Should I go ahead with conversion to Roth or “recharacterize
Hello! I just learned Ed Slott had a discussion site and hope to get feedback.
I saw Mr. Slott on PBS and thought in 2010 it would be wise to convert form a traditional to Roth Ira.
Now that I see how big the taxes are for 2011 and 2012, I’m having second thoughts. A few friends of mine say they have not made the switch, including one who has kids and should be in a fairly high bracket so I’m not sure why not.
Anyhow, my situation is that being on disability, but having savings (I worked for many years and saved it all, practically), I hope to be higher tax bracket at some points if parents pass on, although there are no guarantees with what my mother will do. I am not the “‘favored” daughter.
Normally my taxes have zeroed out, or been quite low. But with having my social security income taxed by the feds (not the state), I wind up having to pay almost $7000 to the Feds and $800 to state. I do not have children and my friend beneficiaries all have died or moved away or don’t need the funds! Does it sound like I should go ahead and file my return? At this point I am cross-eyed looking at numbers so if I should “recharacterize” (don’t know how to do that, I think I’d have to file an extension. Help! Thank you. I would welcome an opinion.
Permalink Submitted by Alan Spross on Thu, 2012-04-05 16:49
Welcome to the forum.
Unfortuneately, the deadline to recharacterize a 2010 conversion was 10/17/2011. You can still recharacterize a 2011 conversion if you did one, but the conversion income going on your 2011 return is from a 2010 conversion, and that one can no longer be recharacterized. And you probably will face the approximate same tax situation in 2012 for the other half.
It might be that you should not have converted in your individual situation. If you are on SSDI, conversion income can drag your SSDI payments into your AGI as well as the conversion and result in a high marginal tax rate. If the 7,800 is the ADDITIONAL amount you must pay vrs not having converted, you can divide that extra tax by 50% of the amount you converted (50% each for 2011 and 2012) to see what the marginal rate is.
If you have gains on this conversion, that can cushion the blow somewhat since the gains will eventually be tax free. If you did a 2011 conversion also, you can still recharacterize that one.
Also, if you ever made non deductible TIRA contributions, the taxable amount of your conversion will be less as the non taxable part will not generate taxes. Did you have any non deductible contributions and/or file Form 8606 to report them in the past?
Do not take money out of the Roth if you can avoid it until you are at least 59.5. Conversions dollars must be held 5 years or until 59.5 to come out without penalty, even though you will have paid the taxes on the conversion.
If you have any other questions, please post them.
Permalink Submitted by Cappy Kelly on Thu, 2012-04-05 23:59
Oh dear, I posted a reply, I thought, but it did not show. Then it asked did I want to save as draft, I said yes, have no idea where it is!
So briefly now, yes, this is about $7000 to IRS and $800 to state for 2010 conversion, which you say I am stuck with. I did not convert anything else in 2011… I guess I should not have converted it all because my ssdi was all taxable. I have one IRA account, and this was it.
I never had a TIRA. the only 8606 I got in 2010 when they just said I was converting to the Roth.
I don’t see your reply in front of me so perhaps I am missing something but I did not understand the “marginal tax” you mentioned or how to “cushion” the blow here.
I gather I pretty much screwed up… about half of my income I am paying in taxes 2011 and again in 2012.
A problem I have is that I saved ever dime I earned while working… and it is in dollars (CDs and treasury fund at Vanguard) so everything is taxable… no shelters. No deductions other than charitable and some taxes. Usually my medical I get a deduction on but not this year with the increase in my “income” from the Roth conversion. So interest taxed… Roth taxed… SSDI taxed ;-/
Open to any input as I guess I’ve not been too wise about this.
If I end up in a higher tax bracket in future, will this maybe even out?
SIGH.
Thank you.
Permalink Submitted by Cappy Kelly on Fri, 2012-04-06 00:01
Oh, and I am paying taxes NOT out of the IRA. And am 60 now. I think I have to wait 5 years to touch the Roth (guess 5 years from 2010?).
Permalink Submitted by Alan Spross on Fri, 2012-04-06 04:46
You do not have to wait 5 years to take a distribution from the Roth as long as you limit distributions to the converted amount. Taking out amounts up to conversion will be tax and penalty free. You only need to wait 5 years to remove earnings tax free.
Yes, it definitely sounds like you never should have converted, or perhaps only converted a very small amount. Apparently, your entire IRA is now a Roth IRA. At least you know that distributions from the Roth will be tax and penalty free up to the converted amount, and you never will have to take RMDs. Without RMDs , your other income including SS will be less likely to be taxed. Therefore, over a period of years you might recover some of the tax money you will pay this year and next for the conversion.
Permalink Submitted by Cappy Kelly on Fri, 2012-04-06 08:13
Thanks for your information.
So there is no way to not pay the next chunk next year? No way to recharacterize that, huh?
Yes, I moved it all in 2010 to a Roth from Traditional. And no way to change my mind on that now, I gather.
Oh dear. Well… unless I wind up in a really high tax bracket in future, guess this just was some free money for Uncle Sam. ;-/