Recharacterization/Reconversion problem
Quite a mess here, wondering what the consequences are- Roth conversion done in late 2010, assets were worth $40,000 at the time. Recharacterization done early October 2011, assets were worth $35000, so far so good. Two days later, assets were converted to roth again-(violating the 30 day rule) and then recharacterized the next day. At present, the assets are back in the original IRA.
Having difficulties getting the second conversion/recharacterization undone, wondering what the net effects of these transactions would be?
Thanks so much for your help!
Permalink Submitted by Peter Lingane on Wed, 2011-12-14 21:04
My interpretation is as follows:
1. There was a $35,000 distribution from the traditional IRA in mid October. This was subsequently contributed to a Roth IRA but this was an excess contribution rather than a conversion because of the 30 day rule.
2. The excess contribution and earnings were withdrawn a few days later so the only impact of the excess contribution to the Roth IRA is the taxation of the withdrawn earnings.
3. The money withdrawn was contributed to a traditional IRA in the mistaken belief that the customer was recharacterizing the Roth IRA. Since you cannot recharacterize an excess contribution to a Roth IRA, there is now a $35,000 excess contribution to the traditional IRA. This and associated earnings must be withdrawn.
The IRS may have provided a less harsh result in a notice or regulation. Hopefully, another reader with know of it.
Permalink Submitted by Alan Spross on Wed, 2011-12-14 23:52
There is no reason to try to undo anything at this point. The disallowed reconversion has been undone, so what are you still trying to get undone?
The second conversion was known as a failed conversion because it was done without meeting the waiting period requirement. This would be a disaster if the recharacterization deadline passed, but the failed conversion was recharacterized back to the TIRA right away. If the deadline had passed to recharacterize, then you would have the situation that Peter described, ie an excess regular Roth contribution to be corrected with the end result being the distribution of funds from either type of IRA account.
But you are presently OK, and back to where you started from. If your concern is when you can legally reconvert again, it would be in January, 2012 because your most recent recharacterization was to a 2011 conversion and therefore cannot be reconverted until the next calendar year or 30 days, whichever is longer.
You have some tax reporting to do, and I assume you were eligible to use the extended due date for the first recharacterization. You will have to amend your 2010 return to eliminate the conversion reported on Form 8606, even if you planned to defer the conversion income over 2 years. On the 1040X, include an explanation of the first conversion and recharacterization. On your 2011 return you will need to include an explanation of the 2011 conversion and recharacterization. It all ends up with no tax impact, just some reporting work.
Permalink Submitted by Peter Lingane on Thu, 2011-12-15 03:13
Alan is correct. A reconversion prior to thirty days is a “failed conversion” per Reg. 1.0408A-A, A-9 and is allowed the remedy in 1.408A-4, A-3. That is, the amount may be recharacterized as a contribution to a traditional IRA.