converting non-deductible Traditional IRA to Roth IRA

Submitted by Vijay Tunikipati on Thu, 2014-02-20 18:32

1) I have a 2002 deductible Traditional IRA (contribution $2500, current earning $2500)
2) Last week I contributed $5500 to a 2013 non-deductible Traditional IRA, and also contributed another $5500 to a 2014 non-deductible Traditional IRA. As of today, both these two new non-deductible Traditional IRAs do not have any earnings. I know that I will need to file an 8606 for both these contributions (before 4/15/2013 for the 2013 contribution). Can I file both 8606 at the same time?

In a couple of days, I would like to convert both the 2013 and the 2014 non-deductible Traditional IRA to Roth IRA accounts. What are the implications?

I believe I would be required to convert my 100% of 2002 deductible Traditional IRA (contributions and earnings)and pay ordinary income tax on the full amount (contributions + earnings) at my current income tax bracket.

I am not sure if my contributions to the 2013 and the 2014 non-deductible Traditional IRA will incure a 10% penalty upon converting to Roth IRA. Will this conversion also require me to pay oridinary income tax (again)? Please advice.



Submitted by Alan - IRA critic on Thu, 2014-02-20 19:15

  • For tax purposes consider all your TIRA accounts as just one combined account. Your non deductible contributions to any of these accounts are reported on Form 8606 regardless of which account you contribute to. Right now you have a total TIRA value of 16,000, of which 11,000 is from non deductible contributions. That’s around 69%. No matter how much you convert and no matter which account you convert from, the conversion will be 69% non taxable, 31% taxable. Picture your IRA as a cup of coffee and your non deductible contributions. Once your pour cream into the coffee or make non deductible contributions you cannot separate either of them back out from your IRA as a whole.
  • For reporting purposes, you would file Form 8606 on your 2013 return reporting only your 2013 non deductible contribution. You don’t file the 2014 8606 until you file for 2014, so they cannot be combined. Included on your 2014 8606 will be your new contribution on line 1, the amount from the prior year on line 2 and line 3 will add them together to get your total basis of 11,000. Then you proceed to report your conversion on the same form and it will calculate the non taxable portion.
  • If you do as you indicated and convert just the recent two IRAs of 11,000, the non taxable amount will still be 69%, about 7,590. Same answer no matter which combination of accounts you use to fund the 11,000 in conversions, and same if you do more than one conversion, as the 8606 adds up all the conversions and does just one computation. Of course, if you converted all of your TIRA accounts, the non taxable amount would simply be 11,000 and the taxable amount 5,000.
  • There is never a 10% penalty on conversions, just ordinary taxes. But if you then take money out of the Roth before 5 years have passed, you are penalized 10% on the taxable portion of the conversion. There is never a double tax as the taxable portion of any conversion only applies to amounts that you deducted when contributed. Your recent contributions were not deducted when you made them, so that portion of your conversion will not be taxed.

Submitted by Vijay Tunikipati on Thu, 2014-02-20 20:27

Thank you for the clarifications. If I want to convert all three IRA accounts (two recent, and the 2002) to Roth IRA, I would need to follow the steps below. Please confirm if I got this right…thanks very much for your help.1) file Form 8606 on my 2013 return reporting only your 2013 non deductible contribution2) next week, convert all IRAs (two recent and the 2002 IRA) into Roth IRA3) Send a check next week to IRS for estimated taxes on the 31% of $16,000 (the total amount converted)4) next year file Form 8606 on my 2014 return reporting the 2014 non deductible contribution

Submitted by Alan - IRA critic on Thu, 2014-02-20 20:54

Correct, but you do not have to send a separate check for the estimated tax. You could just incorporate the added tax liability and include in equally in each quarterly estimate if you pay by estimates. Or you could increase your withholding from salary to cover the added tax, although 5,000 is not that much additional taxable income.

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