NOTE: Based on Bichon Frise’s comments and some research on Publication 590 from the irs.gov website, as well as the link to fairmark.com in the comments from Bichon Frise, I’ve decided to make my 2014 Backdoor Roth IRA contribution at the very beginning of 2014. Since it’s so late in 2013 already, I’m going to continue with my existing plan for my 2013 contribution. You’ll see an update on both of these in one of my remaining net worth updates for the year. I’m still leaving the content of the post here because I feel that my concerns and wonderings are still valid. Just please read the first few comments as well.
Many people who can make the maximum contribution to their Roth IRA at the very beginning of the year, in January. Some people even make a game (?) of trying to do this as early as possible in the year. Me? I try to do this as close to the end of the year as possible. I’m not against setting aside the cash to make the contribution throughout the year so that I could technically do it at any point.
Why do I do this? Well if you read line 6 on form 8606, you need to enter the value of all your traditional, SEP, and SIMPLE IRAs as of December 31, 2013. I want to be confident that there will be no money in a traditional IRA at the end of the year before I make the Roth IRA contribution when I’m making it through the back door. Why?
My employer charges a fee to keep money in my 401(k) once I’m no longer an employee. The difference in expense ratios between admiral shares and what I can get through my employer is not worth paying this fee, so I plan to roll my 401(k) into a Rollover IRA or the next employer’s 401(k) as soon as the plan administrator will let me. I don’t want to be caught with having money in a Traditional IRA at the end of the year, so I’d rather wait on making the Roth IRA contribution. If the new employer doesn’t let me contribute to the 401(k) for some period of time or their plan isn’t as good as admiral shares at Vanguard, I would rather use the Rollover IRA, even though it would make me ineligible for a Backdoor Roth IRA that year.
With the current balance in my 401(k), most of my conversions from Roth IRA to Traditional IRA would have been taxable, which would be expensive in my 28% bracket. That would be approximately a $2,500 mistake. I’d rather pay the fee to leave money in my 401(k) than the income tax on the conversion. Honestly, looking at form 8606 now, I should have waited until the end of the year to make the conversion from Traditional to Roth on my 2012 contribution. Or I should have just made it in 2012 itself.
In conclusion: my assumption that some day I will have a Rollover IRA instead of a 401(k) is also part of why I am doing the Backdoor Roth IRA for now, even though I was originally against it. Since I hit the income cap for direct Roth IRA contributions so young (at 24), I would like to build up some Roth space while it’s still possible. I’m hopeful that I will at least get to contribute to a Roth IRA through the backdoor this year, in 2014, and in 2015, which would give me $35,000 to $40,000 in the account. My Roth account will almost always be dwarfed by my eventual Traditional IRA from my 401(k) and my taxable account, but it’s still valuable space to have, to diversify on future taxes, especially since I otherwise would have invested the money in a fully taxed investment account.
Readers, when do you make your Roth IRA contribution for the year?