RETIREMENT PLANNING: The Two Paths to Tax-Free Retirement Money

The Two Paths to Tax-Free Retirement Money

A client’s question sparked a deeper conversation about retirement strategies, income limits, and a tricky tax rule that often catches people by surprise.

By Duncan Williams Asset Management  |  Memphis, TN  |  April 2026

Dr. Williams, a physician at a Mid-South hospital, leaned in with a thoughtful expression. “I’ve been putting money into my 401(k) for years,” he said. “But lately, I keep hearing about this ‘backdoor Roth IRA.’ Am I missing out?”

He’d done everything by the book, but now he wondered if he was overlooking something crucial for his retirement.

It’s a question we hear more often these days, especially from people eager to maximize their retirement savings.

Let’s walk through the decision together, step by step.

∗ Dr. Williams is a hypothetical composite created for illustrative purposes only and does not represent any specific individual or actual client of Duncan Williams Asset Management.

STEP 1: UNDERSTANDING THE OPTIONS

Both the Roth 401(k) and the backdoor Roth IRA are tools for building tax-free retirement savings. But the path you take—and which one is right for you—depends on your circumstances.

Here’s what you need to know about each:

Roth 401(k): Straightforward and Accessible

The Roth 401(k) is the simpler of the two strategies. It’s a feature in many employer-sponsored retirement plans. Instead of putting in pre-tax dollars (like with a traditional 401(k)), you contribute money you’ve already paid taxes on.

You don’t get a tax deduction upfront, but your money grows tax-free. And when you retire, qualified withdrawals can be made without paying federal income taxes on them.

One of the biggest advantages of a Roth 401(k): there’s no income limit to participate.

It doesn’t matter if you earn $120,000 or $520,000—if your employer offers a Roth option (and many do), you’re eligible.

For 2025, the contribution limit is $23,500. If you’re between the ages of 50 and 59, or 64 and older, you can add $7,500 more as a catch-up contribution. And if you happen to be in the window between ages 60 and 63, a provision in the SECURE 2.0 Act allows an enhanced catch-up of $11,250 — a detail that surprises many people approaching that range.[1]

Backdoor Roth IRA: A Strategy for High Earners

The Backdoor Roth IRA isn’t a product. It isn’t a special account you can open at a brokerage and ask for by name.

It’s a two-step strategy.

First, you make a non-deductible contribution to a traditional IRA. There’s no income limit on this step — anyone with earned income can do it. Second, you convert that traditional IRA balance to a Roth IRA. Because you already paid taxes on the contribution, the conversion is generally tax-free.

The contribution limit for 2025 is $7,000, with an additional $1,000 catch-up if you’re 50 or older.[2]

Why go through this two-step process at all?

Because a direct Roth IRA contribution — the straightforward version — phases out at $150,000 to $165,000 of modified adjusted gross income for single filers in 2025, and between $236,000 and $246,000 for married couples filing jointly. In 2026, those thresholds shift slightly upward.[3][4]

Once your income exceeds those ceilings, the front door to a Roth IRA is closed. The backdoor is the only way in.

STEP 2: WATCH OUT FOR THE PRO-RATA RULE

Before someone executes the backdoor strategy, there is one piece of the tax code they need to understand.

It’s called the pro-rata rule.

The IRS does not allow investors to pick and choose which IRA dollars they’re converting. If you already have pre-tax money sitting in traditional IRA accounts — a rollover from an old employer’s 401(k), for example — the IRS treats all of your IRA money as a single combined pool.[5]

The tax consequences are then calculated proportionally.

Here is what that looks like in practice. Say you have $93,000 sitting in a pre-tax rollover IRA. You contribute a new $7,000 for a backdoor conversion. Your total IRA balance is now $100,000 — but only seven percent of it is after-tax.

When you convert that $7,000, the IRS doesn’t see a clean tax-free transaction. It sees a conversion that is 93 percent pre-tax and 7 percent after-tax. That means $6,510 of your conversion is taxable as ordinary income.

That’s not what most people expect when they hear “tax-free conversion.”

The most common solution is to roll any existing pre-tax IRA balances into your current employer’s 401(k) before executing the backdoor strategy. That clears the pool before you step into it. But whether your plan accepts incoming rollovers is a separate question — and one worth confirming before you act.

STEP 3: WHAT IF YOU NEED THE MONEY EARLY?

Most people don’t plan to touch retirement accounts early. But life doesn’t always follow the plan.

The rules here are meaningfully different between the two strategies.

With a Roth IRA, contributions — not earnings, but the money you put in — can be withdrawn at any time, at any age, without taxes or penalties. That flexibility functions as a kind of quiet safety net beneath the account.[6]

With a Roth 401(k), early withdrawals are more complicated. Any distribution taken before age 59½ is treated as a proportional blend of contributions and earnings. You can’t pull out just your contributions tax-free. The taxable portion is calculated based on how much of the account is earnings versus principal.[7]

Plan loans are sometimes available through a 401(k) depending on the plan’s terms. A Roth IRA offers no equivalent.

STEP 4: REQUIRED MINIMUM DISTRIBUTIONS—A RECENT CHANGE

Until recently, one of the most common reasons investors moved money from a Roth 401(k) into a Roth IRA at retirement was to avoid Required Minimum Distributions.

Roth IRAs had never required them. Roth 401(k)s did.

That distinction no longer exists.

Under the SECURE 2.0 Act, effective January 1, 2024, lifetime Required Minimum Distributions were eliminated for both Roth IRAs and Roth 401(k)s. The two accounts now operate identically on this point. You can let either one grow, undisturbed, for as long as you choose.[8][9]

STEP 5: CONSIDER YOUR INVESTMENT CHOICES

A Roth IRA can be opened at virtually any custodian — a brokerage, a bank, a mutual fund company. The investment menu is as wide as the market itself: individual stocks, exchange-traded funds, mutual funds, bonds, and more.

A Roth 401(k) is limited to whatever your employer’s plan offers. Some plans are excellent. Some are not. That’s a variable worth factoring in before you lean entirely on one strategy.

STEP 6: BE AWARE OF CHANGING RULES

The Backdoor Roth IRA has been the subject of Congressional scrutiny at various points over the past several years. Proposals have surfaced that would limit or eliminate the strategy. None of those proposals have become law as of this writing.[10]

The Roth 401(k) carries no such legislative uncertainty. It has been part of the tax code since 2006.

This doesn’t mean the backdoor strategy should be avoided. Many of our clients use it every year. But it’s worth acknowledging as part of a longer conversation about planning.

SIDE BY SIDE

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HOW DR. WILLIAMS DECIDED—AND WHAT IT MEANS FOR YOU

For Dr. Williams, his employer’s Roth 401(k) offered the simplicity and benefits he needed. (Remember, Dr. Williams is a hypothetical example, not a real client.) He chose to focus on maximizing that account for now, knowing he could always reconsider the backdoor Roth IRA if his situation changed.

For you, the best choice depends on your income, what retirement accounts you have access to, and how comfortable you feel with extra steps. Some people even find that using both strategies together works best.

If you’re not sure where you stand, or if you’re making the most of your retirement options, you’re in good company. These decisions can feel complicated, but the right guidance can help you find the approach that fits you best.

If you’ve been wondering whether the Roth 401(k) at work is enough or if the backdoor strategy could be a good addition, we’re here to help talk it through.

That’s what we do—serve our clients, one real conversation at a time.

SOURCES

1. Fidelity — Roth 401(k) Contribution Limits 2025/2026 — https://www.fidelity.com/learning-center/smart-money/roth-401k-contribution-limits

2. Fidelity — Roth IRA Income Limits 2025/2026 — https://www.fidelity.com/learning-center/smart-money/roth-ira-income-limits

3. Charles Schwab — Roth IRA Contribution Limits 2025–2026 — https://www.schwab.com/ira/roth-ira/contribution-limits

4. Vanguard — Backdoor Roth IRA: What It Is and How to Set It Up — https://investor.vanguard.com/investor-resources-education/article/how-to-set-up-backdoor-ira

5. Vanguard — Roth IRA Income and Contribution Limits for 2026 — https://investor.vanguard.com/investor-resources-education/iras/roth-ira-income-limits

6. Mercer Advisors — Making a Backdoor or Mega Backdoor Roth Contribution in 2025 — https://www.merceradvisors.com/insights/retirement/making-a-backdoor-or-mega-backdoor-roth-contribution-in-2025/

7. SDO CPA — Pro-Rata Rule Explained: How It Affects Backdoor Roth — https://www.sdocpa.com/pro-rata-rule/

8. AdvisorFinder — Backdoor Roth IRA 2025: Complete Guide — https://advisorfinder.com/blog-posts/backdoor-roth-ira-2025-high-earner-strategy

9. Vanguard — IRA Withdrawal Rules Explained — https://investor.vanguard.com/investor-resources-education/iras/ira-withdrawal-rules

10. SmartAsset — Understanding the Roth 401(k) Withdrawal Rules — https://smartasset.com/retirement/understanding-the-roth-401k-withdrawal-rules

11. Loeb & Loeb LLP — SECURE 2.0 Act: Changes to RMD Rules — https://www.loeb.com/en/insights/publications/2023/06/secure-2-0-act-changes-to-required-minimum-distribution-rules-for-retirement-plans

12. UHY LLP — SECURE 2.0 Act Changes to Roth Provisions in 2024 — https://uhy-us.com/insights/news/2024/january/secure-20-act-changes-to-roth-provisions-in-2024

13. IRS Publication 590-A — Contributions to Individual Retirement Arrangements — https://www.irs.gov/publications/p590a

14. IRS — Retirement Topics: 401(k) and Profit-Sharing Plan Contribution Limits — https://www.irs.gov/retirement-plans/plan-participant-employee/retirement-topics-401k-and-profit-sharing-plan-contribution-limits

DISCLOSURE

This article is provided for general informational and educational purposes only and does not constitute investment advice, tax advice, legal advice, or a recommendation to buy, sell, or hold any security or investment product. The information contained herein is believed to be from reliable sources but is not guaranteed as to accuracy or completeness. Contribution limits, income thresholds, and tax laws are subject to change by Congress or the IRS at any time. Legislative proposals described herein have not been enacted into law as of the publication date and may or may not become law in the future. Past tax treatment of these accounts is not a guarantee of future tax treatment. All individuals should consult a qualified financial advisor, tax professional, and/or attorney before implementing any retirement savings strategy to ensure it is appropriate for their individual financial situation, goals, and risk tolerance. Nothing herein should be construed as a solicitation or offer to buy or sell any security. Duncan Williams Asset Management is a registered investment adviser. Registration does not imply a certain level of skill or training.

[1]Fidelity — Roth 401(k) Contribution Limits 2025/2026 — https://www.fidelity.com/learning-center/smart-money/roth-401k-contribution-limits

[2]Charles Schwab — Roth IRA Contribution Limits 2025–2026 — https://www.schwab.com/ira/roth-ira/contribution-limits

[3]Fidelity — Roth IRA Income Limits 2025/2026 — https://www.fidelity.com/learning-center/smart-money/roth-ira-income-limits

[4]Vanguard — Roth IRA Income and Contribution Limits for 2026 — https://investor.vanguard.com/investor-resources-education/iras/roth-ira-income-limits

[5]SDO CPA — Pro-Rata Rule Explained — https://www.sdocpa.com/pro-rata-rule/

[6]Vanguard — IRA Withdrawal Rules Explained — https://investor.vanguard.com/investor-resources-education/iras/ira-withdrawal-rules

[7]SmartAsset — Understanding the Roth 401(k) Withdrawal Rules — https://smartasset.com/retirement/understanding-the-roth-401k-withdrawal-rules

[8]Loeb & Loeb LLP — SECURE 2.0 Act: Changes to RMD Rules — https://www.loeb.com/en/insights/publications/2023/06/secure-2-0-act-changes-to-required-minimum-distribution-rules-for-retirement-plans

[9]UHY LLP — SECURE 2.0 Act Changes to Roth Provisions in 2024 — https://uhy-us.com/insights/news/2024/january/secure-20-act-changes-to-roth-provisions-in-2024

[10]AdvisorFinder — Backdoor Roth IRA 2025: Complete Guide — https://advisorfinder.com/blog-posts/backdoor-roth-ira-2025-high-earner-strategy

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