Mega Backdoor Roth IRA: Advice needed for setting up retirement account Forum

[corgiterrier17]

Hi all,

I started in biglaw and for the first time in my life, am setting up the retirement accounts.

My firm uses Schwab for those accounts and I would really appreciate it if anyone can help me with allocating the % across different accounts and choosing the investment strategy/funds in Schwab.

There are 3 different accounts in Schwab: 1) 401(k), 2) Roth 401(k), 3) After-tax account (which I want to roll over the contributions to the Roth IRA account that I will create through Vanguard).

1) I'm asked to set % for each account. If I want to max out all of my retirement contributions (401(k), Roth IRA, HSA, and the after-tax account, aka Mega Backdoor Roth IRA) how should allocate the percentages? Do I choose only one of the traditional 401(k) and Roth 401(k) or do both?-- I've read the traditional 401(k) is better than Roth 401(k) for those with high income.

Especially because my firm allows the Mega Backdoor Roth IRA, I'm not sure how this should affect how much I contribute to different accounts. The max % for each account is 75% and it's cumulative so the % for each account should add up to 75%, and this is where I'm confused.

2) Which investment strategy (funds) in Schwab should I go for? I just want to invest in the S&P 500 index funds but there are so many options in Schwab that I don't even understand. Do I go with the"State Street S&P 500 Non lending fund"?

Thank you so much for your help!

[The Lsat Airbender]

Are you sure your plan allows you to roll your after-tax contributions over to another broker? Most mega-backdoor strategies involve an "in-plan" conversion. You might be thinking of a regular backdoor (where someone over the Roth income limit contributes to a Traditional IRA and then immediately converts to Roth).

Traditional 401(k) is indeed probably better if you're paying the top marginal rate - one argument for a Roth 401(k), though, is that you'd effectively be cramming more money in there (post-tax dollars being worth more than pre-tax).

Yes, that S&P 500 fund is an excellent starting point assuming you're still >20-30 years from retirement. You'd do better to diversify into smaller-cap US stocks as well as international stocks, and later you'll want to add bonds, but I'd first do a lot of research on the topic and there's really no rush. Be wary of funds with high expense ratios, which will eat your lunch over time and which are common in most 401(k) plans (they're a main way 401(k) providers make their money).

You want to set the percentages to whatever you can afford, basically, because you've only got so much time left to max your 2021 contributions and you probably won't fill up all the space. If you can do something like 30% traditional 401(k), 30% after-tax elective, and still have money to pay your bills at the end of the month, go ahead and jam it (but do the math first because you'll have very little take-home left after 30%/30%). In future years, you'll hit the cap sometime before December 31st and then have fatter take-home paychecks for the rest of the year.

[Fireworks2016]

Sorry to hijack, but can someone explain the purpose of making a post-tax contribution to a normal 401(k)?

Or is that even a thing? Do you only make post-tax contributions after you hit the normal cap, and put them in a separate Roth account for tax free gains?

This seems very basic, so sorry, but hoping someone here has a better grasp than me.

[hoos89]

You can make $19,500 of pre-tax contributions in a year, but some 401(k) plans also allow you to make an additional $38,500 of after tax contributions and convert those to a Roth 401(k). You don't have to wait until you hit the cap to make those after-tax contributions: you can designate X% of income to pre-tax and Y% to after-tax. The benefit is that ... you have a bunch of Roth 401(k) money that never gets taxed again.

[kaiser]

Have you actually confirmed with your 401k provider that the mega backdoor Roth is possible with your plan? Remember that its not just having an after-tax bucket. That is just the first piece. You also need to then have the option to either (i) make an in-plan conversion to Roth 401k, or (ii) make an in-service contribution to your Roth IRA (i.e., roll the money over into a Roth IRA while still actually employed). Very few plans allow you to roll the money over to a Roth IRA while still actually working there. None of my friends have the mega backdoor Roth option. My plan has an after-tax bucket, but I don't have the option of an in-plan conversion or in-service withdrawal.

[Anonymous User]

Just to help, this isn't a "secret trick" or anything. You can say to your 401k admin or HR person "I want to do a mega backdoor roth contribution -- does our plan support that" and the answer should be either yes or no.

To the above asking why you'd contribute after-tax -- generally the only reason is that this is the route to doing a "backdoor" contribution. You contribute after-tax dollars temporarily, and then roll them into a roth 401k by way of an "in plan conversion" or "in plan roth rollover." This lets you go up from 19.5k/yr to 53k