Failed 2008 Roth Conversion
I have a client who converted $558 from a TIRA to a Roth in 2008. The client is MFJ. When we made the decision to convert, they were confident they would be under the 100k MAGI limit. They are now coming on board as tax clients and in reviewing their 2008 1040, I see that their MAGI was actually $100,715! So, the conversion really was not allowed and should have been recharacterized. I am familiar with the procedure of doing this prior to the extended due date of the return.
However, since we are just discovering this now, any suggestions on what can be done? Can we still maybe recharacterize to either a non-deductible contribution and re-convert this year? Or amend the 2008 return to remove the reported income from the conversion, put it back in TIRA plus attributable earnings and then re-convert? Obviously, we’d like to avoid any penalty/excise tax if possible.
Thanks for your thoughts.
Permalink Submitted by Alan Spross on Fri, 2010-02-19 21:33
FIrst, you should probably check to be sure that modified AGI is figured correctly since they are so close. It does not include the conversion itself or any IRA RMD.
Next, if still disallowed, they need to amend the 2008 return on a 1040X to eliminate the conversion portion of Form 8606 but retain the taxable distribution on line 15a and 15b. An early withdrawal penalty would also apply per Form 5329. Form 5329 would also report the 6% excise tax on the amount of the excess regular Roth contribution, which is the way it is now treated. Another 5329 with the 2009 return would report another 6% because the excess was not corrected as of 12/31/09. However, if client was eligible for a Roth regular contribution that he did not make in 2009, the excess could be applied as a regular Roth contribution on that same 5329 and the 2009 excise tax would be avoided. That could also work for 2010, if it did not work for 2009.
Otherwise, the $558 needs to be distributed from the Roth IRA. No earnings calculation is needed because this was not corrected by the extended due date. The distribution would be reported on a 2010 8606 and would be tax free if there is a balance of regular contributions in the Roth including this amount. Finally, a 2010 5329 would show that the prior excess was corrected. There would be no 2010 6% penalty as long as the funds are distributed by year end.
The IRS will probably bill interest on the taxes due for 2008.
There is no way to recharacterize this back to a TIRA. The only option to distribution is the assignment as a regular later year contribution as outlined above.
Permalink Submitted by Bruce Steiner on Sun, 2010-02-21 02:21
They could apply for a private letter ruling extending the time to recharacterize. Of course, that wouldn’t be practical for $558.