Roth Account - Explained

The $100,000 Power of One Account

October 08, 2023

Roth Account - Explained

Today's Newsletter:

  • Quote from Abraham Lincoln

  • The $100,000 Power of One Account

  • A Money Question

Quote

“Give me six hours to chop down a tree and I will spend the first four sharpening the ax.” - Abraham Lincoln

The end result in anything is a combination of our knowledge, planning, and tools. Those three steps are the common thread I see in successful financial planning. The more knowledge, the better the planning. The better the planning, the more successful the tools. Today we are going to gain more knowledge, better understand the role planning plays, and see how one tool can make a $100,000+ impact on your financial life.

The Power of Roth Accounts

In 2009, I became a professional baseball player. It was everything that I had ever dreamed of but a little prefix in front of my title was my true goal. You see professional baseball has many different levels. There is A ball, AA ball, AAA ball, and the big leagues. Each is professional baseball but the big leagues is the dream, not A ball.

That my friends is the power of a prefix.

The same can be said for your retirement accounts. There are all kinds of different retirement accounts. Yet one is far more powerful than the rest and it too starts with a prefix. It is the “Roth” retirement account. It comes in different forms but those four letters make all the difference.

In short, it says that the money in that account has the ability to grow tax-free and come out tax-free in retirement.

Let’s dive into how you can plan around this account and best utilize it.

The $100,000 Power of One Account

The Basics:

A Roth retirement account is a type of retirement account that provides no current-year benefit but a future-year benefit. You save no tax dollars at the time of your contribution but the money contributed grows tax-free and can come out tax-free.

The main type of Roth account and the one I want to focus on today is the Roth IRA. IRA stands for Individual Retirement Account and everyone has the ability to contribute to it.

Here are the numbers behind contributing to a Roth IRA:

The maximum contribution under the age of 50 for 2023 is $6,500.

*If you are over age 50 you can contribute an additional $1,000 as a catch-up.

In order to contribute directly to a Roth IRA, your income has to be below $153,000 if filing single or $228,000 if married filing jointly.

Now many of you reading are over those limits. The good news is we have a workaround to still make Roth IRA contributions on a yearly basis.

The Back Door Roth:

For high earners, the way to still make contributions to your Roth IRA account is through a strategy called a back door Roth.

The four steps you need to take:

  1. Contribute to a Traditional IRA

  2. Take your IRA contribution and convert it (move it) from your IRA to your Roth IRA. For best practice, I let the IRA contribution settle for a few days before moving it.

  3. Be aware of the “Pro Rata” rule. This states that in order for a back-door Roth IRA to have zero tax consequences you must have zero dollars in your IRA account on December 31st of the conversion year. There are several additional strategies you can use to zero out your IRA balance before starting a back-door Roth IRA strategy.

  4. The last step is important and often missed. Your tax team needs to complete form 8606 in order to let the IRS know what you have done.

    At Moment Private Wealth, we work with all of our clients’ CPAs to ensure we complete this strategy for clients and that it is handled properly. It is one of our most often used tax strategies.

The Mega Back Door Roth:

The biggest drawback to a Roth IRA is the contribution limits. While $6,500 is nothing to sneeze at many families would contribute more if the limits allowed.

A Mega Back Door Roth allows one to contribute $66,000 to their Roth account!

Here are the three steps to take:

  1. The individual needs to max out the pre-tax portion of their 401(k) account. That limit for 2023 is $22,500.

  2. The individual needs to max out the after-tax portion of their 401(k) account. That limit for 2023 is $43,500.

  3. The individual needs to convert the $43,500 in after-tax money to either a Roth IRA or Roth 401(k).

*A few things to note about this strategy. Some plans do not allow for this strategy. Your plan must allow for after-tax contributions as well as either “in service” withdrawals to a Roth IRA or Roth 401(k) option for an in-plan conversion.

How I Use My Roth Account:

We have learned about the basics of the Roth IRA, the backdoor Roth IRA strategy, and the mega backdoor Roth IRA strategy.

So, how do I use my Roth IRA account?

In short, I do everything to get more money into my Roth accounts.

The two things I have been doing:

  1. I have converted every dollar that I had in my IRA accounts over the past two years into Roth IRA accounts. The reason for this is twofold. One I have several decades to let that money compound. Two, while no one can predict the future, tax rates are historically low compared to decades past.

  2. I complete a back-door Roth IRA contribution for my wife and me every year. That $13,000 contribution just this year has a projected balance in 30 years of more than $130,000 (8% return). Let us not forget that $130,000 will come to my wife and I tax-free in retirement.

I want to leave you with two thoughts.

One is that this is just the tip of the iceberg when it comes to getting money into Roth accounts. Your situation is unique to you and comes with its own unique planning elements. Every year, I work with high net worth families to ensure we a maxmizing their planning opportunities.

The second is that the power in every tax strategy is the multiple of time. The initial contributions are just the start but when you add compounding that mix the power is real.

A Money Question

What are you doing to plan in the last 90 days?

Our last three newsletters have covered tax topics and planning ideas. They are all great but the reality is without implementing them they mean nothing. We have roughly 90 days left in the year or 90 days to do something about our tax bill. Understand your options, build a plan, and take action.

Work with Jacob

I help athletes, entrepreneurs, and executives pay less in taxes, simplify their financial lives, and invest for the long run.

Until Next Time, My Friends

Moment Private Wealth, LLC is a Registered Investment Advisor, located in the State of Missouri. Moment Private Wealth provides investment advisory and related services for clients nationally. Moment Private Wealth will maintain all applicable registrations and licenses as required by the various states in which JL Strategic Wealth conducts business, as applicable. Moment Private Wealth renders individualized responses to persons in a particular state only after complying with all regulatory requirements, or pursuant to an applicable state exemption or exclusion. Nothing in this content is intended to be, and you should not consider anything in this content to be, investment, accounting, tax, or legal advice.