Loss on Back Door Roth

Submitted by David Rains on Mon, 2018-08-13 13:17

Assume someone has no Traditional IRA balances, and therefore, would not be subject to any pro-rata rules if they were to make a non-deductible IRA contribution and convert it.

1. Someone makes a $5,500 non-deductible contribution to an IRA, and invests the contribution.
2. The $5,500 investment declines in value, and is now worth $5,000 (a difference of $500).
3. This person “converts” the $5,000 IRA to a Roth IRA, leaving a $0 balance in the traditional IRA.
What happens to the $500 decline in value?

Is this carried forward? Can it be used in any way in the future?



Submitted by Alan - IRA critic on Mon, 2018-08-13 15:51

  • There is no direct guidance on this, which leaves a review of how the Form 8606 Instructions work.  The key to retaining that 500 of basis is line 14 of Form 8606. In order to have a line 14 value, Part I must be required. And Part I will be required if you either make a current year ND contribution OR convert or distribute less than 100% of your IRA. In your situation you are not converting unless you also make a ND contribution, so your line 14 basis would carry forward from your last 8606. However, if you were to delay your conversion to a year for which you did not make a contribution and converted 100% of your TIRA, there would be no Part I on that 8606 and any remaining basis on your former 8606 would be erased.
  • You can no longer claim a misc deduction for lost basis if you drain your IRA, so if you have a large enough amount of basis to preserve, you would recover it should you roll over a 401k after retirement and take RMDs from the IRA with basis. Or if your 401k allowed a partial rollover and you had 500 of leftover basis, you could roll over 500 from the 401k to your IRA, then use your basis to convert that 500 tax free. However, if you are looking at 100 or similar small amount of basis carryover, it is probably not worth the trouble to try to preserve it by doing a partial conversion leaving a small TIRA balance to produce that line 14. 

Submitted by David Mertz on Mon, 2018-08-13 19:24

Regarding the case where the Roth conversion is performed in a year when no new nondeductible traditional IRA contributions are made, I suspect that the 2017 IRS instruction to prepare Part I only if less than the entire TIRA balance is converted is based on the assumption that the individual would be claiming the miscellaneous deduction (if the 2% of AGI floor is met).  I have not yet seen any drafts of the 2018 Form 8606 form and instructions, so perhaps the IRS will change the instructions to say to prepare Part I even if the entire TIRA balance is converted.  I know of at least one version of 2017 tax software that, contrary to the IRS instructions, prepares Part I even if the entire balance is converted, so maybe that would be an approach to take for 2018, if need be. 

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