Investing Archives

Dec

2025

Setting Up a Retirement Account for Your Child

By Rebecca Lake | invest, Investing, Preparing for Retirement | Comments Off

Opening a tax-advantaged individual retirement account (IRA) for minors becomes possible once they start earning income. Even babysitting or lawn-mowing money counts.

A custodial IRA offers certain advantages: It can jump start a child’s interest in investing, and possibly help build their future nest egg. But there are annual contribution limits and other potential drawbacks to consider, such as the child’s eligibility for college financial aid.

🛈 Currently, SoFi does not offer custodial banking or investment products.

How to Open a Retirement Account for Your Child

Opening a retirement fund for a child means opening a custodial IRA. Generally speaking, a custodial account is one that’s owned by an adult — a parent, grandparent, or legal guardian — on behalf of a minor.

The adult does the investment planning for their child, and manages the money in the account until the child reaches the age of majority (it varies by state). At that point, all the money in the account belongs to the child.

Steps to Opening a Retirement Account for a Child

Here’s how opening a retirement account for minors typically works.

Step 1: Choose a Brokerage

Custodial IRAs are offered by many brokerages, so you’ll need to choose where to open yours. This could be the brokerage where you currently have your investment accounts or a different one.

When deciding on a custodial IRA, consider the range of investments offered, the fees you’re likely to pay, and how easy it is overall to open and manage new accounts. For example, some brokerages let you set up an IRA for a child online, while others require you to fill out and mail in the necessary paperwork.

Step 2: Complete the Application

On the application for a custodial IRA, the brokerage will typically ask for specific information, including:

• Contact information (e.g., your phone number, email address, and mailing address)

• Personal information about yourself, including your name, date of birth, and Social Security number

• Personal information about your minor child, including their name, date of birth, and Social Security number

• Employment information, if applicable

You’ll also need to share routing information and the account number for the bank account you plan to use to make contributions. If you’re moving money from another brokerage firm, you’ll be asked to provide the account number and type.

Step 3: Choose an IRA Type

Should you choose a traditional or a Roth IRA for your child? Both offer tax benefits and both have the same annual contribution limits for kids. For minors, a Roth IRA typically works better. One reason is that the child’s tax rate is typically quite low, and likely much lower than their tax rate will be upon retirement.

Step 4: Fund the Account and Choose Investments

Once you’ve opened a retirement account for a child, you can fund the account using your linked bank account and then make your investment selections. As the custodian, you choose how the money in the IRA is invested, though you might want to talk to your kids first to get their feedback. Generally, custodial IRAs can offer the same investment selections as IRAs for adults, which can mean stocks, mutual funds, exchange-traded funds (ETFs), bonds and other securities.

Different Types of IRAs for Children

As mentioned earlier, there are two main types of IRAs you can open for a minor child: traditional and Roth. The main difference lies in their tax treatment. The IRS regulates contributions to and withdrawals from each type of IRA.

Traditional IRA

A traditional IRA is funded with pre-tax dollars. The IRS allows eligible taxpayers to claim a deduction for contributions. When you take money out in retirement, you pay taxes on the earnings.

Traditional IRAs can make sense for people who can benefit from tax-deductible contributions. That might be less valuable to your child than the tax benefits that a Roth IRA could yield.

Roth IRA

You start a Roth IRA using after-tax dollars, so you get no tax deductions on your contributions. But they can offer something else: tax-free qualified distributions. This means no matter what tax bracket your child is in when they retire, they can withdraw their money from a Roth IRA tax-free.

Roth IRA withdrawal rules also allow contributions to be withdrawn at any time, tax- and penalty-free.

Funding a Child’s Retirement Account

Both traditional and Roth IRAs have annual contribution limits, and you have to contribute earned income. For tax year 2025, the annual contribution limit for traditional and Roth IRAs is $7,000. For tax year 2026, the contribution limit is $7,500.

The same rules apply to custodial IRAs. In tax year 2025, kids can contribute an amount equal to their earnings for the year or the $7,000 annual limit, whichever is lower. In 2026, kids can contribute an amount equal to their earnings for the year or the $7,500 annual limit, whichever is lower. So if your child makes $5,000 by babysitting and mowing lawns in a year, the most they’d be able to add to their IRA is $5,000.

Again, it’s important to remember that kids need to have income (specifically, taxable compensation) to open and contribute to a traditional or Roth IRA. According to the IRS, that includes:

• Wages

• Salaries

• Commissions

• Tips

• Bonuses

• Net income from self-employment

Investment income, including interest and dividend income, doesn’t count as income that can be contributed to the child’s IRA, under IRS guidelines.

Can a Parent Contribute to a Child’s IRA?

A parent can contribute to a child’s IRA only if that child has earned income of their own for the year.

Again, contributions to a child’s IRA must not exceed their allowed limit for the year. Going back to the previous example, in which your child earned $5,000, they could technically put all of that money into their IRA. Or you could offer to split the difference and let them put in $2,500 while contributing the remaining $2,500 yourself.

Keeping careful records of your child’s earnings for the year can help you avoid contributing too much to their IRA. Also, offering to put in an equivalent amount (without breaching the limit) can be a good motivator for kids to invest in their IRA.

Benefits of a Child Opening a Retirement Account

Opening up a Roth IRA for a child can benefit them in several ways.

• Kids can get an early taste of what it means to invest money rather than saving it. The IRA can be a teaching tool to help a child learn how the market works and the importance of setting long-term financial goals.

• Kids who start saving for retirement at an early age have the ability to take full advantage of the power of compounding interest. A child who contributes $5,000 each year starting at age 14 and earns a 7% annual return, for example, could have $2.3 million saved for retirement by age 65. Running the numbers using a Roth IRA calculator can give you an idea of how much of a head start on growing wealth you might be able to give your child by opening a minor IRA.

• The money in a Roth IRA for a child is tax-free when they take qualified distributions. This can result in substantial tax savings if they’re in a higher tax bracket when they retire.

Cons of a Child Opening a Retirement Account

Before you open a traditional or Roth IRA for a child, there are some drawbacks to consider.

• While contributing to a Roth IRA may offer some long-term benefits, there are no guarantees, and the money is then locked up until your child turns 59 ½ (although early withdrawals are possible, and might incur a penalty).

• A Roth IRA might affect your college-bound child’s financial aid eligibility. Just having money in a Roth IRA won’t cause any snags if your child is applying for federal student aid. But if they withdraw contributions from their Roth IRA for any reason — including paying for college expenses — that money is counted as income, which may affect eligibility for need-based aid.

• Investments within a custodial IRA entail some level of risk, as with all investments.

Pros	Cons
An IRA can be a good way to teach kids about investing and the stock market.	Funds in an IRA are typically restricted (although Roth contributions can be withdrawn at any time, penalty-free).
Starting an IRA for a child at a young age means they have more time to benefit from compounding interest.	Withdrawal of contributions from a Roth IRA could affect a child’s financial aid eligibility.
Qualified distributions are tax-free in retirement.	Investments within a custodial IRA entail some level of risk.

The Takeaway

IRAs can be a valuable addition to a retirement savings strategy if you’re interested in investment planning for children or for yourself. If you haven’t started saving for the future yet or your child is starting to earn income of their own, there’s no time like the present to consider opening an IRA.

FAQ

How do I set up a retirement account for a minor?

To get started, find out which brokerages allow you to open custodial IRAs for minor children. Then you need to choose a brokerage and IRA type, fill out the appropriate paperwork, and make a deposit or transfer to fund the IRA.

How do I give my kids an IRA?

You can open an IRA for your child once they have earned income of their own. This would be a custodial account: You own it until the child reaches adulthood, at which point it belongs to them. The other way to give an IRA to your kids is to name them as your IRA beneficiary when you pass away. If the child is a minor when they inherit the IRA, they would need a custodian to manage it for them.

When can I start a 401(k) for my child?

You can’t start a 401(k) for a child, unless you run a business that offers a 401(k) to its employees and your child works for you. You can, however, open an IRA for a minor child who has earned income, and make contributions to it on their behalf, as long as the total contributions don’t surpass the amount earned by the child that year.

About the author

Rebecca Lake

Rebecca Lake has been a finance writer for nearly a decade, specializing in personal finance, investing, and small business. She is a contributor at Forbes Advisor, SmartAsset, Investopedia, The Balance, MyBankTracker, MoneyRates and CreditCards.com. Read full bio.

You may also be interested in:

How To Invest For Your Kids: Secure Their Financial Future

Tips for Teaching Your Kids About Investing

Creating an Investment Plan for Your Child

Photo credit: iStock/VioletaStoimenova

Disclaimer: The projections or other information regarding the likelihood of various investment outcomes are hypothetical in nature, do not reflect actual investment results, and are not guarantees of future results.

INVESTMENTS ARE NOT FDIC INSURED • ARE NOT BANK GUARANTEED • MAY LOSE VALUE

Dec

2025

Do You Pay Capital Gains on Roth IRAs and IRAs?

By Dan Miller | Growing Wealth, invest, Investing, Preparing for Retirement | Comments Off

You don’t have to pay capital gains tax on investment profits while they are held in a traditional or a Roth IRA account. In most cases, the question of taxes comes into play when you withdraw money from a traditional or Roth IRA.

Each type of IRA is subject to a different set of tax rules, and it’s essential to know how these accounts work, as the tax implications are significant now as well as in the future.

IRAs, Explained

An Individual Retirement Account (IRA) is a tax-advantaged account typically used for retirement savings. There are two main types of IRAs — traditional IRAs and Roth IRAs — and the tax advantages of each are quite distinct.

Generally speaking, all IRAs are subject to contribution limits and withdrawal rules, but Roth IRAs have strict income caps as well as other restrictions.

Contribution Limits

For tax year 2025, the annual contribution limit for both Roth and traditional IRAs is $7,000, and $8,000 for those 50 or older. For tax year 2026, the annual IRA contribution limit is $7,500, and $8,600 for those 50 or older.

It’s important to know that you can only contribute earned income to an IRA; earned income refers to taxable income like wages, tips, commissions. If you earn less than the contribution limit, you can only deposit up to the amount of money you made that year.

One exception is in the case of a spousal IRA, where the working spouse can contribute to an IRA on behalf of a spouse who doesn’t have earned income. Like ordinary IRAs, spousal IRAs can be traditional or Roth in style.

Traditional IRAs

All IRAs are tax advantaged in some way. When you invest in a traditional IRA, you may be able to take a tax deduction for the amount you contribute in the tax year that you make the contribution.

The contributions you make may be fully or partially tax-deductible, depending on whether you or your spouse are covered by a workplace retirement plan. If you’re not sure, you may want to check IRS.gov for details.

The money inside the account grows tax-deferred, meaning any capital appreciation of those funds is not subject to investment taxes, i.e. capital gains tax, while held in the account over time. But starting at age 59 ½ , qualified withdrawals are taxed at regular income tax rates.

If you think about it, this makes sense because you make contributions to a traditional IRA on a pre-tax basis. When you take withdrawals, you then owe income tax on the contributions and any earnings.

With some exceptions, early withdrawals from a traditional IRA prior to age 59 ½ are subject to income tax and a 10% penalty.

Recommended: IRA Tax Deduction Rules

Roth IRAs

Roth IRAs follow a different set of rules. You contribute to a Roth IRA with after-tax money. That means you won’t get a tax deduction for contributions you make in the year that you contribute.

Your contributions grow inside your Roth IRA tax-free, along with any earnings. When you reach retirement age and start to make withdrawals, you won’t owe income tax on money you withdraw because you already paid tax on the principal (i.e. your original contribution amounts) — and the earnings are not taxed on qualified withdrawals.

What Are Capital Gains Taxes?

Capital gains refer to investment profits. In a taxable investment account you would owe capital gains tax on the profits you made from selling investments: e.g., stocks, bonds, real estate, and so on.

You don’t owe capital gains tax just for owning these assets — it only applies if you profit from selling them. Depending on how long you held an investment before you sold it, you would owe short- or long-term capital gains.

Retirement accounts, however, are subject to their own set of tax rules, and traditional and Roth IRAs each handle capital gains taxes differently.

Are Gains Taxed in Traditional IRAs?

Traditional IRA plans, as noted above, are tax-deferred, which essentially means that investment profits are not subject to capital gains tax while they remain in the account. Given this, the sale of individual investments like stocks inside an IRA is not considered a taxable event.

However, with tax-deferred accounts like traditional IRAs, you do have to pay ordinary income tax on withdrawals (meaning, you’re taxed at your marginal income rate).

So when you take withdrawals from a traditional IRA, you will owe income tax on the amount you withdraw, including any investment gains (i.e., earnings) in the account.

Are Gains Taxed in Roth IRAs?

The same principle applies to Roth IRAs, even though these are after-tax accounts: You don’t have to pay taxes on investment income or any assets that you buy or sell inside your Roth IRA.

Because you contribute to a Roth IRA with after-tax money, your money grows tax-free inside your IRA. Also, the earnings in the account grow tax-free over time and those gains are not taxed within the account.

In addition, qualified withdrawals of contributions and earnings from a Roth IRA are tax free. But remember: early or non-qualified withdrawal of earnings from a Roth IRA would be subject to taxes and a penalty (with some exceptions; for details see IRS.gov).

Roth IRA Penalties

Because you contribute to a Roth IRA with after-tax money, you can always withdraw your contributions (meaning your principal) without paying any tax or penalties.

If you wait to withdraw money from your Roth IRA until you reach age 59 ½, you can also withdraw your earnings without tax or penalties — as long as you’ve had the account for at least five years.

If you withdraw Roth IRA earnings before age 59 ½ or before you’ve held the account for five years, you may be charged a 10% early withdrawal penalty, though there are IRA withdrawal rules that may help you avoid the penalty in certain situations.

Are Gains Taxed in 401(k)s?

An IRA and a 401(k) work in a similar way when it comes to capital gains tax. Just as there are traditional and Roth IRAs, there are also traditional and “designated” Roth 401(k) plans, and they work similarly to their corresponding IRA equivalents.

So, generally speaking, you do not owe any capital gains tax on the sale of any investments held inside either type of 401(k) account.

Opening an IRA With SoFi

Most people are familiar with the basic tax advantages of using an IRA to save for retirement. Traditional IRAs are tax-deferred accounts and may provide a tax deduction in the years you make contributions. Roth IRAs are after-tax accounts that can provide tax-free income in retirement.

But the fact that you don’t have to pay capital gains tax is also worth noting. With both a traditional IRA and a Roth IRA, buying and selling stocks or other investments is not considered a taxable event. That means that you will not owe capital gains tax when you sell investments inside your IRA.

Prepare for your retirement with an individual retirement account (IRA). It’s easy to get started when you open a traditional or Roth IRA with SoFi. Whether you prefer a hands-on self-directed IRA through SoFi Securities or an automated robo IRA with SoFi Wealth, you can build a portfolio to help support your long-term goals while gaining access to tax-advantaged savings strategies.

Help grow your nest egg with a SoFi IRA.

FAQ

Are Roth IRAs subject to capital gains tax?

No, buying and selling stocks or other investments inside a Roth IRA is not considered a taxable event. This means that you will not owe capital gains tax for buying or selling investments inside your Roth IRA. And because contributions to Roth IRAs are made with after-tax money, you also won’t owe income tax on qualified withdrawals.

Do you have to pay taxes if you sell stocks in a Roth IRA?

Selling stocks inside a Roth IRA is not considered a taxable event. So whether you regularly buy and sell stocks inside your Roth IRA, or just have unrealized gains and losses, you won’t need to worry about capital gains tax.

What happens when you sell a stock in your Roth IRA?

Buying and selling stocks inside an IRA is not considered a taxable event. So you won’t owe capital gains tax on stock you sell, but you also won’t be able to offset gains with a loss you capture from a stock sale inside your IRA.

Photo credit: iStock/designer491

INVESTMENTS ARE NOT FDIC INSURED • ARE NOT BANK GUARANTEED • MAY LOSE VALUE

SoFi Invest is a trade name used by SoFi Wealth LLC and SoFi Securities LLC offering investment products and services. Robo investing and advisory services are provided by SoFi Wealth LLC, an SEC-registered investment adviser. Brokerage and self-directed investing products offered through SoFi Securities LLC, Member FINRA/SIPC.

For disclosures on SoFi Invest platforms visit SoFi.com/legal. For a full listing of the fees associated with Sofi Invest please view our fee schedule.

Tax Information: This article provides general background information only and is not intended to serve as legal or tax advice or as a substitute for legal counsel. You should consult your own attorney and/or tax advisor if you have a question requiring legal or tax advice.

Disclaimer: The projections or other information regarding the likelihood of various investment outcomes are hypothetical in nature, do not reflect actual investment results, and are not guarantees of future results.

Financial Tips & Strategies: The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.

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CN-Q425-3236452-61

Dec

2025

Mega Backdoor Roths, Explained

By Samuel Becker | Growing Wealth, invest, Investing, Terminology | Comments Off

For those who earn an income that makes them ineligible to contribute to a Roth IRA, a mega backdoor Roth IRA may be an effective tool to help them save for retirement, and also get a potential tax break in their golden years.

Only a certain type of individual will likely choose to employ a mega backdoor Roth IRA as a part of their financial plans. And there are a number of conditions that have to be met for mega backdoor Roth to be possible.

Read on to learn what mega backdoor Roth IRAs are, how they work, and the important details that investors need to know about them.

Key Points

• A mega backdoor Roth IRA allows high earners to save for retirement with potential tax benefits, despite income limits on traditional Roth IRAs.

• This strategy involves making after-tax contributions to a 401(k) and then transferring these to a Roth IRA.

• Eligibility for a mega backdoor Roth depends on specific 401(k) plan features, including the allowance of after-tax contributions and in-service distributions.

• Contribution limits for 401(k) plans in 2025 and 2026 allow for significant after-tax contributions, enhancing the potential retirement savings.

• The process, while beneficial, can be complex and may require consultation with a financial professional to navigate potential hurdles.

What Is a Mega Backdoor Roth IRA?

The mega backdoor Roth IRA is a retirement savings strategy in which people who have 401(k) plans through their employer — along with the ability to make after-tax contributions to that plan — can roll over the after-tax contributions into a Roth IRA.

But first, it’s important to understand the basics of regular Roth IRAs. A Roth IRA is a retirement account for individuals. For tax year 2025 (filed in 2026), Roth account holders can contribute up to $7,000 (or $8,000 for those 50 and older) of their after-tax earnings. For tax year 2026 (filed in 2027), they can contribute up to $7,500 (or $8,600 for those 50 and older) of their after-tax earnings.

Individuals can withdraw their contributions at any time, without paying taxes or penalties. For that reason, Roth IRAs are attractive and useful savings vehicles for many people.

But Roth IRAs have their limits — and one of them is that people can only contribute to them if their modified adjusted gross income (MAGI) is below a certain threshold.

In 2025, the limit is up to $150,000 for single tax filers (those earning from $150,000 to $165,00 can contribute a reduced amount); for married people who file taxes jointly, the limit is up to $236,000 (those earning from $236,000 to $246,000 can contribute a reduced amount).

In 2026, the limit is up to $153,000 for single tax filers (those earning from $153,000 to $168,000 can contribute a reduced amount); for married people who file taxes jointly, the limit is up to $242,000 (those earning from $242,000 to $252,000 can contribute a reduced amount).

💡 Quick Tip: Did you know that you must choose the investments in your IRA? Once you open a new IRA and start saving, you get to decide which mutual funds, ETFs, or other investments you want — it’s totally up to you.

How Does a Mega Backdoor Roth Work?

When discussing a mega backdoor Roth, it’s helpful to understand how a regular backdoor Roth IRA works. Generally, individuals with income levels above the thresholds mentioned who wish to contribute to a Roth IRA are out of luck. However, there is a workaround: the backdoor Roth IRA, a strategy that allows high-earners to fund a Roth IRA account by converting funds in a traditional IRA (which has no limits on a contributors’ earnings) into a Roth IRA. This could be useful if an individual expects to be in a higher income bracket at retirement than they are currently.

The mega backdoor Roth is a strategy that allows individuals, particularly high-income earners who exceed standard Roth IRA income limits, to make additional, large after-tax contributions to a 401(k) plan and then convert those funds to a Roth IRA for tax-free growth.

The process takes advantage of a loophole in retirement plan contribution rules and typically involves a two-step process: maximizing regular pre-tax 401(k) contributions, making additional after-tax contributions, then converting the after-tax funds into a Roth account.

For example, people who have 401(k) plans through their employer — along with the ability to make after-tax contributions to that plan — can potentially roll over up to $46,500 in 2025, and $47,500 in 2026, in after-tax contributions to a Roth IRA. That mega Roth transfer limit has the potential to boost an individual’s retirement savings.

Example Scenario: How to Pull Off a Mega Backdoor Roth IRA

The mega backdoor Roth IRA process is pretty much the same as that of a backdoor Roth IRA. The key difference is that while the regular backdoor involves converting funds from a traditional IRA into a Roth IRA, the mega backdoor involves converting after-tax funds from a 401(k) into a Roth IRA.

Whether a mega backdoor Roth IRA is even an option will depend on an individual’s specific circumstances. These are the necessary conditions that need to be in place for someone to try a mega backdoor strategy:

• You have a 401(k) plan. People hoping to enact the mega backdoor strategy will need to be enrolled in their employer-sponsored 401(k) plan.

• You can make after-tax contributions to your 401(k). Determine whether an employer will allow for additional, after-tax contributions.

• The 401(k) plan allows for in-service distributions. A final piece of the puzzle is to determine whether a 401(k) plan allows non-hardship distributions to either a Roth IRA or Roth 401(k). If not, that money will remain in the 401(k) account until the owner leaves the company, with no chance of a mega backdoor Roth IRA move.

If these conditions exist, a mega backdoor strategy should be possible. Here’s how the process would work:

Open a Roth IRA — so there’s an account to transfer those additional funds to.

From there, pulling off the mega backdoor Roth IRA strategy may sound deceptively straightforward — max out 401(k) contributions and after-tax 401(k) contributions, and then transfer those after-tax contributions to the Roth IRA.

But be warned: There may be many unforeseen hurdles or expenses that arise during the process, and for that reason, consulting with a financial professional to help navigate may be advisable.

Who Is Eligible for a Mega Backdoor Roth

Whether you might be eligible for a mega backdoor Roth depends on your workplace 401(k) retirement plan. First, the plan would need to allow for after-tax contributions. Then the 401(k) plan must also allow for in-service distributions to a Roth IRA or Roth 401(k). If your 401(k) plan meets both these criteria, you should generally be eligible for a mega backdoor Roth IRA.

Contribution Limits

If your employer allows for additional, after-tax contributions to your 401(k), you’ll need to figure out what your maximum after-tax contribution is. For 2025, the standard 401(k) contribution limit for employees to a 401(k) is $23,500. Those age 50 to 59 or 64-plus are able to contribute up to $31,000; those 60 to 63 are able to contribute up to $34,750.

For 2026, the standard 401(k) contribution limit for employees to a 401(k) is $24,500. Those age 50 to 59 or 64-plus are able to contribute up to $32,500; those 60 to 63 are able to contribute up to $35,750.

In 2025, the IRS allows up to $70,000 ($77,500 for those 50 and up, and $81,250 for those 60-63) in total contributions, including employer and after-tax contributions, to a 401(k). In 2026, the total limits are $72,000, $80,000, and $83,250, respectively.

So how much can you contribute in after-tax funds? Here’s an example. Say you are under age 50 and you contributed the max of $23,500 to your 401(k) in 2025, and your employer contributed $8,000, for a total of $31,500. That means you can contribute up to $38,500 in after-tax contributions to reach the total contribution level of $70,000. For 2026, you would be able to contribute up to $40,500.

Is a Mega Backdoor Roth Right For Me?

Given that this Roth IRA workaround has so many moving parts, it’s worth thinking carefully about whether a mega backdoor Roth IRA makes sense for you. These are the advantages and disadvantages.

Benefits

The main upside of a mega backdoor Roth is that it allows those who are earning too much to contribute to a Roth IRA a way to potentially take advantage of tax-free growth.

Plus, with a mega backdoor Roth IRA an individual can effectively supercharge retirement savings because more money can be stashed away. It may also offer a way to further diversify retirement savings.

Downsides

The mega backdoor Roth IRA is a complicated process, and there are a lot of factors at play that an individual needs to understand and stay on top of.

In addition, when executing a mega backdoor Roth IRA and converting a traditional IRA to a Roth IRA, it could result in significant taxes, as the IRS will apply income tax to contributions that were previously deducted.

The Future of Mega Backdoor Roths

Mega backdoor Roths are currently permitted as long as you have a 401(k) plan that meets all the criteria to make you eligible.

However, it’s possible that the mega backdoor Roth IRA could go away at some point. In prior years, there was some legislation introduced that would have eliminated the strategy, but that legislation was not enacted.

The Takeaway

Strategies like the mega backdoor Roth IRA may be used by some investors to help achieve their retirement goals — as long as specific conditions are met, including having a 401(k) plan that accepts after-tax contributions.

While retirement may feel like far off, especially if you’re early in your career or still relatively young, it’s generally wise to start thinking about it sooner rather than later.

Help grow your nest egg with a SoFi IRA.

FAQ

Are mega backdoor Roths still allowed in 2025?

Yes, mega backdoor Roths are still permissible in 2025.

Is a mega backdoor Roth worth it?

Whether a mega backdoor Roth is worth it depends on your specific situation. It may be worth it for you if you earn too much to otherwise be eligible for a Roth IRA and if you have a 401(k) plan that allows you to make after-tax contributions.

Is a mega backdoor Roth legal?

Yes, a mega backdoor Roth IRA is currently legal.

Are mega backdoor Roths popular among Fortune 500 companies?

A number of Fortune 500 companies allow the after-tax contributions to a 401(k) that are necessary for executing a mega backdoor Roth IRA.

What is a super backdoor Roth?

A super backdoor Roth IRA is the same thing as a mega backdoor Roth IRA. It is a strategy in which people who have 401(k) plans through their employer — along with the ability to make after-tax contributions to that plan — can roll over the after-tax contributions into a Roth IRA.

Third-Party Brand Mentions: No brands, products, or companies mentioned are affiliated with SoFi, nor do they endorse or sponsor this article. Third-party trademarks referenced herein are property of their respective owners.

Financial Tips & Strategies: The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.

Tax Information: This article provides general background information only and is not intended to serve as legal or tax advice or as a substitute for legal counsel. You should consult your own attorney and/or tax advisor if you have a question requiring legal or tax advice.

INVESTMENTS ARE NOT FDIC INSURED • ARE NOT BANK GUARANTEED • MAY LOSE VALUE

Dec

2025

Guide to Rolling Over a Pension Into an IRA

By Rebecca Lake | invest, Investing, Preparing for Retirement | Comments Off

If you have a defined-benefit pension plan, you could opt for a lump-sum distribution when you retire or roll the money over to an individual retirement account (IRA). Rolling pension benefits to an IRA is something you might consider if you don’t necessarily need the money right away for retirement and you want to maintain those funds on a tax-advantaged basis.

Rolling a pension into an IRA isn’t a complicated process, though it’s important to understand how it works to avoid triggering an unexpected tax bill.

Key Points

• A traditional pension plan is offered and funded by employers, while an IRA is generally opened and funded by an individual.

• Rolling a pension over to an IRA involves opening an IRA, requesting a rollover, and choosing investment options, with direct rollovers typically being the simplest method.

• Rolling a pension into a Roth IRA may help individuals avoid required minimum distributions (RMDs).

• Rolling over a pension into an IRA may allow for more investment control and flexibility, but it’s important to understand investment risks.

• Understanding the implications of a rollover as well as tax differences between pensions and IRAs is crucial for making informed rollover decisions.

What Is a Pension Plan?

A pension plan is a type of benefit plan that employers can establish on behalf of their employees. Traditional pension plans are defined benefit plans that provide employees with retirement income based on their earnings, years of service, or a combination of the two. These plans are funded by the employer and may provide retiring employees with a lump-sum distribution or annuitized payments.

Defined benefit pension plans, along with defined contribution plans, are protected under the Employee Retirement Income Security Act (ERISA). Defined contribution plans are funded by employee contributions, with the option for employer matching. The most common example of a defined contribution plan is a 401(k).

What Is an IRA?

If you don’t know what an IRA is, it’s an Individual Retirement Arrangement, also referred to as an Individual Retirement Account. In simpler terms, an IRA is a tax-advantaged retirement savings account that is not offered through an employer. You can typically open an IRA at a brokerage or a bank and make contributions up to the annual limit.

Note, too, that IRAs are subject to required minimum distribution rules (RMDs), which means that owners must start making withdrawals from IRAs at age 73.

There are two main types of IRAs:

• Traditional IRAs, which allow for tax-deductible contributions and tax-qualified withdrawals as ordinary income.

• Roth IRAs, which do not offer a tax deduction for contributions but do allow for tax-free qualified distributions.

You must have taxable income to save in either type of plan. Your ability to contribute to a Roth IRA is determined by your tax filing status and adjusted gross income. There are also IRA tax deduction rules that determine how much of your traditional IRA contributions you can write off.

The maximum annual contribution for either type of IRA is $7,000 for 2025 and $7,500 for 2026. Both plans allow for catch-up contributions of up to $1,000 in 2025 if you’re age 50 or older, and $1,100 in 2026 if you’re 50 or older. Each type of IRA also allows you to roll funds into your account from another eligible retirement plan.

Can You Roll Over a Pension Into an IRA?

A rollover occurs when you withdraw funds from one eligible retirement plan and redeposit them to another eligible plan. The IRS allows you to roll funds from qualified plans, which includes defined benefit plans, into an IRA. Technically, if you have a pension plan that’s classified as a defined benefit plan, you could roll funds from it to any of the following:

• Traditional IRA

• Roth IRA

• SIMPLE IRA

• SEP IRA

• 457(b) plan

• 403(b) plan

• Designated Roth 401(k), 403(b), or 457(b)

The IRS allows for full or partial rollovers, though whether you’d be required to withdraw all of the money in your pension for a rollover may depend on the terms of the plan.

Rolling over pension funds may potentially help you to avoid tax penalties while preserving your savings so that it can continue to grow through the power of compounding returns. But it’s also important to remember that there can be increased risks of rolling pension funds into an IRA. It may be a good idea to parse through those risks, in your specific situation, with a financial advisor or professional.

Reasons You May Want to Roll Over a Pension

There are different scenarios where a rollover pension, and specifically a rollover to an IRA, could make sense. It’s a good idea to consider both your current financial situation and the timing when deciding whether to roll a pension into an IRA.

Reason #1: You Want More Control Over Your Investments

Rolling a pension to an IRA may offer more flexibility when it comes to how the money is invested. With an IRA, you might have a broader range of mutual funds, index funds, or exchange-traded funds (ETFs) to choose from. That could make it easier to build a diversified portfolio that aligns with your goals.

Reason #2: You’d Like to Avoid RMDs

As noted, most retirement plans are subject to required minimum distribution (RMD) rules. These rules require you to take a minimum amount from your retirement account each year, starting at age 73 (if you turn 72 after December 31, 2022). Rolling a pension over to a Roth IRA, however, would allow you to avoid RMDs and draw down your retirement assets at your own pace. Note that pensions are typically rolled over into traditional IRAs, so this may require utilizing a “backdoor Roth IRA” strategy.

Reason #3: Your Pension Is Small

Rolling a pension to a Roth IRA can trigger tax consequences, as you’ll need to pay income tax on the earnings at the time the rollover is completed. However, you might choose to go ahead with a pension rollover to a Roth account if the balance is small and your tax liability would not be that great.

Reason #4: You’re Worried About Losing Benefits

Though it’s not a common occurrence, there have been instances of employees losing pension benefits as a result of their employer filing bankruptcy or encountering other financial issues. If you’re concerned about seeing your pension go up in smoke, rolling it over to an IRA could eliminate that risk. You would, however, still be subject to the risk that always accompanies investing money.

Reason #5: You Want Convenient Access

Certain pension plans may allow for loans, though loans are more commonly associated with 401(k) plans. There may be some rules for private pensions around withdrawals, which may prevent you from making a withdrawal – it’ll depend on the specific pension.

But if you’d like to be able to withdraw money from retirement for emergencies or other purposes, an IRA could potentially allow you to do that more easily, or in a more straightforward manner. Keep in mind, however, that withdrawing money from an IRA before age 59 ½ may trigger a 10% tax penalty unless an exception or exclusion applies.

How Do You Roll a Pension Into an IRA?

Rolling a pension into an IRA typically isn’t difficult. There are only a few steps required to complete the process.

• Open an IRA. If you don’t have an IRA, you’ll need to open one – you can even open an IRA online.

• Request the rollover. Once your IRA is open, you can ask your pension plan administrator what’s required to initiate a rollover transaction. The simplest option is to request a direct rollover, which would allow funds to be transferred from your pension to your IRA without having to get a paper check and deposit it yourself.

• Choose your investment options. Once your pension funds have been rolled over to your IRA, you can decide how you’d like to invest it. You may also want to update your IRA beneficiary if you haven’t selected one.

If you can’t choose a direct rollover, or you’d rather roll over the funds yourself, you’d have to ask your plan administrator to send you a paper check for the amount you’re withdrawing. You’d then need to deposit the funds to your IRA within 60 days from the date you receive it. If you fail to do so, the entire amount becomes a taxable distribution.

Also know that there may be a mandatory income tax withholding of 20%. THough that generally doesn’t apply in a direct rollover to an IRA.

💡 Quick Tip: Look for an online brokerage with low trading commissions as well as no account minimum. Higher fees can cut into investment returns over time.

Pros and Cons of Rolling a Pension Into an IRA

Rolling a pension into an IRA or Roth IRA has some advantages and disadvantages, and it’s important to weigh both before making a decision.

On the pro side, a pension rollover to an IRA may give you greater control of how your retirement money is invested. You can make changes to your investments as needed. That assumes, however, that you’re comfortable with making your own investment decisions and with the risk that’s involved.

The pros and cons of rolling into an IRA will depend on the type of IRA you’re rolling funds into. For instance, pension rollovers to a Roth IRA could help you avoid RMD rules, and may allow for tax-free withdrawals, though again, there would be tax consequences at the time you roll the funds over. Additionally, you may face tax penalties if you roll money over to a Roth, then make a withdrawal prior to age 59 ½. Again, it may be helpful to discuss your specific options, and your specific situation, with a financial advisor to get an idea of what the best course of action is.

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Pros:

• Rolling a pension into an IRA may offer greater flexibility and freedom when making investment choices.

• Rolling a pension to a Roth IRA allows you to avoid RMDs.

• A direct rollover is fairly simple to complete and doesn’t require a lot of effort on your part.

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Cons:

• Making a change to your investments could increase your risk exposure if you’re not sure what you’re doing.

• You’ll may need to pay income tax on your pension when rolling it into a Roth IRA (but not a traditional IRA).

• Rolling pension funds to an IRA yourself could result in a sizable tax penalty if you don’t deposit the money on time.

Taxes on Pensions vs. IRAs

One of the most common questions about IRAs and pensions centers on taxes. Specifically, how much tax will you pay on pension or IRA distributions?

The answer can depend on which tax bracket you’re in when you take distributions and in the case of an IRA, whether you have a traditional or Roth account. Where you live can also play a part as there are a handful of states that don’t tax pensions.

If you’re receiving annuitized or periodic payments from a pension, then those distributions would be taxed at your ordinary income tax rate. The same rate would apply if you’re taking your pension in a lump sum, though you’d owe taxes on the entire amount all at once.

Taxable rollover distributions from employer-sponsored pension plans may also be subject to 20% withholding at the time the money is rolled over. That withholding may not apply in a direct rollover, however, if the rollover involves sending funds to another eligible retirement plan, such as an IRA. Any amounts that are withdrawn but not rolled over to an IRA may be subject to a 10% early withdrawal penalty if you’re under age 59 ½.

With a traditional IRA, you’ll pay ordinary income tax on distributions beginning at age 59 ½. Distributions taken before 59 ½ may incur a 10% early withdrawal penalty. Qualified withdrawals from a Roth IRA, and withdrawals of original contributions, are tax-free. Understanding what your tax picture might look like if you keep your money in a pension vs. rolling it to an IRA can help you decide if it’s the right option.

The Takeaway

Saving for retirement early and often can help you build financial security for the future. If you don’t have a pension plan or you have a retirement plan at work and you want to supplement your savings, you might consider opening an IRA.

SoFi offers both traditional and Roth IRAs and it’s easy to open one online. You can choose from automated or self-directed investing to build your portfolio. If you need help getting your retirement plan started, you can book a complimentary 30-min session with a SoFi Financial Planner as a perk of being a SoFi member.

Help build your nest egg with a SoFi IRA.

FAQ

Can I roll my pension into an IRA?

Yes, you can roll a pension into an IRA. You might choose a traditional IRA or a Roth IRA rollover, depending on the amount you need to move and your expected tax situation in retirement. Keep in mind that you’ll need to pay taxes on a Roth IRA rollover at the time that you complete it.

Is a pension better than an IRA?

A pension can be attractive, since it’s funded by the employer and you don’t have to contribute any money to it yourself. On the other hand, an IRA can allow for more flexibility and you may be able to gain certain tax benefits from rolling your pension to a Roth IRA, such as avoiding required minimum distributions.

How much of your pension can you roll over to an IRA?

You can initiate a partial or full rollover of your pension money to a traditional or Roth IRA. If you’re considering a partial rollover, it’s helpful to understand what that might mean from a tax perspective and how you’ll be able to withdraw the amount that you don’t rollover.

About the author

Rebecca Lake

Photo credit: iStock/Andrii Zastrozhnov

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Financial Tips & Strategies: The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.

Tax Information: This article provides general background information only and is not intended to serve as legal or tax advice or as a substitute for legal counsel. You should consult your own attorney and/or tax advisor if you have a question requiring legal or tax advice.

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Dec

2025

Roth IRA Conversion: Rules and Examples

By SoFi Editors | Growing Wealth, invest, Investing, Preparing for Retirement | Comments Off

A Roth IRA is a retirement savings account that offers tax-free withdrawals during retirement. You can convert a traditional IRA or a qualified distribution from a previous employer-sponsored plan, such as a 401(k), into a Roth IRA. This is known as a Roth IRA conversion.

A Roth IRA conversion may be worth considering for the potential tax benefits. Along with tax-free qualified withdrawals in retirement, the money in a Roth IRA has the potential to grow tax-free. Read on to learn how a conversion works, the Roth IRA conversion rules, and whether a Roth IRA conversion may make sense for you.

What Is a Roth IRA Conversion?

With a Roth IRA conversion, an individual moves the funds from another retirement plan into a Roth IRA. You pay taxes on the money in your existing account in order to move it to a Roth IRA.

Many retirement plans, such as 401(k)s and traditional IRAs are tax-deferred. The money is contributed to your account with pre-tax dollars. In retirement, you would pay taxes on your withdrawals. But by doing a Roth conversion, you pay taxes on the money you convert to a Roth IRA, and the money can then potentially grow tax-free. In retirement, you can make qualified withdrawals from the Roth IRA tax-free.

You can convert all or part of your money to a Roth IRA.

💡 Quick Tip: Look for an online brokerage with low trading commissions as well as no account minimum. Higher fees can cut into investment returns over time.

How Does a Roth IRA Conversion Work?

As mentioned, when converting to a Roth IRA, an individual must pay taxes on the contributions and gains in their current retirement plan because only after-tax contributions are allowed to a Roth IRA. They can typically convert their funds to a Roth IRA in one of three ways:

• An indirect rollover: With this method, the owner of the account receives a distribution from a traditional IRA and can then contribute it to a Roth IRA within 60 days.

• A trustee-to-trustee, or direct IRA rollover: The account owner tells the financial institution currently holding the traditional IRA assets to transfer an amount directly to the trustee of a new Roth IRA account at a different financial institution.

• A same-trustee transfer: This is used when a traditional IRA is housed in the same financial institution as the new Roth IRA. The owner of the account alerts the institution to transfer an amount from the traditional IRA to the Roth IRA.

Roth IRA Conversion Rules

There are a number of rules that govern a Roth IRA conversion. Before you proceed with a conversion, it’s important to understand what;’s involved. Roth IRA conversion rules include:

Taxes

You’ll pay taxes on a traditional IRA or 401(k) before you convert it to a Roth IRA. This includes the tax-deductible contributions you’ve made to the account as well as the tax-deferred earnings. They will be taxed as ordinary income in the year that you make the conversion. Because they’re considered additional income, they could put you into a higher marginal tax bracket. You’ll also need to make sure you have the money on hand to pay the taxes.

Limits

There are two types of limits to be aware of with a Roth IRA conversion. First, there is no limit to the number or size of Roth IRA conversions you can make. You might want to convert smaller amounts of money into a Roth IRA over a period of several years to help manage the amount of taxes you’ll need to pay in one year.

Second, Roth IRAs have contribution limits. For instance, in 2025 you can contribute up to $7,000, or up to $8,000 if you’re 50 or older. In 2026, you can contribute up to $7,500 or $8,600 if you’re 50 or older.

Withdrawals

The withdrawals you make from a Roth IRA are tax-free. However, with a Roth IRA conversion, if you are under age 59 ½, you will need to wait at least five years before withdrawing the money or you’ll be subject to a 10% early withdrawal penalty (more on that below).

Backdoor Roth IRAs

A Roth IRA conversion may be an option to consider if you earn too much money to otherwise be eligible for a Roth IRA. Roth IRAs have contribution phase-out ranges, and individuals whose income exceeds those limits cannot contribute to a Roth fully or at all.

• For 2025, the income limits begin to phase out at $236,000 for those who are married and filing jointly, and $150,000 for those who are single.

• For 2026, the income limits phase-out begins at $242,000 for those who are married and filing jointly, and $153,000 for single filers.

However, if you have a traditional IRA and convert it to a Roth IRA — a process known as a backdoor Roth IRA — those income phase-out rules don’t apply. You can use a backdoor IRA as long as you pay taxes on any contributions to the traditional IRA that you deducted from your taxes, as well as any profits you earned.

5-Year Rule

According to the 5-year rule, if you are under age 59 ½, the funds that you convert to a Roth IRA must remain in your account for at least five years or you could be subject to a 10% early withdrawal penalty.

The five years starts at the beginning of the calendar year in which you do the conversion. So even if you don’t do the conversion until, say, December 2024, the five years still begins in January 2024. That means you could withdraw your funds in January 2029.

Also, if you complete separate Roth IRA conversions in different years, the 5-year rule would apply to each of them, so keep this in mind.

💡 Quick Tip: How much does it cost to set up an IRA? Often there are no fees to open an IRA, but you typically pay investment costs for the securities in your portfolio.

Is Converting to a Roth IRA Right for You?

Doing a Roth IRA conversion means paying taxes now on the funds you are converting in order to withdraw money tax-free in retirement. Here’s how to decide if converting a Roth IRA may be right for you

Reasons For

If you anticipate being in a higher tax bracket in retirement than you’re in now, a Roth IRA conversion may make sense for you. That’s because you’ll pay taxes on the money now at a lower rate, rather than paying them when you retire, when you expect your tax rate will be higher.

In addition, with a Roth IRA, you won’t have to take required minimum distributions (RMDs) every year after the age of 73 as you would with a traditional IRA. Instead, the money can stay right in the account — where it may continue to grow — until it’s actually needed.

If your income is too high for you to be eligible for a Roth IRA, a Roth IRA conversion might be beneficial through a backdoor IRA. You will just need to put your funds into a traditional IRA first and pay the taxes on them.

Finally, if you won’t need the funds in your Roth IRA for at least five years, a conversion may also be worth considering.

Reasons Against

A Roth IRA conversion may not be the best fit for those who are nearing retirement and need their retirement savings to live on. In this case, you might not be able to recoup the taxes you’d need to pay for doing the conversion.

Additionally, if you receive Social Security or Medicare benefits, a Roth IRA conversion would increase your taxable income, which could increase the taxes you pay on Social Security. The cost of your Medicare benefits might also increase.

Those who don’t have the money readily available to pay the taxes required by the conversion should also think twice about an IRA conversion.

And if you expect to be in a lower tax bracket in retirement, a conversion also likely doesn’t make sense for you.

Finally, if you think you might need to withdraw funds from your account within five years, and you’re under age 59 ½, you could be subject to an early withdrawal penalty if you convert to a Roth IRA.

The Takeaway

A Roth IRA conversion may help individuals save on taxes because they can make qualified withdrawals tax-free withdrawals in retirement. For those who expect to be in a higher tax bracket in retirement, a Roth IRA may be worth considering.

It’s important to be aware of the tradeoffs involved, especially the amount of taxes you might have to pay in order to do the conversion. Making the right decisions now can help you reach your financial goals as you plan and save for retirement.

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FAQ

How much tax do you pay on a Roth IRA conversion?

You pay tax on the money you convert, but the specific amount of tax you’ll pay depends on the marginal tax rate you’re in. Before doing a Roth IRA conversion, you may want to calculate to see if the funds you’re converting will put you into a higher tax bracket.

How many Roth iRA conversions are allowed per year?

There is no limit to the number of Roth conversions you can do in one year.

When is the deadline for Roth IRA conversions?

The deadline for a Roth IRA conversion is December 31 of the year you’re doing the conversion.

Is there a loophole for Roth IRA conversions?

A backdoor IRA might be considered a loophole for a Roth IRA conversion. Roth IRAs have contribution phase-out ranges, and individuals whose income exceeds those limits cannot contribute to a Roth fully or at all. However, a backdoor IRA may be a way to get around the income limits. To do it, you will need to have a traditional IRA that you convert to a Roth IRA.

How do I avoid taxes on Roth conversion?

You cannot avoid paying taxes on a Roth conversion. You must pay taxes on the money you convert.

How do you not lose money in a Roth IRA conversion?

To reduce the tax impact of a Roth IRA conversion, you may want to split the conversion into multiple conversions of smaller amounts over several years. If possible, try to do the conversions in years when your taxable income is lower.

Do you have to pay taxes immediately on Roth conversion?

Taxes on a Roth conversion are not due until the tax deadline of the following year.

Should a 65 year old do a Roth conversion?

It depends on an individual’s specific situation, but a Roth conversion may not make sense for a 65 year old if they need to live off their retirement savings or if they are receiving Social Security or Medicare benefits. A Roth IRA conversion could increase the taxes they pay on Social Security, and the cost of their Medicare benefits might rise.

Does a Roth conversion affect my Social Security?

It might. A Roth IRA conversion increases your taxable income, which could potentially increase the taxes you pay on Social Security.

Does a Roth conversion affect Medicare premiums?

A Roth IRA conversion may affect your Medicare premiums. Because it increases your taxable income, the cost of your Medicare benefits might increase as well.

What is the best Roth conversion strategy?

The best Roth conversion strategy depends on your particular situation, but in general, to help reduce your tax bill, you can aim to make the conversion in a year in which you expect your taxable income to be lower. You may also want to do multiple smaller conversions over several years, rather than one big conversion in one year, to help manage the taxes you owe.

Can you do Roth conversions after age 72?

Yes, you can do Roth conversions at any age. Some individuals may want to consider a Roth IRA conversion at 72 if they prefer to avoid paying the required minimum distributions (RMDs) for traditional IRAs that begin at age 73. If you convert before you turn 73, you will not be required to take RMDs.

How do I calculate my Roth conversion basis?

The concept of basis, or money that you’ve paid taxes on already, might be applicable if you’ve made non-deductible contributions to a tax-deferred retirement account. When you convert the money in that account, in order to calculate the percentage that’s tax-free, you need to divide your total nondeductible contributions by the end-of-year value of your IRA account plus the amount you’ve converting.

Do you have to wait 5 years for each Roth conversion?

No. There is no time limit for doing Roth conversions, and in fact, you can do as many as you like in one year. However, if you’re under age 59 ½, you do have to wait five years after each conversion to be able to withdraw money from the account without being subject to an early withdrawal penalty.

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Tax Information: This article provides general background information only and is not intended to serve as legal or tax advice or as a substitute for legal counsel. You should consult your own attorney and/or tax advisor if you have a question requiring legal or tax advice.

Financial Tips & Strategies: The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.

INVESTMENTS ARE NOT FDIC INSURED • ARE NOT BANK GUARANTEED • MAY LOSE VALUE