Excess 2009 Roth Contributions – Avoid 6% Penalty?
H – 54, S – 49 in 2009 – Roth Contributions – H – $6k – S – $5k ($3k in 1 Roth and $2k in 2nd Roth)
2009 AGI – $173k and both have 401k’s therefore exceed income limit.
4/9/10 – S – closes out 2nd Roth and pays personal H.E.L.O.C with balance of 2k initially contributed.
2009 Tax Return filed (MFJ) before 4/15/10.
Q1: According to 2009 Quickfinder, they can recharacterize the remaining 9k to Traditional IRA
as long as it is made before 10/15/10 even IF return has already been filed. I see no reference
to this in 2009 Pub 590 or IRC 408A(d)(6) or (7) so Is this really correct?
Q2: RE: Q1 – Another source noted below:
http://www.fairmark.com/rothira/deadline.htm
I notice this reference is dated 1/24/08 so has this been superceded by the reference in Q1?
Q3: Since S closed out 2k Roth and did not transfer to Traditional would not the earnings
be taxable in year 2010? or should they be added in 2009?
Q4: Currently they will be contributing $6k each to a Roth for 2010, so assuming above income
limits can they not recharacterize to Traditional IRA and then convert to Roth as long as they
complete it before 10/15/11? This way they avoid the 6% penalty and shift the funds to
Roth’s.
Thank You for your time.
Permalink Submitted by Alan Spross on Mon, 2010-04-26 19:27
Q1 – Yes, this is correct. I think the reference material in Pub 590 you were looking for is on p 30 “Timing – Extension”.
Q2 – There is no conflict between the info in the Fairmark link and Pub 590 per above.
Q3- Any earnings in the 2k Roth (separate account I assume), are taxable in the year IN WHICH the contribution to that IRA was made. There is also a 10% early withdrawal penalty if there were earnings. The IRA custodian should have been told this was the removal of an excess contribution so the 1099R will reflect that rather than a regular early withdrawal. And if there were earnings, an amended return if necessary to report them, any 10% penalty and should include the explanation of the recharacterization per p 31 of Pub 590, and 2009 Form 8606 for each to report non deductible TIRA contributions. If the custodian was not told this was a corrective distribution, there is still time to get them to correct their records.
Q4- Yes, they could do that, but IF they do not have TIRA balances other than these 2009 recharacterized contributions, I think it would be much easier to make their contributions for 2010 as non deductible TIRA contributions and then just convert them. If they can afford the 2010 contributions now, they could recharacterize the 2009, make the 2010 regular non deductible contributions and immediately convert both years contributions tax free. This will avoid future recharacterized regular contributions.
If there ARE other TIRA balances, then the pro rate rules will apply to taxable conversions, and then it might be better to make the regular Roth contributions if they think they will fall under the income limits. If they are doing a 2010 conversion even if it is taxable, they have the two year deferral to take advantage of, and they would then be better off making the TIRA non deductible contribution and converting.
Permalink Submitted by Ken Winger on Tue, 2010-04-27 19:02
RE: Q3 – Yes this is a separate Roth IRA where she just had the custodian close it
and transfer balance to pay off her personal line of credit on 4/9/10.
So will not the custodian issue a 1099-R in 2010 since there was none in 2009 and
the total distribution was made in 2010 therefore as I believe you indicated only
the earnings would be subject to 10% penalty and included as taxable income in 2010?
So to Recap for 2009:
1. File 1040-X – Explain they are recharacterizing from Roth to TIRA-NonDeductible due to
exceeding MAGI limit and reference “Filed pursuant to Section 301.9100-2” .
a. Attach Form 8606 for H + S
2. Contact their respective custodians before 10/15/10:
a. Inform them they are recharacterizing their 2009 Roth Contributions
to TIRA-Non-Deductible.
b. Setup TIRA accounts
c. Transfer entire balance using trustee – trustee transfer.
d. Do a conversion of their respective TIRA-Non-Deductible to Roth accounts.
So to Recap for 2010:
1. Do the same process for the year to date 2010 Roth contributions – See #2 above.
2. Stop making Roth and begin making TIRA-Non-Deductible contributions as you indicated.
3. Then convert to Roth accounts before 10/15/2011.
Thanks for your prompt replies!
Permalink Submitted by Alan Spross on Tue, 2010-04-27 19:56
Re the 1099R – it is critical that the custodian treat the distribution as a corrective distribution (Code P). If they code it as a regular early distribution, it brings in to play the other Roth IRA and the distribution will not be deemed to include earnings because earnings come out LAST unless it is a corrective distribution. It would create a real mess including the 6% excise tax for 2009, and the amended 2009 return would have to be redone because it would not match up with the 1099R coding.
The recharacterization should be done ASAP, then the 2010 non deductible contributions and conversion of the entire TIRA, then the 1040X explaining all these transactions in the narrative section.
In 2011 early in the year, they would make their 2011 non deductible TIRA contributions and convert them immediately. They will need an 8606 each with one part to report the non deductible contribution and the other part to report the conversion.
Again, these conversions will be taxable UNLESS this is their only traditional IRA, ie holds only the current contribution for a day or less after which that is converted. Therefore, for 364 days a year their TIRA will have a -0- balance.
Permalink Submitted by Ken Winger on Thu, 2010-04-29 22:17
The recharacterization should be done ASAP, then the 2010 non deductible contributions and conversion of the entire TIRA, then the 1040X explaining all these transactions in the narrative section.
RE: Above – We now have setup TIRA accounts since there was None for either H or S. RE: H Roth contributions – 6k for 2009 and 1.2k for 2010. Since we are recharacterizing both year’s contributions there is no need to calculate the net portion (contribution + net earnings/loss) for each year just transfer entire amount to TIRA and then turn around and convert full amount to a Roth correct since we are not doing a partial recharacterization?
Just want to make sure there is no reason to separate years for purpose of completing 8606 for each respective tax year.
Thanks