Estimated Taxes for Roth Conversion
I am considering doing a Roth conversion, probably in December of this year, which will bump my 2011 taxes due significantly. Is it necessary to make estimated tax payments early in the year to support such? I would like to think I wouldn’t need to make the estimated payments ahead of the event.
Would penalties be applied if I made the entire tax payment for this event in a single payment prior to the January 17 due date of the final 2011 estimated tax deadline…?
In past years, I have occasionally made required estimated payments in the final one or two filings and nothing in the early estimated filings, and never seen a penalty. However, the numbers were rather small on those occasions.
Thanks…!
Permalink Submitted by Alan Spross on Sun, 2011-04-17 17:36
You should make equal estimated payments on each due date OR use the annualizied income installment method. This method actually reflects the specific quarter your income was incurred, but it is very onerous to complete. If you just paid next January, you could still get a penalty for the first 3 quarters, even if you had a refund coming. The reason is the IRS assumes your income was earned equally throughout the year unless you use the annualized forms. You probably did not get billed before because the shortfall was small.
Another option is to use withholding from an income source such as a pension, salary or SS income. Withholding is assumed paid equally throughout the year, unlike estimates. So even if your withholding is all done in December, it is assumed to be paid equally throughout. If you have withholding taken from the TIRA distribution, that will work for underpayment, but it either results in a lower amount converted or a greater distribution which itself will be taxed. And if under 59.5 a 10% penalty applies.
Remember that even if you have much more income in 2011 than in 2010 due to the conversion, you will not be penalized if you meet the safe harbor of 100% of your 2010 tax bill (110% if your AGI is over 150k). That should be paid in equal quarterlies but even if it comes far short of your 2011 tax bill, there will be no penalty.
Permalink Submitted by gerard noronha on Sun, 2011-04-17 19:38
what would be wrong with paying the estimated full amount in the first 2 quarters…say on a roth conversion ( converted by end of 3rd quarter) you owed 15K..if you paid it in one or two quarters will that be a problem with the IRS.
Permalink Submitted by Alan Spross on Mon, 2011-04-18 00:42
That would not be a problem. Whenever the payments are front loaded, the IRS allows credit for the excess to flow to later quarters. In situations where the total payments are adequate, the only time there would be a penalty for any quarter would be if the total payment is less than 25% after the first Q, 50% after the 2nd, 75% after the 3rd or 100% after the 4th.
And that penalty may go away or be reduced if the annualized income method shows that income was produced in the later quarters.
Permalink Submitted by [email protected] on Tue, 2011-04-19 02:56
Alan,
I think I would like to use the annualized income installment method, if that would allow me to pay the tax on the conversion around the time it occurred. Could you advise the form numbers….? I went looking on the IRS site, but only found what looked like forms for corporate filing.
Alternately, I might just bite the bullet and pay the penalty, if it’s not unreasonable… do you know how to estimate it…?
Thanks…!
Permalink Submitted by Alan Spross on Tue, 2011-04-19 03:29
The penalty is an interest rate of 4% (current rate) applied to the shortfall for each quarter.
The AI method is notorious for the challenge it creates in calculating the penalty based on the quarter the income is actually incurred. The form is 2210, Sch AI. You may want to take a look at it to see if you think it is worth the trouble. I doubt that the IRS checks it in detail, so it would probably pass if it looks logical to them. The 2011 edition has not been released yet:
http://www.irs.gov/pub/irs-pdf/f2210.pdf
The 2210 Instructions are available also on the IRS site.
Permalink Submitted by mk foss on Wed, 2011-04-20 22:17
The IRS told a meeting of CalCPA Tax practitioners that 2010 Roth conversions taxed in 2011 and 2012 would be treated as if they were earned ratably during those two years for the annualized income calculations. I was surprised that they’d be so liberal in this interpretation.