Roth Conversion and Taxes

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HoboBogle
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Joined: Mon Feb 09, 2015 4:37 pm

Roth Conversion and Taxes

Post by HoboBogle »

Sorry for yet another question on this topic. I have tried to follow others to extrapolate the answer to mine, and am struggling to do so.

Here is the situation:

Prior to 2014, I had converted any traditional IRAs I had into Roths such that I started 2014 with only Roth balances, no TIRA.
In March 2014, I made my 2013 IRA contribution of $5500 to a TIRA and subsequently converted to a Roth.
On December 30, 2014, in a flu-driven fugue of poor judgment, I made my 2014 contribution to a TIRA with the intent to convert to a Roth, but then neglected to do the Roth conversion until January 2015.
Upshot is that while I should have had a minimal tax impact from the 2013 contribution's conversion to a Roth, I caused myself to have a $5500 balance in a TIRA at the end of the year, which presumably because of the pro rata rule, is causing my taxes on that conversion to be very high (TurboTax is telling me it's a few thousand dollars, I am not clear on whether that is possibly accurate).
If, in fact, the tax hit is that high and it seems so outrageous that I don't want to take it, I see two options. I'd love feedback on whether I'm neglecting to consider something pertinent or if I have other options, and (at a more basic level) whether a $3,000ish hit on a conversion of $5472 makes sense.
1. Is there any way to "undo" the December 30, 2014 contribution? That would involve undoing both the Roth conversion and the original contribution to a TIRA? Could I do that somehow, and still make a new 2014 TIRA contribution before April 15?
2. Recharacterize both the 2013 contribution's conversion (done in 2014) and the 2014 contribution's conversion (done in 2015), effectively giving me a clean slate of traditional IRAs in the amount of approx $11,000?
I don't have a fever now, but I'm struggling to wrap my head around this and figure out whether I'm making things harder than necessary.
Many thanks in advance!
livesoft
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Re: Roth Conversion and Taxes

Post by livesoft »

It seems like you converted $11,000 non-deductible contributions to Roth IRAs PLUS the gains in one of the traditional IRAs. So I am not sure what the pro-rated thing is about as you converted everything. The $11,000 would be taxed as income no matter what, right? So your additional conversion taxes really come from the gains I would think.

I'm guessing that you did not tell TurboTax that your tIRA had an already taxed basis of $11,000.
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Bill M
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Re: Roth Conversion and Taxes

Post by Bill M »

You made two non-deductible contributions in 2014, each $5500, one for 2013 and one for 2014; total basis is $11,000. Of that, $5500 was converted to Roth in 2014, and $5500 was left in tIRA. So on form 8606,
Line 1: 11000
Line 2: 0
Line 3: 11000
Line 5: 11000
Line 6: 5500
Line 8: 5500
Line 9: 11000
Line 10: 1.000
Line 11: 5500
Line 12: 0
Line 13: 5500
Line 14: 5500
Line 15: 0
So taxable amount is zero, basis is 5500
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Duckie
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Re: Roth Conversion and Taxes

Post by Duckie »

katiehoboken wrote:Prior to 2014, I had converted any traditional IRAs I had into Roths such that I started 2014 with only Roth balances, no TIRA.
In March 2014, I made my 2013 IRA contribution of $5500 to a TIRA and subsequently converted to a Roth.
Did you file Form 8606 with your 2013 taxes? If not you can file that form separately now.
On December 30, 2014, in a flu-driven fugue of poor judgment, I made my 2014 contribution to a TIRA with the intent to convert to a Roth, but then neglected to do the Roth conversion until January 2015.
Upshot is that while I should have had a minimal tax impact from the 2013 contribution's conversion to a Roth, I caused myself to have a $5500 balance in a TIRA at the end of the year, which presumably because of the pro rata rule, is causing my taxes on that conversion to be very high (TurboTax is telling me it's a few thousand dollars, I am not clear on whether that is possibly accurate).
You can have your custodian recharacterize the March conversion of $5472 back to a TIRA. This needs to be done ASAP. That will give you a ~$11,000 TIRA basis on your 2014 Form 8606 and no tax hit. You'll need to provide an explanation along with the 8606.

Once all the recharacterization steps are completed you can then convert that amount back to the Roth. That conversion and the January one will go on your 2015 taxes.

If you're going to be doing this in the future make the temporary TIRA a money market fund so it doesn't lose anything and doesn't gain much before the conversion. And make the contribution and conversion happen in and for the same year. It's less hassle.
I'd love feedback on whether I'm neglecting to consider something pertinent or if I have other options, and (at a more basic level) whether a $3,000ish hit on a conversion of $5472 makes sense.
If you mean you'll pay an extra $3,000ish in taxes on a conversion of $5472, that makes no sense. That's more than 50%. Or do you mean you'll have an extra $3,000ish in income on which you'll owe taxes. That makes more sense because you did end up converting only half your TIRA.
Last edited by Duckie on Tue Apr 07, 2015 8:02 pm, edited 1 time in total.
livesoft
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Re: Roth Conversion and Taxes

Post by livesoft »

Duckie wrote:Once all the recharacterization steps are completed you can then [after a suitable waiting period] convert that amount back to the Roth. That conversion and the January one will go on your 2015 taxes.
Don't forget about the waiting period required after a recharacterization.
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Duckie
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Re: Roth Conversion and Taxes

Post by Duckie »

livesoft wrote:Don't forget about the waiting period required after a recharacterization.
Right. There will have to be a 30-day waiting period between the recharacterization and the reconversion. Per the IRS:
You cannot convert and reconvert an amount during the same tax year or, if later, during the 30-day period following a recharacterization. If you reconvert during either of these periods, it will be a failed conversion.

Example.

If you convert an amount from a traditional IRA to a Roth IRA and then transfer that amount back to a traditional IRA in a recharacterization in the same year, you may not reconvert that amount from the traditional IRA to a Roth IRA before:
  • The beginning of the year following the year in which the amount was converted to a Roth IRA or, if later,
  • The end of the 30-day period beginning on the day on which you transfer the amount from the Roth IRA back to a traditional IRA in a recharacterization.
Since the original conversion happened in 2014 you have satisfied the first issue. So you just have to wait 30 days.
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Oicuryy
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Re: Roth Conversion and Taxes

Post by Oicuryy »

Bill M wrote:You made two non-deductible contributions in 2014, each $5500, one for 2013 and one for 2014; total basis is $11,000. Of that, $5500 was converted to Roth in 2014, and $5500 was left in tIRA. So on form 8606,
Line 1: 11000
Line 2: 0
Line 3: 11000
Line 5: 11000
Line 6: 5500
Line 8: 5500
Line 9: 11000
Line 10: 1.000
Line 11: 5500
Line 12: 0
Line 13: 5500
Line 14: 5500
Line 15: 0
So taxable amount is zero, basis is 5500
Close enough. But I would put the contribution for 2013 on line 2, carried forward from line 14 of the 2013 Form 8606. And the 2014 Roth conversion was $5472.

Line 1: 5500
Line 2: 5500
Line 3: 11000
Line 5: 11000
Line 6: 5500
Line 8: 5472
Line 9: 10972
Line 10: 1.000
Line 11: 5472
Line 12: 0
Line 13: 5472
Line 14: 5528
Line 15: 0

Line 16: 5472
Line 17: 5472
Line 18: 0
So taxable amount is zero, basis carried forward is 5528

Ron
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