Definition
A backdoor Roth IRA is a method that lets high earners fund a Roth IRA despite exceeding the income limits that normally block direct Roth contributions.
How It Works
The taxpayer makes a nondeductible contribution to a traditional IRA, which has no income limit on contributions, then converts that amount to a Roth IRA. Because the contribution was after-tax, the conversion itself generates little or no additional tax, and the money then grows and is withdrawn tax-free under Roth rules.
Example
A high earner who cannot contribute directly to a Roth puts $7,000 into a traditional IRA as a nondeductible contribution, then converts it to a Roth shortly after, owing little or no tax on the conversion.
When It Works Best
It works best for high earners who have no existing pre-tax IRA balances to complicate the conversion.
Who It Applies To
Taxpayers whose income is too high for direct Roth contributions.
Watch-Outs
The pro-rata rule is the main trap: if the taxpayer holds other pre-tax IRA funds, including SEP or SIMPLE IRAs, the conversion is taxed proportionally across all IRA balances. Rolling pre-tax IRA funds into a 401(k) before converting is the common fix.
