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Retired Military Finances 301: Walking the Roth IRA - AGI Tightrope Thumbnail

Retired Military Finances 301: Walking the Roth IRA - AGI Tightrope

Retirement Funding Taxes

One the common issues we see with retired military members (especially senior officers) is the inability to contribute to a Roth IRA. In case you're not aware, there are income limits associated with Roth IRA contributions.

  • If you're married filing jointly (MFJ), you can't contribute to a Roth IRA if your Modified Adjusted Gross Income (MAGI), which is the same as AGI for most of us, exceeds $240,000 (in 2024). The ability to contribute starts to phase out at $230,000 of MAGI
  • If you're single, the phase-out range runs from $146,000 to $161,000 of MAGI (in 2024). With no contributions above $161,000
  • If you're married filing separately, you might just as well forget about Roth contributions (the income limits are so low almost no one qualifies)

As you can see, it's not too hard, when adding in a military pension, to exceed the income limits. And if married, the limits apply to both spouses. So, if you're over the limit, what can you do?

Can Your 401(k) Help You?

As mentioned, if your MAGI exceeds $240,000 and you're MFJ you can't contribute to a Roth IRA. But what if your MAGI is $240,000 and you make a pre-tax $23,500 contribution to your company's 401(k) plan? Since 401(k) contributions (pre-tax) aren't included in your MAGI, you now are below the income phaseout and both spouses can contribute to a Roth IRA. The same concept applies for those who file single.

If a pre-tax contribution won't get you below the income limit, you can make Roth contributions to your 401(k). You may not have noticed above, but the income limits only apply to Roth IRAs. 401(k)s are not IRAs so the MAGI limit doesn't apply. Of note, this won't help your spouse (if he or she isn't employed and wants to make contributions to a spousal Roth IRA) contribute to a Roth IRA.

Introducing the Back-Door Roth Conversion.

The income limits above apply to contributions, not conversions. So, under current law anyone, regardless of MAGI, can convert funds from a Traditional IRA to a Roth IRA. It's not that simple though. There is a best case and other case scenario.

Best Case. If you or your spouse don't currently have a Traditional IRA, you can open one, make non-deductible contributions and convert those contributions to a Roth IRA. The transaction will only be taxable if the funds you contribute to a Traditional IRA have earnings prior to conversion. If so, the earnings will be taxable. It shouldn't be too bad.

Other Case. If you have a Traditional IRA with pre-tax contributions and/or earnings, you must proportionally convert the funds to a Roth IRA. Here is an example. You contributed $6,500 pre-tax to a Roth IRA last year. The funds grew to $7,000. You make a $7,000 non-deductible contribution this year and convert $7,000 to a Roth IRA. You might think the $7,000 conversion would be tax-free. You'd be wrong. You must prorate the conversion and $3,500 will be tax-free and $3,500 will be taxable. And before you get too smart for your own good, you only have one IRA regardless of how many accounts you have. You must prorate across all accounts.

If you have a 401(k), you can avoid this problem by transferring your pre-tax IRA funds into the 401(k). Remember, a 401(k) is not an IRA

Make Non-Deductible Contributions to a Traditional IRA

It just might make sense to make non-deductible contributions to a Traditional IRA. This would be the case when you already have a large IRA pre-tax balance and transferring to a 401(k) isn't an option. You can make the non-deductible contributions, let them grow and then convert them when you retire and are potentially in a lower tax bracket (especially if you move to a state without an income tax).

IRAs are Tricky

I think IRAs have some of the trickiest tax rules of any investment option. Make sure you know what you're doing.

Military Finances are Different

The fact that as a military retiree you have a pension, makes it much more likely that you'll exceed the income limits for contributing to a Roth IRA. Your civilian counterparts don't have to deal with this and a financial advisor that works with civilians may not be thinking about your pension either. And this isn't the only case where an Active or Retired Senior Military Officer or NCO will have financial situations different than a civilian. That is why we think you should work with a financial planner/advisor that deals with the unique issues Active or Retired Military Members have each and every day. If you'd like to find out how we work with people like you, use the button below to schedule a free, initial consultation.

Military Finances 201: Roth vs Pre-Tax Revisited


Military Finances 101: What You Need to Know About Roth Conversions


Military Tax Benefit: Rollover of SGLI Proceeds to a Roth IRA




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