Ask an advisor: Am I making too much money to contribute to a Roth IRA?

Ask an advisor: Am I too rich for a Roth IRA?

March 3, 2023 6:08 PM

The Roth IRA is a popular retirement plan, but there are limits on how much income a contributor can have.

Welcome back to "Ask an Advisor," the advice column where real financial professionals answer questions from real people. The topic can be anything in the world of finance, from retirement to taxes to wealth management — or even advice on advising.

A Roth individual retirement account can be a great way to save for retirement. Unlike a 401(k), it's not tied to any employer, so the saver can keep using it when he or she changes jobs. And because it's a Roth, contributions are made with dollars on which taxes have already been paid, so savers can withdraw their contributions tax-free and penalty-free at any time. But people under age 59½ who pull out investment gains can face ordinary income tax and a 10% penalty. People that age and older can pull out any sums as long as they've had the account for at least five years.

These accounts are popular. One in five Americans — 27.3 million households — owned a Roth IRA in 2021, according to the Investment Company Institute, a lobbying group for investment companies. In total, Americans have about $1.3 trillion saved up in these plans.

But the IRS has strict rules about who can use a Roth IRA — and how much money they can make. For example, a single person who made more than $144,000 in 2022, or makes more than $153,000 in 2023, would not be eligible. For married couples, their combined income in 2022 would need to be less than $214,000, or less than $228,000 in 2023.

Today's question comes from a 28-year-old lawyer in upstate New York who's about to run up against these limits — but not quite yet. Should he get a Roth IRA before it's too late? Is time too short? Or should he do something else entirely? Here's what he wrote:

Dear advisors,

I'm considering investing in a Roth IRA, but I have a higher salary and anticipate that I'll exceed the income limit within a short frame of time (1-5 years). Is it still worth opening? If not, what would be the best alternatives?

For specifics, my base salary is $135,000, and I'm married, so our combined salary is about $220,000, which is in the income phase-out range. However, if they are using our 2021 taxes for reference, then we'd be safe because my salary was lower last year. The bigger issue, however, is that my actual total pay will likely be somewhere in the $170,000s or $180,000s due to additional compensation from my job, which would definitely put us above the the married income limit to contribute. But, as that isn't something that can be seen on paper now, I would still be able to contribute this year but almost definitely not after.

What I want to find out a) is it worth it to only put in one year's worth of contribution (would be the maximum allowable), and b) what would my alternatives would be once I'm capped?

—Wondering in Westchester

And here's what financial advisors wrote back:

Go for it!

Kevin Shuller, a certified financial planner and the founder of

Cedar Peak Wealth Advisors

in Denver, Colorado

I think it is worth it to start a Roth IRA. It may not be for just one year. If you and your wife surpass the Roth IRA phase-out range, you still might be able to make a backdoor Roth contribution. That involves making a non-deductible contribution to a traditional IRA and then converting it into a Roth IRA. There are a few potential hurdles to be able to do that, but it works for many people who don't have money already in a traditional IRA. I suspect a lawyer like yourself will appreciate the use of such a regulatory loophole.

Even if you do a backdoor Roth, a Roth 401(k) will let you save more money on top of that. While you can put $6,500/year into a Roth IRA in 2023 ($6,000 in 2022), you can defer $22,500 into a Roth 401(k) in 2023. Not all employers offer a Roth 401(k), but many do. You don't have the wide selection of investment options that you will have in a Roth IRA. The higher contribution limits make it a better vehicle for high earners. Between a backdoor Roth IRA and the Roth 401(k), you can potentially sock away $29,000 in your tax-free retirement accounts in 2023. If you leave your law firm down the road, you could roll your Roth 401(k) into a Roth IRA.

Even one year is worth it

David Barfield, a CFP and the founder of

Datapoint Financial Planning

in Canton, Georgia

This is a great question. Any amount saved to a Roth IRA is extremely valuable over the long term. Assuming the couple has decades until retirement, even a single year contribution today could produce a significant tax-free asset in retirement. For instance, $6,500 earning 9% for the next 40 years would be worth over $200,000 … and totally tax-free forever!

And the great news regarding the question of alternatives, once you're over the limit for married filing jointly, is that under current tax law, backdoor Roth IRA conversions might be an option, assuming the couple does not have any pre-tax IRA, SEP IRA, or SIMPLE IRA money. The backdoor Roth can be tricky, but essentially it involves making an after-tax contribution to a traditional IRA and then immediately converting it to Roth.

It might pay to wait

Carl Holubowich, a CFP and a principal at

Armstrong, Fleming & Moore

in Washington, D.C.

If you are close to the income threshold to contribute to the Roth IRA, it may be worth waiting until you file your tax return to make the contribution. The good news is you can still make a contribution for 2022 until April 15.

If your income rises high enough to no longer be able to make a Roth IRA contribution, there are still ways to get money into a Roth. If you or your wife has a retirement plan, such as a 401(k) through work, both of you could contribute up to $22,500 each in 2023 and lower your adjusted gross income enough to be eligible to make a Roth IRA contribution. If either of your employer's retirement plans offers a Roth option, you can contribute to it regardless of your income level.

The other option is to make a backdoor Roth IRA contribution. Here you make a contribution to a traditional IRA, then make a Roth conversion of the traditional IRA you just established by moving the money from the traditional IRA to the Roth IRA. This strategy only works if you don't have any money in any traditional IRA, SIMPLE or SEP accounts on December 31 of the year you make the conversion — otherwise you could unwittingly trigger a tax liability.

Lots of options... but be careful

Ryan Greiser, a CFP and the founder of

Opulus

in Doylestown, Pennsylvania

Let's start with the basics. If you're making a fat stack of cash, with a base salary of $135,000 and a combined income of $220,000 with your spouse, you might think you're out of luck when it comes to contributing to a Roth IRA.

But hold your horses. You can still contribute to a Roth IRA if your modified adjusted gross income (MAGI) falls within the income phase-out range for the tax year you make the contribution. So, if you think you'll only exceed the limit in the next year or so, you could still sneak in a partial contribution this year and max it out in the feature.

However, if you're pretty sure you're going to be rolling in the big bucks for the foreseeable future, you could always go for a backdoor Roth IRA contribution. This typically involves making a nondeductible contribution to a traditional IRA and then immediately converting the funds to a Roth IRA. It's a bit like sneaking in the back door of a sold-out concert.

But be careful. If you decide to go the backdoor Roth IRA route, it's important to execute the strategy correctly per the IRS guidelines to avoid any penalties or tax consequences. You'll want to consult with a tax professional before you go down this road.

Finally, you can keep your eye out for your employer to add a Roth 401(k) to your workplace plan, make Roth conversions from Traditional IRAs, and use an old fashion brokerage account to accumulate your wealth.

Don't let a high income hold you back from investing in your future. Whether you go for a Roth IRA, a backdoor contribution, or something else entirely, remember to do your due diligence and work with a qualified professional. And if all else fails, keep hustling and make more money — problem solved!