While recent news reports of Peter Thiel’s $5 Billion Roth IRA may have sparked awe and envy among everyday investors (as well as maybe a call to your financial advisor), there has also been an outcry that this is another example of the ultra-rich abusing the system in that retirement accounts are not designed to serve as a tax shelter for billionaire tech moguls but instead were designed as a tool for the middle class to save for retirement.
In a near party-line vote of 24-19, the changes were approved on September 15, 2021 by the House Ways and Means Committee as part of the $3.5 trillion Build Back Better Act reconciliation recommendations. The retirement proposals are included in Subtitle I titled “Responsibly Funding Our Priorities”. Of course, the bill won’t be made law unless both the house and the senate and the president ultimately signs it into law, so stay tuned.
Per the latest reports, a recent proposal in Congress to purportedly resolve this issue would unfortunately throw the proverbial “baby” (i.e. an important retirement savings tool) out with the bath water in that it would effectively ban all Backdoor Roth IRA and Mega Backdoor Roth Solo 401k contributions effective January 1, 2022.
If the law is passed, there may be a tremendous number of taxpayers who attempt to complete Backdoor Roth IRA and/or Solo 401k transactions before the end of 2021. Practically speaking, this could add a tremendous burden to financial institutions and advisors for whom the end of the year is already one of the most hectic times of year.
Following are the parts found in the bill that would impact retirement accounts such as IRAs and 401k Plans Including Solo 401k Plans:
- Implementing a contribution limit for individual retirement plans for taxpayers with incomes of more than $400,000 and account balances in excess of $10 million (including an individual’s combined IRA and DC plan (e.g., solo 401k) account balances). (Sec. 138301)
- Requiring a minimum distribution of 50% of the amount by which an individual’s prior year combined traditional IRA, Roth IRA and DC plan (e.g., solo 401k) account balances exceed $10 million.(Sec. 138302)
- Eliminating Roth conversions for both IRAs and employer-sponsored plans (e.g. solo 401k) for single taxpayers (or taxpayers married filing separately) with taxable income over $400,000, married taxpayers filing jointly with taxable income over $450,000, and heads of households with taxable income over $425,000 (all indexed for inflation). (Sec. 138311).
- Prohibiting an IRA from holding any security if the issuer of the security requires the IRA owner to have certain minimum level of assets or income, or have completed a minimum level of education or obtained a specific license or credential. Note that it is not clear yet if this rule regarding private investments would also apply to qualified plans including solo 401k plans. (Sec. 138312)
- Expanding the statute of limitations with respect to IRA noncompliance from three years to six years.
- Prohibiting investment of IRA assets in entities in which the owner has a substantial interest.
- Treating IRA owners as disqualified persons for purposes of the prohibited transactions rules.
For more details on the latest proposal, this article provides a good summary: House Democrats propose new retirement plan rules for the rich, including contribution limits and a repeal of Roth conversions
While there are often many legislative proposals regarding retirement accounts that never materialize, it is prudent to give this proposal serious consideration given its dramatic impact if enacted and that the proposal is being made in the context of the Infrastructure Bill which has a reasonable likelihood of passing in some form or another in 2021 given that is a top legislative priority for the Biden Administration.
What can I do to stop this proposal to ban Backdoor Roth IRA and Solo 401k contributions?
If you wish to voice your opposition to the proposal, please call your Senators and Representative at (202) 225-3121. Please simply provide your Zip Code and you will be connected to your representative (after speaking to the office of your Representative, you can call back and ask to be connected to your Senators).
After you are connected, you can use the script below to voice your opposition to the proposal:
You: Hello, my name is ___(your name)__. I’m a constituent from ____(home town)____. Could I please speak to the Legislative Assistant who handles retirement legislation?
Congressional Office: Hi, this is XXXX, how can I help you?
You: Hello, this is ___(your name)__ from ___(home town) ____.
As a citizen and taxpayer, I am calling to voice my opposition to any proposal to limit my ability to save for retirement. Therefore, I’m calling to ask that the Representative (or Senator) oppose any proposal that would limit my ability to make Mega Backdoor Roth 401k and IRA contributions for the following reasons:
- It is well-known that there is a retirement crisis in this country.
- I am not a Billionaire. I am a _____(taxpayer OR small business owner (as applicable))_______ and the ability to make Backdoor Roth contributions is an important tool that allows me to save for retirement.
- I also note that these contributions are made on an “after-tax” basis so any proposal to ban this important retirement savings tool will certainly not further the supposed goal of raising money to improve the country’s infrastructure.
Congressional Office: I will let the Congressman/woman know that we talked and make sure that he/she understands your position.
You: Thank you for your time.
Backdoor & Mega Backdoor Background
The Backdoor Defined
The Mega Backdoor Roth 401k including solo 401k is the version of the “Backdoor Roth IRA.” Individuals whose income is over a certain limit and thus don’t qualify to make Roth IRA contributions will do so by making after-tax IRA contributions also known as non-deductible IRA contributions to their IRA and will then immediately convert those funds to a Roth IRA.
The Mega Backdoor Defined
- This name has bee given to 401k plans that allow for voluntary after-tax contributions because the mega backdoor Roth 401k is more lucrative then the mega backdoor Roth IRA.
- The mega backdoor Roth 401k including solo 401k is the employer plan version of the backdoor Roth IRA in that you have to be working for a company that offers a 401k that allows for voluntary after-tax contributions or have your own self-employed business (owner-only business) that sponsors a solo 401k plan that allows for voluntary after-tax contributions.
- Similar to the backdoor Roth IRA, the mega backdoor Roth solo 401k strategy allows for voluntary after-tax contributions to be made to a solo 401k which are then subsequently converted to the Roth solo 401k or a Roth IRA. For example, for the 2021 tax year the business owner can contribute as much as $58,000 on a voluntary after-tax basis to her solo 401k and immediately convert the funds to a Roth IRA or the Roth solo 401k. This is much higher when compared to the mega backdoor Roth IRA which only allows for a contribution amount of $6,000 or $7,000 for those age 50 or older.