Backdoor Roth IRA

The tax code sets an income ceiling on contributing to a Roth IRA directly, but it sets no income limit on two other moves: making a nondeductible contribution to a traditional IRA, and converting a traditional IRA to a Roth. The backdoor Roth IRA simply chains those two permitted steps together. A high earner contributes after-tax money to a traditional IRA, taking no deduction, then converts the balance to a Roth IRA. Because the contribution was already taxed, the conversion itself is tax-free apart from any growth in between, and the money ends up where a direct contribution would have put it.

The strategy is legitimate and widely used. Congress's tax-writing committees explicitly acknowledged in the legislative history of the 2017 tax law that taxpayers may make nondeductible IRA contributions and convert them, which put earlier worries about the two steps being collapsed into one forbidden move largely to rest. There is no legally required waiting period between contribution and conversion, though practices vary. What the strategy is not is a loophole for avoiding tax on pre-tax money; it only works cleanly when the converted dollars are basis.

That is where the pro-rata rule comes in. For conversion purposes, the IRS treats all of your traditional, SEP, and SIMPLE IRAs as one pot, measured at year-end. If that pot contains pre-tax money, every conversion is deemed to come proportionally from pre-tax dollars and after-tax basis. You cannot designate the nondeductible contribution as the part you converted. Someone with a large rollover IRA from an old 401(k) will find most of their "tax-free" backdoor conversion is actually taxable. The standard fix is moving pre-tax IRA money into a current employer's 401(k) before December 31 of the conversion year, if the plan accepts roll-ins, leaving only basis behind.

Paperwork is the other failure point. Form 8606 must report the nondeductible contribution and the conversion; skip it and the IRS has no record of your basis, which risks the same dollars being taxed twice. Spouses are evaluated separately, so one spouse's pre-tax IRAs don't contaminate the other's backdoor.

A hypothetical example of the clean version: Alex earns $300,000, far above the 2026 phase-out, and has no other traditional IRA money. In January he contributes $7,500 to a traditional IRA, takes no deduction, and converts the account to his Roth IRA soon after. The balance grew by $10 in the interim, so his taxable income from the conversion is $10. He files Form 8606, and $7,500 is now permanently in Roth territory.

Now the trap: suppose Alex also had a $67,500 pre-tax rollover IRA from an old job. His total IRA pot is $75,000, of which only $7,500 (10%) is after-tax basis. Converting $7,500 means 90% of it, $6,750, is taxable income, and $6,750 of basis remains stranded in the pot for future years. Rolling the $67,500 into his current 401(k) before year-end would have restored the clean result.

Pros

• Gives high earners above the phase-out a lawful route to annual Roth IRA funding.
• Executed cleanly, the tax cost is near zero and the money gains tax-free growth and freedom from lifetime RMDs.
• Repeatable every year, and each spouse can do it independently.

Cons

• The pro-rata rule makes it partly taxable for anyone with meaningful pre-tax IRA balances, which describes many high earners with old rollover IRAs.
• Requires correct Form 8606 filings every year it's used; sloppy records can lead to double taxation of basis.
• The annual amount is modest, so it's a supplement to workplace savings, not a substitute.