Latest Edition of the Tax Newsletter
Hi Former 15.518ers (plus some others) –
Hope everyone got their tax returns filed or extended. Some fun facts about tax filing season this year. First, the IRS is on its 7th (or 8th?) chief during Trump’s second term. That has to be a record amount of turnover. Second, the amount of refunds is up due to OB3 (I like the name OB3 for the One Big Beautiful Bill because it sounds kind of Star Wars-ish). You can view some stats here if you are interested. You can see that the number of refunds is up 6.5% and the amount of refunds is up 11%. Some of this is likely due to the relief on the SALT cap deduction and also some due to the new tax breaks on tips and overtime. For the latter, employers still have to withhold the tax and then taxpayers get the deduction, if any, for the tip and overtime breaks when they file their returns. Thus, the higher refunds upon filing. Finally, two of the Hughes brothers are starring in TurboTax ads now. I am not sure of the connection, but I am all for it. I like this one where they talk about paying state taxes in all the states they play in. I used to work on the Phoenix Coyotes (when they were a team) coach’s tax return when I was at KPMG. Super fun, but lots of state returns! After years of mentioning Turbo Tax in my class and now seeing this, I have added being in a Turbo Tax commercial to my bucket list!
In my last few editions, I have been talking about retirement savings. I have two more retirement issues/accounts I want to cover: 1) the Mega-Backdoor Roth and 2) SEP IRAs. Remember nothing in any of my newsletters is official tax or investing advice. Please do your own research and/or talk to a tax advisor before taking action on what I say in these newsletters.
Mega-Backdoor Roth
These are more complicated than the other types of savings vehicles we have discussed (in class or in this newsletter). There are also risks that you could get hit with a tax-bill that you do not expect. (We have talked about similar ‘surprise taxes’ in the case of converting some but not all IRAs over to a Roth.) If you try this one, I would definitely see an advisor first.
The high-level objective of this type of arrangement is to get more wealth into Roth IRAs, even if you are over the income limits for contributing to Roth IRAs. This strategy is generally for high-earners.
Recall that we have previously discussed contribution limits for a 401(k) at your workplace. For those of you under 50 (and I am assuming you all are under 50 – I have not been teaching at MIT that long!), that limit in 2026 is $24,500. Also recall that your employer might match some amount of what you put into your 401(k). There is an overall limit on what can be contributed to a 401(k) in a given year, for 2026 that limit is $72,000 So, the amount of your contributions plus your employer’s contribution via the match cannot exceed $72,000 for 2026. For example, if you contribute the max of $24,500, and your employer matches $10,000 (for easy math), then your total is $34,500 and you are $37,500 under the overall limit of $72,000.
Here is where the opportunity awaits. At a high level you are going to put an extra amount – up to $37,500 in my example - in your 401K on an after-tax basis. Then you are going to move this to either a Roth 401(k) or Roth IRA while you are still working.
- The first condition is that your employer has to allow for this – meaning they have to allow after-tax contributions to a traditional 401(k).
- The second condition is that your 401(k) plan has to allow you to move money from the traditional 401K to a Roth IRA (called an in-service distribution) or to the Roth part of the 401(k) plan while you are working.
Even if you can do this, should you do this? It is simpler to contribute to a Roth IRA directly if you are under the income limits. If you are over the income limits, it is easier to do a backdoor Roth IRA that I discussed in a prior edition. If you have done all of that and want to save more, then the Mega-Backdoor Roth is an option if your employer allows it. Like I said, see an advisor before you do it though!
SEP IRA (Simplified Employee Pension Individual Retirement Account)
This is basically a traditional IRA-type retirement plan designed for the self-employed or small business owners (or freelancers or gig economy workers). If you are a small business owner, you can contribute to a SEP IRA for you and your employees (note employees cannot contribute their own money to a SEP).
This is extremely simple and useful for a person who is either a sole proprietor or who is working at a regular job with a regular retirement plan (e.g., 401(k)) but who also has some type of side work, such as consulting. In that case the person can contribute up to 25% of their earnings from the consulting work (up to $72,000) into a SEP IRA. Turbo Tax will calculate your limit for you when you complete your Schedule C on your Form 1040; then you can decide what amount you want to put in up to that limit. This is simple to do and you can put much more than the regular IRA limits into a SEP.
Ironically, for a small businesses though these are not that simple. There are rules about the employees (e.g., they have to be at least 21, they have to be employed by the business for at least 3 of the last 5 years, and some other conditions). Employer contributions are mandatory for all qualified employees if you have a SEP IRA and there are no options for Roth contributions and no catch-up contributions for workers over 50. So lots of rules and conditions to adhere to.
BUT, for purposes of saving some of your earnings from a side-gig for retirement, these are excellent. Here also you should do your own research or see an advisor for your own specific situation.
In the News
The ‘Millionaires Tax’ in MA is raising a lot of revenue. But people are leaving the state. This article in the Boston Globe today discussed the tax (I think you might need a subscription but maybe can get one article for free? I can post online as well.).
In closing, I’ll basically repeat what I said at the end of the last edition because it is so true: Think of your future self and save as much as you can for retirement. However, also make sure to enjoy your youth – it all goes by so fast.
Michelle