Conversion, QCD & age 70 1/2 sequence

Submitted by Doreen Brubaker on Wed, 2017-11-22 00:17

Sequence:
– Converted $100,000 from traditionl ira to r-ira in 5/2017 (Amt. now $107,000)
– Turned 70 1/2 in Summer 2017
– Plan is to take 100% of RMD from t-ira acct.($36,000) as a QCD to minimize taxes with conversion

Questions:
1. The ira custodian informs me the RMD should be removed from the conversion to satisfy irs sequencing requirements. However, my cpa tells me that I’m OK to go ahead with the QCD as planned. Who is correct? From reading this blog, I would say the custodian; is this correct?
2. If there is a problem, what is my best workaround? Since this is the year I’m 70 1/2, do I have the option of taking a conversion this year and then distributing my RMD as a QCD in January? I know the 2018 RMD would still need to be taken as well.
3. If #2 is not an option, my choice would be to recharacterize the entire $107,000 this year, take the QCD in 01/2018 and convert the $100,000 in 6/2018 (12 months after the first conversion). Would this plan be the best option and compliant with irs rules?
4. It would seem to me if the entire RMD is taken as a QCD leaving the distribution with no taxes to be paid, why would the irs care whether a conversion is taken before or after the distribution?
5. Has there been any talk in this year’s tax negotiations of disallowing Roth conversions?

Any assistance you provide would be greatly appreciated.



Submitted by Alan - IRA critic on Wed, 2017-11-22 03:00

  1. Yes, custodian is correct. The first distribution (conversion is a distribution) in an RMD year is applied to your RMD. Therefore, the amount of your conversion up to the RMD amount has become an excess Roth IRA contribution.
  2. You now have a key choice to make. You can recharacterize your ENTIRE conversion back to TIRA and start over with a QCD/RMD. You can also convert a new amount if you want to as the last step.  You would still be able to do a QCD and another conversion in 2017 to replace the one you lost. Your recharacterization would go into a newly opened TIRA and your RMD and new conversion would come from the original TIRA account. The only downside of this is that you will lose the 7k of conversion gains since all gains on your conversion will also go back to the new TIRA account. The other option is to remove the amount of the RMD (36k) as an excess Roth contribution. Any earnings on that portion (about 2500) will be taxable in 2017. With this option you retain 64% of your conversion and 64% of the gains. You can still do a QCD, but will not be able to apply it to your RMD because you have already taken your RMD. As such you would probably wait until 2018 to do a QCD.
  3. The full recharacterization puts you back at the beginning as it you had not done anything. So you could still do your QCD and apply it to your RMD and you would only be taxed on the amount your RMD exceeds the amount of the QCD. You could then convert a new amount if you wish. This is quicker than the way you described your 3rd point. 
  4. They would care because you cannot roll over an RMD. SInce your first distribution applies to the RMD and the conversion is a rollover it means you rolled over RMD money. It’s a technical violation, but if you don’t correct it, there is NO statute of limitations on an excess contribution and your 6% excise tax on the excess amount repeats every year, so it is very risky to ignore this. If you fix it now, it’s a hassle but is not expensive. And if you recharacterize you eliminate the tax on the conversion you already did, then can use a QCD to offset the tax on your RMD. If your QCD is for the full RMD of 36k, your taxable income for the year would only be on the second conversion you would do, which MUST be done AFTER the QCD/RMD. SInce your QCD will be for the full amount of your RMD, recharacterization is clearly the best choice, as it will lower your tax bill considerably. Only your second conversion will be taxed.
  5. No plan ends conversions or QCDs, but one plan ends recharacterizations, probably for 2018 conversions and later. 
  6. Before you think to ask why you could not just recharacterize the 36k instead of the full 100k conversion – the reason is that you would be left with a 64k conversion which would still include your 36k RMD and you would still have an excess Roth contribution of 36k. So that will not work.

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