Pension Lump Sum Option Rollover to IRA or Roth

Submitted by Steven David on Fri, 2016-11-04 15:22

My wife has an option for a Pension Lump Sum payment but we do not want to create an issue for our IRA and Roth IRA accounts.

Background:
Every year, my wife and I contribute to Traditional IRAs using after tax money (non deductible contributions). And then we roll-over this amount into our Roth IRA. We are 50 years old and will continue to do this for the next 10 years.
My wife’s former company has offered her an option to receive a Pension Lump Sum payment instead of waiting until 65 years old to start collecting the pension benefit. I asked if we could roll this Pension Lump Sum payment into her 401k that she still has with this company, but I was told that the 401k will not accept this amount.

My next idea was to create a 2nd Traditional IRA for her and roll this Pension Lump Sum amount into this new traditional IRA. I would continue to hold & invest this Traditional IRA until our retirement knowing that if I converted this to a Roth IRA, I would have to pay tax.

But I would like to continue contributing to the original/1st Traditional IRA account every year (with non deductible, after tax money) and roll this amount to the Roth IRA without impacting the new, 2nd Traditional IRA.

I have been reading various articles but am not sure if I can do this?

If I can’t do this, is there a tax efficient or minimization strategy that I can use with this Pension Lump Sum Payment? Or is my best option to keep the Pension money in the Pension (do not take a lump sum payment) and continue to do my annual Traditional IRA contribution and subsequent rollover to the Roth IRA?



Submitted by Alan - IRA critic on Fri, 2016-11-04 16:12

  • You have been doing back door Roth conversions, which I assume have been non taxable because neither of you have an additional non Roth IRA balance. While you could continue to do that, an IRA rollover of the pension for your wife will result in her conversions being almost all taxable. Since all non Roth IRAs of a spouse must be considered on the Form 8606 that reports the conversion, keeping a separate IRA for the rollover will not help.
  • She can make a 6500 ND contribution each year, and this would be pro rated with the pension rollover pre tax balance, so the dollar amount of that rollover is key. If it is small enough, for example 20,000 or less, then she could continue doing the back door Roth, but will owe taxes on some of the conversion, but the taxable amount will diminish each year as the non deductible portion grows each year. You can do the math fairly easily to determine if this is worth it.
  • Does your wife currently work elsewhere? If so, she should check to see if her current plan will accept an IRA rollover. And if they will, ask if the IRA must be a rollover IRA. If so, then she could roll her pension lump sum into a new rollover IRA and then roll that account into her current plan. That would resolve the conversion tax issue. Or the current plan might accept a direct rollover direct from the old pension and that would save a step.
  • If your wife is retired permanently, then the only option is to pay taxes on a portion of her conversions or wait to see if she gets another job with a company that will accept IRA rollovers.
  • NOTE: If you happen to have a low income year due to high deductions, that would be a chance to convert her ENTIRE IRA including her rollover since it could possibly be done at a lower rate, perhaps even lower than the rate you expect to apply in retirement.

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