Mega Roth Conversions

[justatester]

We have a client that is inquiring about the Mega Roth IRA conversions.  I have a pretty basic understanding, but have a few plan specific question.

The plan has 1 HCE and the maximum pretax/roth contribution he could make is 4.5% due to relative low NHCE average.  On the match/after tax side, he would be limited to 1.96%. (plan uses prior year testing)

If he maxes out his Roth contributions of $26,000 (Roth deferrals plus catchup) and then puts in an additional $21,000 in aftertax (plus $11,000 in match) to reach the 415 limits and then fails the (adp/acp) test, how does that impact the conversion?

Participant is savvy enough (which the plan we are talking about is very likely) and takes a distribution of full Roth and Aftertax money via rollover to an IRA account.  How is the ADP/ACP test then corrected?  Is the money associated with the ADP/ACP correction not available for rollover?  If not, is the 1099 need to be “updated”?  Or is there no impact on the rollover since it is all aftertax money?

 

[Mr Bagwell]

Just, 

The Mega Roth's, also called Back Door Roth, success is extremely dependent on the employee demographics of the plan.

This scenario you asked about won't work.  You already pointed out that 4.5% deferrals (plus some catch-up) is about all the HCE can get through the ADP test.  So why bother maxing out deferrals to only get it refunded.  The match side is only worse because the ACP will include the EE after-tax.  Most of the match will be refunded.

So the HCE is right back where he started, about 4.5% deferral and 2% match.

Your best bet would be to get the plan in some form of Safe Harbor and HCE could defer the 26,000 and get 3% or 4% employer money.

So to answer your question... O yeah, there will be an impact on the rollover in your scenario.  It would not be available for rollover, and then let the fun begin. 

[ESOP Guy]

17 hours ago, justatester said:

  Is the money associated with the ADP/ACP correction not available for rollover?  

 

The correction can't be rolled over to be clear. 

[RatherBeGolfing]

18 hours ago, Mr Bagwell said:

also called Back Door Roth

Doesn't back door Roth usually refer to a non-deductible IRA contribution that is converted?

[Mr Bagwell]

28 minutes ago, RatherBeGolfing said:

Doesn't back door Roth usually refer to a non-deductible IRA contribution that is converted?

It might to some.  I have some notes describing Back Door Roth as "Roth contributions are typically made as after tax elective deferral contributions to a 401(k) plan or IRA".

This whole extra Roth thing gets people really excited.  And it should.  The problem is that not every Plan can take advantage.

[CuseFan]

Any solution that utilizes a qualified plan to direct additional amounts into Roth that would otherwise not be available through Roth IRA or 401(k) can be referred to as a "back-door" Roth. However, use of after-tax voluntary contributions typically works in only two situations: owner or HCE only plans where nondiscrimination testing is not needed or very large corporate plans with generous matching contributions that can satisfy ACP testing.

[Catch22PGM]

I am here to second what CuseFan stated.  Another article has been written about mega backdoor Roth which is why most of the advisors I know are asking about it again.  The VAST majority of 401(k) plans we administer have NHCE and it is always (ok, 99.99% of the time) only HCE that want to make voluntary after-tax contributions. The only plans where this has worked for us are in solo-401(k) plans.

[MoJo]

Slightly off topic - but who published the article on Mega Roth's recently?  We've gotten about 8 or 9 questions on these in the last week and a half - and that usually means someone has recycled an article... AGAIN! [sigh]

[Mr Bagwell]

Wall Street Journal.... article dated 7/9/2021.  maybe posted to site 7/10/2021

[ESOP Guy]

Yup saw it in the WSJ and knew it would spark questions as this idea tends to get oversold in the media.  

 

If you are a subscriber here you go.

https://www.wsj.com/articles/a-little-known-back-door-trick-for-boosting-your-roth-contributions-11625848733?mod=searchresults_pos3&page=1

[CuseFan]

Similar to an article on Mitt Romney years back, again putting Roth IRAs back in the news and framing (again) as an abusive tax loophole for the rich. If they didn't want rich people to shield billions from taxes via Roth, they should have put an accumulation cap and brought back the excise tax on excess accumulations.