Roth Conversion Alternatives: What Are Your Options?

A Roth conversion allows you to move funds from a traditional, pre-tax retirement account into a post-tax Roth account, offering tax-free withdrawals in retirement. However, this transaction has a significant cost: the converted amount is added to your ordinary income for the year. This can create a large tax liability and push you into a higher tax bracket.

Fortunately, several strategies exist that can help achieve similar tax-advantaged goals without the immediate tax bill of a direct conversion. These methods provide alternative pathways to build a source of tax-free or tax-efficient income for your later years.

The Mega Backdoor Roth Strategy

For those with access to a specific type of employer-sponsored retirement plan, the mega backdoor Roth strategy offers an alternative. This approach is available only to individuals whose 401(k) plan documents permit two key features: the ability to make after-tax (non-Roth) contributions and the option for in-service withdrawals or conversions of those specific funds.

After maximizing standard 401(k) contributions, the next step is making additional, non-deductible after-tax contributions to the plan. It is important to move these after-tax contributions into either a Roth IRA or the plan’s designated Roth 401(k) component. This prompt action helps to minimize the potential for investment growth on the after-tax money, as any such earnings would be taxable upon conversion.

This strategy hinges on the overall contribution limits for 401(k) plans. For 2025, this total limit is $70,000. This cap is comprehensive, including all employee deferrals (both pre-tax and Roth), any employer matching or profit-sharing contributions, and the after-tax contributions that are central to this strategy. For example, if an employee under 50 contributes $23,500 and their employer adds $10,000, they could potentially contribute an additional $36,500 in after-tax dollars to reach the $70,000 limit.

The “mega backdoor” name reflects its capacity to allow for retirement savings far exceeding the typical employee contribution limits. It is particularly advantageous for high-income earners who are otherwise phased out of direct Roth IRA contributions.

Contributing to a Roth 401(k)

Contributing directly to a Roth 401(k), if offered by an employer, is a direct alternative to a Roth conversion. Contributions are made with after-tax dollars, meaning there is no upfront tax deduction, but the investments grow tax-free, and qualified withdrawals in retirement are also completely free from federal income tax.

A Roth 401(k) has a higher contribution limit compared to a Roth IRA. For 2025, an employee can contribute up to $23,500 to their 401(k), with an additional catch-up contribution available for those age 50 and over. The catch-up limit is $7,500, though for 2025, a higher limit of $11,250 applies to individuals aged 60, 61, 62, and 63. Unlike Roth IRAs, there are no income limitations restricting who can contribute to a Roth 401(k), making it accessible for high-income earners.

Employer matching contributions have specific tax treatment. Employers usually deposit their matching funds into a separate, traditional pre-tax 401(k) account, even when an employee contributes to a Roth 401(k). This means that upon retirement, withdrawals from the Roth portion will be tax-free, while withdrawals from the traditional portion containing the employer match will be taxed as ordinary income. The SECURE 2.0 Act now gives employers the option to offer the match on a Roth basis, but the employee would have to pay income tax on those matching funds in the year they are made.

Leveraging a Health Savings Account

A Health Savings Account (HSA) can be a retirement savings tool for building tax-advantaged funds. To be eligible to contribute to an HSA, an individual must be enrolled in a High-Deductible Health Plan (HDHP). For 2025, an HDHP is defined as a plan with a minimum deductible of $1,650 for self-only coverage or $3,300 for family coverage.

The primary appeal of an HSA lies in its triple-tax advantage. First, contributions are tax-deductible, reducing your taxable income for the year. Second, the funds within the account can be invested and grow completely tax-free. Third, withdrawals are tax-free at any time, provided they are used for qualified medical expenses.

After age 65, the rules governing HSA withdrawals become more flexible. While funds used for qualified medical expenses remain entirely tax-free, money can also be withdrawn for any other reason without the 20% penalty that applies to non-medical withdrawals before age 65. These non-medical withdrawals are simply taxed as ordinary income, similar to distributions from a traditional IRA or 401(k).

For 2025, the annual contribution limit is $4,300 for individuals and $8,550 for families, with an additional $1,000 catch-up contribution allowed for those age 55 and older. By funding an HSA and paying for current medical costs out-of-pocket, savers can allow the account balance to grow. This creates a dedicated, tax-free fund for healthcare costs in retirement and a flexible, taxable source of income for other needs.

Tax-Advantaged Investing in a Brokerage Account

For individuals who have already maximized their contributions to traditional retirement accounts, a standard brokerage account can serve as a tax-efficient investment vehicle. While these accounts do not offer the same level of tax benefits as a 401(k) or IRA, specific strategies can minimize taxes on investment returns.

One effective strategy is to invest in municipal bonds. The interest income generated by these bonds is typically exempt from federal income tax. If an investor resides in the state that issued the bond, the interest may be exempt from state and local taxes as well, making municipal bonds an attractive option for investors in higher tax brackets seeking tax-free income.

Another fundamental tactic involves holding investments for more than one year. When an asset is sold after being held for a year or less, any profit is considered a short-term capital gain and is taxed at the investor’s ordinary income tax rate. By holding the asset for longer than a year, the profit qualifies as a long-term capital gain, which is taxed at much lower rates of 0%, 15%, or 20%, depending on the investor’s total taxable income.

Asset location can enhance tax efficiency. This strategy involves placing less tax-efficient investments, such as corporate bonds that generate taxable interest, inside tax-advantaged retirement accounts like a 401(k) or IRA. Conversely, more tax-efficient assets, like growth stocks or index funds that are expected to be held for the long term, are well-suited for a taxable brokerage account to take advantage of the lower long-term capital gains rates.