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Navigating Retirement Planning: Deferred Compensation Plan vs. Mega Backdoor Roth Conversion

Updated: Dec 19, 2023

Introduction

Welcome to Parkmount Financial Partners’ blog, where we explore the best strategies to save and invest for your future with the perspective of a truly independent, fiduciary financial planner. Today, we delve into an age-old question: What is the most efficient way to plan for save for the future? We are going to talk about a hypothetical scenario that sheds light on this dilemma, hopefully adding some insights for individuals contributing to 401k plans through their companies, and considering for more ways to save on top of those contributions.


Understanding Your Options: A Real-Life Scenario

In this imaginary scenario, an corporate executive individual is already maxing-out contributions to his 401k but seeking ways to save beyond this. A possible crossroads at a large public company that this type of individual may face, is between two savings opportunities related to employment as an executive: the Deferred Compensation Plan and the Mega Backdoor Roth Conversion. Understanding the these options is crucial for making informed retirement planning decisions.


Deferred Compensation Plan: Immediate Tax Benefits with Future Considerations

The Deferred Compensation Plan offers immediate tax reduction benefits. Contributions grow tax-deferred. In many but not all scenarios, this may be an excellent option for those nearing retirement and expecting to stay with their current employer. However, it’s essential to exercise caution. If you leave your company before retirement eligibility, many Deferred Compensation Plan will pay out all of this savings as taxable income, potentially resulting in higher taxes than if you hadn’t contributed at all. There is also some potential loss at stake if the company, who is responsible for the plan, becomes financially insolvent.


Mega Backdoor Roth Conversion: A Flexible Alternative for High-Income Earners

For high-income earners ineligible for standard Roth contributions, the Mega Backdoor Roth Conversion presents a interesting alternative savings approach. This provision, available in some company’s 401k plans, allows for additional contributions above the 401(k) pre/roth individual tax limits, but it is still subject to the defined contribution account contribution limits, which changes every year. In many situations this is a useful approach after maxing out pre-tax 401k contributions, but retirement planning around the most efficient tools can should take into consideration a number of factors unique to each individual. The great thing about Roth contributions is that, while contributions are taxed upfront with the Roth, the funds grow tax-deferred and are tax-free upon withdrawal. This option offers flexibility and tax advantages, making it a potentially choice compared to the deferred compensation plan, for individuals planning for their career flexibility.


Secure Your Future with Parkmount Financial Partners

At Parkmount Financial Partners, we understand that retirement planning is not one-size-fits-all. Your career trajectory, income, and future financial situations are unique. We are dedicated to helping you navigate these factors, and develop a retirement plan that supports you in leading a life you’re proud of.

Located in Massachusetts, we have had the privilege of working with individuals at prominent companies in the area, including Raytheon Technologies, Sanofi, Biogen, Pfizer, Dell Technologies and more. We specialize in implementing tax-efficient retirement planning strategies tailored to your needs.


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