Roth IRA

Ins and outs of "backdoor" Roth IRA contributions for physicians

Roth IRA's are powerful tax fighting vehicles most physicians can use to save for retirement, yet many doctors haven't the foggiest notion about Roth IRA's and next to none of them understand the "backdoor Roth IRA contribution" that makes a Roth IRA possible. Now you can be the first kid on your block to "get" the Roth IRA thing. Keep reading...

 What is a Roth IRA? and why should physicians care?

The Roth IRA is one of the most powerful tax deferral vehicles a physician family has at its disposal. Two features make them great:

  1. Roth IRA's grow tax-free… forever. Unlike Traditional IRA's, you can leave the money in your Roth IRA until the day you die. There are no required minimum distributions that would otherwise begin at age 70 1/2.

  2. Qualified Roth IRA distributions are tax-free. For most physicians, that means you can spend the money after you've reached age 59 1/2 and pay zero income taxes.

Every nickel you cram into a Roth IRA has the potential to grow like a weed and never, ever be taxed. Traditional 401ks, municipal bonds and variable annuities cannot lay that claim.

 So why doesn't every physician have a Roth IRA?

It's simple: the average doctor is not allowed to make a direct contribution to a Roth IRA, so they don't contribute. The IRS says that physician families (married, filing jointly) who earn more than $188,000 (in 2013) are NOT ELIGIBLE to make a diret contribution to a Roth IRA. Period.

Don't worry. You can still get money into a Roth IRA using a "backdoor" contribution. Even though this tax planning strategy has been covered by The Wall Street Journal and explained in excruciating detail by The Journal of Accountancy , many financial advisors and tax preparers still overlook it. If it's news to you, you're not alone.

 Which doctors should install a backdoor to their Roth IRA's?

You're a good fit for a backdoor Roth IRA contribution if:

  • you don't qualify to make a direct Roth IRA contribution (as above),

  • you are covered by a retirement plan at work, and

  • you have already maxed out your tax-deductible contributions to that plan.

 What exactly is a "Backdoor Roth IRA"?

Truth be told, there is no such thing as a "Backdoor Roth IRA". What I'm saying here is that there are still only two kinds of IRA's: Traditional, and Roth. Your Backdoor Roth IRA is nothing more than a regular old Traditional IRA that you yourself earmark as a "backdoor" to get money into your Roth IRA.

 How does the backdoor Roth IRA contribution work?

In the simplest case, it goes like this:

  1. Dr. Young and her husband have never saved a dime for retirement, so she has a zero balance in her retirement accounts at the beginning of this example.

  2. She starts work at a clinic making $300,000 per year, where she also maxes out her 401k or 403b plan.

  3. She opens both a Traditional IRA and a Roth IRA.

  4. She contributes $5500 to the Traditional IRA and, because she is covered by a retirement plan at work, she cannot deduct this contribution from her taxes and receives no immediate tax benefit.

  5. She then completes a one-page form known as a Roth Conversion Form and submits it to her brokerage.

  6. The brokerage removes or "distributes" the money from her Traditional IRA and plops it into her Roth IRA, thus completing the conversion.

  7. Voila! Dr. Young has pushed cash through her Traditional IRA into her Roth IRA via a Roth conversion, thus making an indirect contribution through the "backdoor".

  8. Early next year, her brokerage sends her a Form 5498 showing that she made the Traditional IRA contribution and a Form 1099-R showing that she made a distribution from that Traditional IRA.

  9. In April of next year, Dr. Young diligently reminds her tax preparer that she made a backdoor Roth IRA contribution so that she will not owe tax on the $5500 that was distributed from her Traditional IRA.

  10. She does the whole thing over again next year.

 Is the backdoor Roth IRA really that simple for the average physician?

In a word, the answer is "no". Most physicians already have a Traditional IRA and there is money in that account from either fully deductible contributions, rollover contributions, or both. This matter is more complicated when a self-employed physician owns a SEP-IRA or SIMPLE-IRA, both of which are counted as IRA's for the sake of Roth conversions.

When you do a Roth conversion, you cannot pick and choose which part of the IRA to convert, so physicians in this situation need to exercise great care (or get help from a great financial advisor) to avoid triggering a huge tax bill.

Here's an example of how NOT to do the backdoor Roth IRA contribution:

  1. Dr. Old has a Traditional IRA that holds $44,500 that was rolled over from an old 401k and he also has a $50,000 SEP-IRA that he started last year.

  2. He contributes $5,500 to his Traditional IRA account, bringing the balance up to $50,000.

  3. He then converts $5,500 worth of the Traditional IRA to a Roth IRA, thinking he won't owe any taxes on his backdoor contribution.

  4. When April 15 rolls around, Dr. Old is shocked to learn that 94.5% of the $5500 he converted is going to be taxed as ordinary income, since only 5.5% of the conversion is treated as "basis" from his recent non-deductible contribution. (The basis is $5,500, but it's only 5.5% of the overall IRA balance which now stands at $100,000 because the SEP-IRA and all of the rollover amount in the Traditional IRA is included in the calculation).

Roth IRA conversions obey what tax guru Ed Slott refers to as the "cream in the coffee" rule. When you take a "sip" from your Traditional IRA by converting some of it to a Roth IRA, you cannot choose to drink only the cream (the non-deductible portion). You must also drink a lot of the coffee itself (the tax-deductible portion), so be careful as you set up your backdoor Roth IRA contributions if you have a bunch of money in your IRA's already.

How to fix your broken backdoor

Some physicians will be able to avoid the "cream in the coffee" prorata taxation thing I mentioned above by rolling their old Traditional IRA into their 401k or 403b plan at work if their employer's plan allows it. This requires a lot of paperwork and planning but I believe the end result, a fat Roth IRA, is well worth the effort.

And before I go, let me leave you with one more tip. Your Roth 401k is NOT the same as your Roth IRA. Making contributions to aRoth 401k at work is probably a really bad move for the average physician. Most physicians will be better off making contributions to the Traditional sub-account of their 401k/403b since this allows you to defer taxes into retirement when you may be in a lower tax bracket.

Every physician family's backdoor Roth IRA contribution strategy is different and each one seems to have its own cute little twist, so make sure you really know what you're doing before you dive in, or ask your tax guru and your financial advisor to team up to make this easy for you.

Many thanks to Janet Davis, a Certified Public Accountant who works with physician families, for fact checking my post.

Should physicians buy Variable Universal Life insurance? | W. Ben Utley CFP® answers in Ophthalmology Business magazine

Should physicians buy variable universal life insurance?
Should physicians buy variable universal life insurance?


"I just became a partner in a small group practice. My tax person tells me the bump in pay is going to mean a lot higher taxes. I am maxing out my 401(k) but still I got a huge tax bill last year. The agent who sold me my disability insurance policy says I should buy some variable universal life insurance from him because it will save me taxes, but I already have $2 million in term coverage from USAA for my wife and kids. One of my partners thinks VUL is a bad deal. What do you think?"


Since it’s early in your career and you have a family to think about, it makes sense to have life insurance. Based on what I have seen in similar cases, $2 million is a good start but it’s not enough to provide everything your family might need to pay off the house, send kids to college (or private school), and pay ongoing costs of living without you. So I do think you need more coverage, but I do not believe variable universal life insurance is the answer.

As a form of cash value insurance, VUL combines the benefits of life insurance with the features you might find in a mutual fund investment. The word “variable” refers to the fluctuations in the cash value as a result of changes in the value of the investments it holds, while the word “universal” means that premium payments are flexible (like a universal joint is flexible).

I would have named this product “variable flexible life,” or VFL for short, but I figure the “F” might be misinterpreted to stand for “fallacious” since misguided physicians who buy this stuff suffer from the mistaken impression that they will save taxes while making a great investment that will protect their families.

The promise of tax savings is more fiction than fact. Sure, the cash value has potential to grow tax-deferred and the death benefit might be income tax-free, but these benefits are not the same as true, permanent tax savings. Since Congress closed most of the loopholes with the Tax Reform Act of 1986, permanent tax savings have grown increasingly scarce, particularly for medical specialists and other taxpayers in the top brackets.

A VUL policy’s tax deferral feature—arguably the only attribute of any value to an investor—may actually cost physicians more money in both the short and long term.

Under current tax law, long-term capital gains and qualified dividends are taxed at a lower rate than ordinary income, but the gain on complete withdrawals from a VUL policy will be taxed as ordinary income. Given that the top federal tax rate on ordinary income is fully 23 percentage points higher than the capital gains rate, equity-based investments made in a variable universal life product may result in taxes that are twice as high as those paid on gains from investments in an after-tax account (a jointly held mutual fund account, for example).

To be clear, a VUL policy will not save you a dime in taxes but it may cost a fortune in fees. The mutual fund-like “separate account” investment options available inside these policies are laden with costs, including operating expenses for underlying funds, management fees layered on top of that, plus an annual policy fee. “Paying those expenses is like rowing a boat with a hole in it. No matter how fast you row, you’re gonna sink,” says Lawrence Keller, an insurance expert with Physician Financial Services, Woodbury, N.Y.

There’s a huge incentive to push these policies. Since it’s common for agents to receive at least half of the first year’s premium as commission, your $50,000 investment means the agent will walk away with $25,000. Not a bad payday… for him. But when you try to walk away from the policy yourself, you will trip over one last expense that physicians often overlook: the surrender charge. Since the insurance company pays the agent up front, it can only recoup the cost by locking you into the policy or charging you heavily if you pull out before they’re done, which may be 10 or 15 years. “Buying a VUL policy is a lot like buying a new car,” said Mr. Keller. “The day after you buy it, it’s worth less than you paid for it.”

Your partner had it right when he cautioned you against VUL, especially when there are so many other vehicles that might be a better fit for you.

Consider term life insurance. Like auto or homeowner’s coverage, term life is pure insurance without cash value. Term life costs far less than VUL on a dollars-per-thousand basis, so every premium dollar buys you more coverage than it would with VUL. You will send less money to the insurance company and keep more for your family.

What can you do with the money you save?

Look into a Section 529 college savings plan. Contributions grow tax-deferred (just like VUL) but withdrawals from a 529 plan are free from income tax when used for qualified higher education expense. Some states will even give you a break on your state income taxes when you contribute—a real, permanent tax savings. (See “Section 529 plans: The best way for doctors to save for college” in the July 2012 issue of Ophthalmology Business.)

Check out a “back door” Roth IRA contribution. Given the average physician’s income, it’s unlikely that you can make a direct contribution to a Roth IRA, and you probably cannot deduct contributions to a Traditional IRA (not unlike VUL). However, you can still make non-deductible contributions to a Traditional IRA, and your spouse can too. After you have made your contribution, ask your tax advisor if it makes sense to convert your Traditional IRA to a Roth, where those contributions can grow tax-free for retirement, no matter how much Congress amps the pain on taxpayers in the top brackets.

After you have maxed out your 401(k), your IRAs, and your 529 plan, think about investing in low-cost, tax efficient equity index funds or exchange-traded funds (ETFs) from companies like Vanguard, Barclays, or Dimensional Fund Advisors. To keep the balance right (and avoid the dreaded Medicare surtax on unearned income), you might also pick up some tax-free income from a municipal bond fund. Finally, you and your partners might want to adopt a defined benefit retirement plan (a “pension plan”) to soak up excess cash that can grow tax-deferred for the long haul.

Keep an Eye on Your Money

The key to financial security is vigilance. Get curious. Ask questions! Dig for answers … or email your questions to so I can do the digging for you. If I use your question in “Eye on your money,” I will send you one of my favorite personal finance books to feed your head and a cool “Eye on your money” coffee mug to satisfy your thirst for answers.

Mr. Utley is president and founder of Physician Family Financial Advisors Inc., which delivers fee-only financial planning and independent investment advice to clients coast-to-coast. Contact him at 541-463-0899 or visit

This article originally appeared in the April 2013 ezine of Ophthalmology Business, pages 12-13. To download a PDF version, click here.