Taxed on Non-Deductable IRA Roth conversion??
Converted non deductable IRA to a Roth IRA-not sure if 8606 was ever filed. Just recieved 100-R and had taxaxble distribution in box 2a(box 2a had the same amount as box 1 Gross distribution). If converting a non deductible IRA to a Roth IRA why wold box 2a -Taxable distribution show the same amount as box 1 gross distibution? Should 2a be 0. I thought it would be non taxable. Do we need to clarify with IRS that it was a non deductable IRA?
Tks
SC
Permalink Submitted by Alan Spross on Mon, 2012-02-06 22:13
Before filing this return, you need to be sure that you filed an 8606 when you made non deductible contributions. If the IRS does not have a copy of your 8606, then whatever amount you converted will be fully taxable. Depending on your records, determining which years you need to file an 8606 for can be a tough research project. Once you can determine that you made a TIRA contribution for a given year and did NOT deduct it on Form 1040, then you can file a retroactive 8606 for that year. Start with the oldest year and work forward because these forms are cumulative. This could go back as far as 1987.
Secondly, an IRA custodian will always show the full amount in Box 2a, but usually also check the “Taxable amount not determined” Box. They do not know how much basis you might have in an 8606, so you can ignore that box if you establish any basis and file the 8606.
Finally, the 8606 basis does not apply to any particular IRA account, it applies overall to all your accounts as a %. Therefore, it does not matter WHICH IRA account you convert since Form 8606 uses the total value and total basis for all your TIRAs to determine how much of your conversion is taxable. If you have a pre tax rollover IRA worth 9 times the value of your basis, then 90% of your conversion will be taxable.
If you have no records at all and no tax preparer who might have kept copies of this information, then you may have to resort to ordering copies of all your 5498 forms from the IRS or your IRA custodian if you only have one or two, then compare that with your tax returns for those years to see if the deduction was taken.
Permalink Submitted by steve jackson on Tue, 2012-02-07 21:06
Alan
If we can find 8606 or do one retroactively and it is deemed to have been a nondeductable IRA.Since he had a seperate rollover IRA that same year, will we have to include the qualified rollover amount/percentage in the conversion calculation even though it was non deductable.I think Ed may call that the cream in the coffee?
Tks
SC
Permalink Submitted by Alan Spross on Tue, 2012-02-07 21:46
Yes, that is correct.
The values of all IRAs are determined on 12/31 of the year of conversion including SEP, SIMPLE and all traditional IRAs. A rollover IRA is just a traditional IRA. The taxable portion of the conversion will be higher because of the rollover IRA since rollover IRAs are generally (but not always) fully pre tax. Do NOT include any inherited IRAs in the calculation, just OWNED IRAs.
Permalink Submitted by steve jackson on Thu, 2012-02-09 23:01
lastly, do we still have to do this(prorated calculation) if the non- deductible IRA that was converted was lower,less than basis because of market decline? For Example $5,000 non ded IRA converted when value was down to $4,000 due to poor return. Or only if it had gains above $5,000
Thanks
SC
Permalink Submitted by Alan Spross on Fri, 2012-02-10 00:40
If the rollover IRA is still there, the pro rate calculation in Part I of the 8606 must still be done using all TIRA accounts.
The non deductible contribution may have dropped in value, but the basis is still 5,000 as a fraction of the combined TIRA values adjusted at year end.
However, if no contribution was made in the year of the conversion and all TIRA values were converted, then you bypass Part I of Form 8606 and just report on Part II. There is no fraction in this case, the taxable amount simply being the converted amount less the amount of remaining basis (5,000 in this case).
Permalink Submitted by steve jackson on Tue, 2012-02-28 17:06
Alan
Since individual has to report total basis on non-deductible IRA(or prorated value)as taxable income, can he undue this with a recharacterization? It was a 2011 conversion, does he have to do the recharacterization for tax year 2012? Our goal is for him not to pay taxes on the Non-deductible IRA for tax year 2011. If we convert next year(a year in which he did not do a rollover and conversion in the same year) could he avoid aggregation rule?
TKS
SC
Permalink Submitted by Alan Spross on Tue, 2012-02-28 17:43
Yes, he could recharacterize the conversion for 2011, up to the extended due date of 10/15/2012. That would eliminate the tax bill for the 2011 conversion, and the 2011 return could be filed without reporting the conversion. However, there should be an explanatory statement attached explaining the date and amount of the conversion and the date and amount recharacterized and what it was worth when recharacterized.
However, the pro rating that was done on the 2011 conversion would also apply to a 2012 conversion, as long as the large pre tax IRA remained. That IRA value must be reported not only at the end of the rollover year, but at the end of every year thereafter.
One way to resolve this problem is to roll the pre tax amount of the IRAs into the current employer plan, IF the plan will accept IRA rollovers. That would eliminate the pre tax value as of the end of that year and allow the basis (5,000) to be converted tax free. If the current plan will accept an IRA rollover, individual could:
1) Recharacterize the 2011 conversion back to the TIRA
2) Roll the pre tax balance of his IRAs into current employer plan before the end of this year
3) Re convert the remaining after tax balance, making sure that at least 31 days have passed since the recharacterization in Step 1.
Note that employer plans are more likely to accept IRA rollovers into the plan if the IRA is a “Rollover IRA”. If the total basis in all IRAs is 5,000, then all but 5,000 should be transferred to the rollover IRA, keeping 5,000 in a separate IRA.
If the employer plan will not accept rollovers from IRAs, then the choice is to accept the tax bill and not recharacterize OR recharacterize knowing that future conversions will face the same problem, being mostly taxable.