A Backdoor IRA is a term which refers to the method of contributing to a nondeductible IRA and then converting it to a Roth. Some financial planners are recommending “backdoor” IRAs to high income earners who are not eligible for direct Roth IRA contributions.
The Roth IRA contribution limit for 2011 is $6,000 if 50 years old or older, $5,000 if you are age 49 and younger. The amount you are allowed to contribute begins to phase out if joint income is $169,000 ($107,000 single) or more. Roth contributions are not allowed at all with a joint income that is $179,000 ($122,000 single) or more.
Those who are limited by their income can always convert their traditional IRA to a Roth IRA. However, many fear that the benefit gained by doing the conversion and paying the taxes now may be nullified by future tax law revisions. The taxes upon conversion could be very heavy for those with large traditional IRA balances.
High income earners may want to consider the “backdoor” option of contributing to a Roth IRA.
A non-deductible IRA is a traditional IRA that consists of contributions which were not eligible for a deduction against their taxable income. These accounts are funded with after-tax dollars, such as with a Roth; however, the earnings from non-deductibles are taxed upon withdrawal, unlike Roth IRAs.