Is There a Monster Truck in Your 401(k)?

The "Mega Back Door Roth" sounds like the name of a monster truck, heavy metal band or dinosaur—big, intense and powerful!

From our experience, these words also describe the Mega Back Door Roth strategy perfectly.

Let's start at the beginning—what is a Mega Back Door Roth? If you are working, you likely have access to a 401(k) retirement plan that allows you to contribute $22,500 in 2023¹ as part of your employee elective deferral.

The maximum that can be deferred into your plan for 2023 is $66,000,² which includes your employee elective deferral and the employer match. What this higher limit may allow for (depending on your employer's plan) is to add additional dollars to an after-tax bucket, above and beyond your employee elective deferral of $22,500.

Let's look at some numbers. Say you plan to defer $22,500 throughout the year, and your employer will match 50%, for a total deferral of $33,750. This means there is the potential to add an additional $32,250 to an after-tax bucket before hitting the limit.

This is the “big” part—if your plan and your cash flow allow, you can contribute that $32,750 to a bucket that can ultimately be directed to a Roth IRA. Once the dollars are in the after-tax bucket, you can call your plan administrator to do an in-service withdrawal—where the after-tax portion is sent to your Roth IRA and the earnings to your traditional Roth.³ Note that if you receive checks, make sure they are deposited within 60 days because the 60-day rules still apply.⁴

In our view, this $32k+ is intense because it's far more than one can contribute by doing a traditional "Back Door Roth," where one contributes to a traditional IRA and then converts to a Roth IRA. In that scenario, the maximum contribution allowed in 2023 is just $6,500.⁵

And we believe it's powerful because, after a down year in the market, those Roth dollars can grow free of income tax and be distributed without income tax too.⁶ Getting those dollars to work soon can mean the potential for significant growth down the line.

What to do now?

In our opinion, we believe it would be a best practice to:

1. Research if your plan allows for after-tax deferrals once you reach your employee deferral limit contributions of $22,500
2. Evaluate your cash flow and determine how much you can direct toward an after-tax bucket
3. Review your 401(k) contribution strategy to ensure you are receiving the maximum match from your employer while maximizing your deferrals
4. Determine whether you currently have after-tax dollars in your 401(k) that can be rolled into your Roth IRA 

If you like the idea of a monster truck in your retirement savings, without the noise or destruction of going to a rally, consider looking into whether a Mega Back Door Roth is right for you. Please reach out to your advisor if you have any questions.

¹ https://www.irs.gov/newsroom/taxpayers-should-review-the-401k-and-ira-limit-increases-for-2023
² https://www.irs.gov/irb/2022-45_IRB#NOT-2022-55
³ https://www.investopedia.com/ask/answers/101314/what-are-roth-401k-withdrawal-rules.asp
⁴ https://www.investopedia.com/ask/answers/101314/what-are-roth-401k-withdrawal-rules.asp
⁵ https://www.irs.gov/newsroom/taxpayers-should-review-the-401k-and-ira-limit-increases-for-2023
⁶ https://www.investopedia.com/how-roth-ira-taxes-work-4769988

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