Withdrawing Non-Deductible IRA Contributions

Submitted by John Boyle on Fri, 2020-11-13 21:09

A few years back, husband and wife each open traditional IRAs at a bank, and fund them with two years worth of non-deductible contributions. Wife passes away this year (husband is beneficiary). Husband (over 59.5), also has a separate, large balance traditional IRA. Can he close both (bank) traditional IRAs and avoid tax on the original contributions, or is there a pro-rata rule?



Submitted by Alan - IRA critic on Fri, 2020-11-13 21:42

  • Each spouse must document their non deductible contributions in the year they were made by filing Form 8606.  As long as husband maintains her IRA as inherited and does not assume ownership, each spouse’s IRA basis remains separate, otherwise they are combined on his 8606 by adding her basis to his 8606.
  • If he cashes out or converts any of his IRAs, the pro rata rules calculated on Form 8606 will apply, and if his TIRA is large, any such distribution will be mostly taxable. On the other hand, if he were to cash out the inherited IRA of his wife, her basis % is likely much higher than his, and less taxes would be owed per dollar distributed. 
  • While this is the last year he will be able to file jointly (unless he remarries), and his tax rate will therefore be lower, this may be a good year to convert. Otherwise, it may not be wise to take a large distribution (with no conversion) in a single year. If he needs to cash out a large amount for some reason, he may want to split it between now and January to use up his lower brackets in two years instead of one.

Submitted by ssel on Sat, 2020-11-14 00:54

  • If combining bases, is an explanatory statement needed (and if so what should it say)?  Or is it enough that the combined starting basis is exactly equal to the sum of last year’s two numbers?
  • If there are dependent children then he may be filing next year as a qualified widower, right, so his tax rates may be the same as someone married filing joint?

Submitted by Alan - IRA critic on Sat, 2020-11-14 03:06

  • The instructions for line 2 of Form 8606 where basis changes like this are shown, do not mention anything about an explanatory statement. So it’s a toss up whether to add a statement or not. The IRS will rarely inquire, but if you can make a statement within your tax program, you should do it to head off any unlikely IRS inquiry.
  • Yes, you are correct about qualifying widower status which can be used for 2 years. Joint filer rates apply for those years.

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