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So, according to me:

Traditional IRA:

  • Money goes in tax-free
  • Grows tax-free
  • Taxed as ordinary income in retirement

Roth IRA:

  • Money goes in after-tax
  • Grows tax-free
  • Tax-free in retirement

(These two make sense to me. You are basically betting on whether taxes are higher now or whether they would be higher when you are withdrawing them.)

My company offers Mega Backdoor After-tax contributions. They sound very interesting to me because I can (as far as I understand), roll them into my Roth IRA account.

But, from what I see, this is what I am signing up for (as far as I understand):

  • Money goes in after-tax
  • Grows tax-free
  • Earnings are taxed upon withdrawal as ordinary income

This looks like double taxation to me... I don't understand why people like this? Why won't I just use my normal brokerage and not lock up money till retirement?

Am I missing something?

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  • If you have after-tax contributions to a trad 401k or equivalently nondeducted contributions to a trad IRA (called 'basis'), that part is not taxed when distributed, so there is no double tax. However, earnings on trad aftertax are taxed, whereas if you can either contribute to Roth or backdoor (convert) to Roth, the earnings are not taxed (as long as you're over 59.5 and have been in the plan or account 5 years). Jan 31 at 8:01

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With 401k plans, your company needs to allow two things to truly give you the ability to execute a mega-backdoor Roth strategy:

  1. After-tax contributions (above and beyond your $23,000 employee deferral limit for 2024)
  2. In-service withdrawals and/or in-plan conversions

The after-tax 401k contributions act the same as making nondeductible contributions to a traditional IRA. The in-service withdrawal allows you to roll your after-tax 401k into a Roth IRA, and the in-plan conversion allows you to convert your after-tax 401k to a Roth 401k within the plan.

Without the ability to move after-tax 401k funds to a Roth IRA or Roth 401k, you're stuck with after-tax funds with taxable earnings. That could be fine if you leave in a couple of years and can roll over into a Roth IRA (and the earnings into a Rollover IRA), but not as great if you're expecting to stick around at the company for 20 years.

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