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It sounds like what is being suggested is that, instead of putting that extra after-tax money into a taxable brokerage account, you can put it into your 401k and later (when, the following year at tax time?) roll it into a Roth IRA without paying any *additional* tax up front?

Well, it doesn't have to be a Roth IRA. If your plan allows, you can move it into the Roth subaccount in your 401(k). And actually, you can move the money from the 401(k) to the Roth account the next day, or possibly even the same day, if your plan allows it. (Some plans allow you to set up automatic conversions from after-tax contributions into a Roth 401(k) account.) If you wait to roll the contribution until later, you will have to pay taxes on any gains that are moved into the Roth account, so you will have to pay *additional* taxes up front. To avoid those up front taxes, you could roll the gains into a Traditional account, instead of a Roth account. Then you would just pay the taxes later, instead of up front.

And of course you'll pay 0 tax later (5+ years/after age 59.5) when withdrawing from the Roth, versus capital gains taxes (and dividends) in the taxable account.

There are potentially multiple 5 year rules involved here, because you are converting from a 401(k):
- If the conversion stays in the 401(k), your Roth account in your 401(k) must have been established for at least 5 years, in addition to you being 59 1/2 (ore meet another exception) for the distribution to be qualified.
- If the conversions have been moved to a Roth IRA, then the Roth IRA must have been established for at least 5 years, in addition to you being 59 1/2 (or meet another exception) for the distribution to be qualified.
- If you do not meet the rules for qualified distributions, each conversion must be at least 5 years old in order for the distribution to be tax and penalty free.
- If you convert within the 401(k) and later move the conversion(s) to a Roth IRA, the age of each conversion follows the conversion into the IRA.

Is this true? If so, is it a loophole for high earners to get into Roths?

Yes, it's called a 'Mega Back Door Roth'. But your employer plan has to allow after-tax contributions to be able to take advantage of this. Many plans do not offer after-tax contributions.

Maybe it is meant to reward people for maxing out their deductible 401k contributions?

I don't think so. It was more of a loophole in the way the law allowing designated Roth accounts was written. Originally, it wasn't sanctioned by the IRS, but eventually they did issue a revenue ruling (IRS Notice 2014-54) that allowed the splitting of after-tax and pre-tax, which facilitated the Mega back door process.

This feels like a loophole.

It is, for those whose plans allow it.

AJ
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