, Sep 17, 2021
                              Last edited: Sep 17, 2021
                              • Bushmaster

                                Bushmaster Well-Known Member
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                                AFTER TAX DOLLARS. At 37% Mr. High Income Earner condescending *******.

                                I don't think you realize I am addressing converting tax deferred assets to a Roth where you have to pay tax NOW on the conversion.

                                You are talking about contributing after tax dollars to an IRA and then converting that to a Roth, which is what you are doing. If you have the income, then this is no biggie. If you have room left in your 401k or 457 plan, then max that first especially if you are in the top tax bracket.

                                Two different things.
                                 
                                • UFHealthGator

                                  UFHealthGator Well-Known Member
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                                  That is what a backdoor Roth IRA is, which dems are trying to close.

                                  This is literally what I said in my very first post when I replied to you explaining why we like backdoor Roth IRAs.

                                  Of course you max out your 401k and 457b first. Never debated that. I am just puzzled why you are not advising your high income earners to get a backdoor roth IRA once they max out those other buckets.
                                   
                                • Bushmaster

                                  Bushmaster Well-Known Member
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                                  You jumped into the discussion LATER when I was discussing CONVERTING IRA accounts to a Roth and I have not seen anyone do this in 20 years. It is literally talked about in the first paragraph of the OP's post.

                                  Since you are contributing after tax dollars to a non deductible Roth, its not a PRE TAX RETIREMENT ACCOUNT.

                                  You then proceeded to tell me how wrong I am for preferring tax deferred items over a Roth. You are not even doing what I was discussing. You are making a NON DEDUCTIBLE contribution to a regular IRA and then immediately converting to a Roth, which in and of itself, it NOT a bad plan at all.


                                  To keep math simple, assuming a marginal 37% rate, if you have a 100,000 regular IRA and convert it to a Roth, you will pay income tax of $37,000, leaving only $63,000 to convert. Now you CAN convert the whole $100,000, but you will have to make up the $37k with after tax dollars, which COULD be invested as well. So apples to apples, you converted 100k tax deferred to 63k tax free.

                                  Invested in the same items with the same ROI, you will have 37% MORE money in the tax deferred vehicle versus the Roth.

                                  So, if you take it all at once and you tax bracket is lower, you will wind up with more money with the regular IRA than the Roth as it is currently impossible to pay more than 37% income tax as that is the highest rate. At WORST, if your marginal rate is the max rate, you will have the same amount of money.
                                   
                                • bradgator2

                                  bradgator2 Rioting
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