IRA to Roth Backdoor expat

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Topic Author
Scaramanga
Posts: 4
Joined: Thu Apr 08, 2021 3:20 am

IRA to Roth Backdoor expat

Post by Scaramanga »

As a long-time US expat living in Belgium (50yo), some years ago I invested some after-tax income in US IRA and Roth accounts for a few years. Then I decided to just invest in taxable accounts, since I thought I might need the money sooner which won't turn out to be the case. But those IRAs have been compounding happily away at 13%

If I understand well, the IRA account is taxable on distribution. So assuming it appreciates at 10% for the next ten years, I would pay capital gains at 15% on 170K (assuming for 10% growth) if I started withdrawals.

Or I could convert the IRA to Roth now through backdoor? If I understand correctly, I would pay 15% capital gains on 43K now, but not for the intervening years so avoiding capital gains on the next 10 years of appreciation and beyond?

And thus going forwards for 2020 and the next years, it would it make sense to contribute max IRA and backdoor convert it each year to avoid capital gains even if it is after tax savings?

sorry if this is covered elsewhere already!
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retiredjg
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Re: IRA to Roth Backdoor expat

Post by retiredjg »

Welcome to the forum. :happy

As a long-time US expat living in Belgium (50yo), some years ago I invested some after-tax income in US IRA and Roth accounts for a few years.
Regarding the money put into traditional IRA, did you make deductible contributions to tIRA or non-deductible contributions? If non-deductible, did you document that on your taxes (Form 8606) at the time?

If I understand well, the IRA account is taxable on distribution. So assuming it appreciates at 10% for the next ten years, I would pay capital gains at 15% on 170K (assuming for 10% growth) if I started withdrawals.
The earnings that occur in tIRA are taxed at your ordinary tax rate, not at the capital gains rate. If you deducted the original contributions from your taxable income, the entire tIRA will be taxed at your ordinary tax rate when withdrawn.

Or I could convert the IRA to Roth now through backdoor? If I understand correctly, I would pay 15% capital gains on 43K now, but not for the intervening years so avoiding capital gains on the next 10 years of appreciation and beyond?
If you do a Roth conversion, the tax will be at your ordinary tax rate, not the capital gains rate. Again, if you deducted the contributions at the time, the entire Roth conversion would be taxable.

And thus going forwards for 2020 and the next years, it would it make sense to contribute max IRA and backdoor convert it each year to avoid capital gains even if it is after tax savings?
I suspect you can only contribute if you have compensation (income earned from work) in the US, but I know little to nothing about taxes for an ex-pat.
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typical.investor
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Re: IRA to Roth Backdoor expat

Post by typical.investor »

retiredjg wrote: Thu Apr 08, 2021 7:19 am Welcome to the forum. :happy

As a long-time US expat living in Belgium (50yo), some years ago I invested some after-tax income in US IRA and Roth accounts for a few years.
Regarding the money put into traditional IRA, did you make deductible contributions to tIRA or non-deductible contributions? If non-deductible, did you document that on your taxes (Form 8606) at the time?

If I understand well, the IRA account is taxable on distribution. So assuming it appreciates at 10% for the next ten years, I would pay capital gains at 15% on 170K (assuming for 10% growth) if I started withdrawals.
The earnings that occur in tIRA are taxed at your ordinary tax rate, not at the capital gains rate. If you deducted the original contributions from your taxable income, the entire tIRA will be taxed at your ordinary tax rate when withdrawn.

Or I could convert the IRA to Roth now through backdoor? If I understand correctly, I would pay 15% capital gains on 43K now, but not for the intervening years so avoiding capital gains on the next 10 years of appreciation and beyond?
If you do a Roth conversion, the tax will be at your ordinary tax rate, not the capital gains rate. Again, if you deducted the contributions at the time, the entire Roth conversion would be taxable.
Keep in mind too that there is a 10% Federal withholding on the IRA distribution for expats. So if you rollover, you will have come up with that 10% to put into the ROTH. Then you claim that withholding back by declaring it as taxes paid on your next return. If you don't recontribute the whole amount (including the amount of the withholding), you will face the cost of taking an early withdrawal (taxes + penalty). Lastly, would Belgium tax the IRA when it gets sold to distribute and rollover? I have no idea there.
retiredjg wrote: Thu Apr 08, 2021 7:19 am
And thus going forwards for 2020 and the next years, it would it make sense to contribute max IRA and backdoor convert it each year to avoid capital gains even if it is after tax savings?
I suspect you can only contribute if you have compensation (income earned from work) in the US, but I know little to nothing about taxes for an ex-pat.
That's correct. You will be in over-contribution territory without taxable US income.
bhradbh
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Joined: Thu Mar 16, 2017 2:22 pm

Re: IRA to Roth Backdoor expat

Post by bhradbh »

My understanding of a ''Backdoor Roth Conversion'' is it is a strategy to unmingle after tax and pretax funds within an IRA so the after tax money can be converted to a Roth with no tax consequences. For the conversion to work as a non taxable event only after tax funds can be present across all IRA accounts owned otherwise a pro rata tax across pre and after tax funds is applied. After tax contributions should have been tracked on Form 8606 and a copy filed with the tax return for that year. The only way to accomplish this is to Rollover all of the pretax money into a 401K plan and then as soon as the 401K rollover is completed and the money is showing in the account, convert the after tax money left behind into an existing Roth. This can only be accomplished if one has access to a current 401K plan that accepts incoming Rollovers. Again, this should all be tracked on Form 8606 and filed with the tax return.

No access to a 401K, no backdoor conversion possible.
Topic Author
Scaramanga
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Joined: Thu Apr 08, 2021 3:20 am

Re: IRA to Roth Backdoor expat

Post by Scaramanga »

Thanks both for the fast responses. :happy

The Roth & IRA contributions were deducted from my gross-income some of the time, but some occurrences seems were not. In these years I had a taxable income and the tax due was offset with the foreign tax credit. My tax accountants at the time (big 4), did the filings, and while there were no 8606 filed as part of the return, a tax worksheet showing the allowable deduction was included (when it was reported). I will have to dig further.
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retiredjg
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Re: IRA to Roth Backdoor expat

Post by retiredjg »

Dig deeper.

Roth IRA contributions are never deductible so you don't have to dig there.

Traditional IRA contributions may or may not be deductible, depending on income.
Topic Author
Scaramanga
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Joined: Thu Apr 08, 2021 3:20 am

Re: IRA to Roth Backdoor expat

Post by Scaramanga »

well, for at least 2 years I can't find the deduction from my AGI for IRA contribution, and for the others I can. Now I had always assumed that my tax accountants have the expertise for these cases, being that they have specialty knowledge in expat tax returns. :?

So if I understand your meaning, perhaps my modified AGI would not have supported deductions depending on my income. Even so, my foreign tax credit carryover was not fully used, so net-net, other than carryforward of FTC being off, i don't think it would have changed my tax due as I'm in such a high tax country.
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retiredjg
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Re: IRA to Roth Backdoor expat

Post by retiredjg »

Not sure what to tell you. Many tax-preparers somehow miss a non-deductible contribution to traditional IRA. It is not uncommon at all.

If you can show you made non-deductible contributions to tIRA (not contributions to Roth IRA), a person here could do that now by filing old Forms 8606. I don't know if it would be different for an expat or not.

If you cannot demonstrate that the contributions were made to tIRA but not deducted from your taxable income, then you will pay tax on that money a second time when you withdraw it or when you convert it to Roth.
bhradbh
Posts: 65
Joined: Thu Mar 16, 2017 2:22 pm

Re: IRA to Roth Backdoor expat

Post by bhradbh »

retiredjg wrote: Thu Apr 08, 2021 1:00 pm Not sure what to tell you. Many tax-preparers somehow miss a non-deductible contribution to traditional IRA. It is not uncommon at all.

If you can show you made non-deductible contributions to tIRA (not contributions to Roth IRA), a person here could do that now by filing old Forms 8606. I don't know if it would be different for an expat or not.

If you cannot demonstrate that the contributions were made to tIRA but not deducted from your taxable income, then you will pay tax on that money a second time when you withdraw it or when you convert it to Roth.
What he said.
Topic Author
Scaramanga
Posts: 4
Joined: Thu Apr 08, 2021 3:20 am

Re: IRA to Roth Backdoor expat

Post by Scaramanga »

Thanks its been informative. I'll check with my new tax ppl what they advise me to do. looks way too complex for a citizen to deal with.
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