Roth recharacterization
I have a client where I found out that he is going to be over the limit to make a Roth contribution for 2021. I recharacterized his 2021 Roth contributions back to his Traditional IRA. Then, I found out that he wants to move his entire Traditional IRA into his 457 plan. The 457 plan doesn’t accept after tax contributions.
I feel like I have 2 options.
1) convert those contributions back to his Roth and then remove them
2) roll the money into his 457. I don’t think they will know. It’s just when he takes that money out someday, he will be taxed again on the $ 600.
Can you please provide some guidance?
Thanks
Permalink Submitted by Alan - IRA critic on Thu, 2021-06-03 22:16
First, client needs to be sure that he does not qualify for an IRA deduction for his filing status. A 457 is not a qualified plan, therefore participation in the 457 does not itself make him an active participant, but he may be participating in another plan such as a 403b or DB plan, or if MFJ his spouse may be an active participant. If the recharacterized contribution can be deducted, it can be rolled into the 457.
Otherwise, if he does not have a balance in any other non Roth account, he could convert the recharaterized contribution to Roth tax free, but only if the 457 accepts a rollover of any pre tax IRA balance. Best to complete the 457 rollover before converting, since if the 457 declines the rollover his conversion will be mostly taxable due to pro rating of the basis. The 457 may decline rollovers except for rollover IRAs and his TIRA is no longer a rollover IRA.
If the 457 will not accept the rollover and client does not want the IRA basis, he can request a return of the (now) 2021 TIRA contribution with allocated earnings.
Permalink Submitted by Robert Roselli on Fri, 2021-06-04 15:52
The client has a pension and is over the income limit, so he can’t deduct the contribution or contribute to a Roth. That eliminates bullet #1 above. The TIRA is made up of $ 490 in cash, and 86 shares of one security. 7 shares are from the Roth IRA recharacterization done in March 2021 for 2021 Roth contributions ( I recharacterized them to the TIRA). The rest are from a rollover in 2007. I’ve already researched that his 457 will accept rollover IRA’s but not after tax contributions. It seems that I either have to convert those 7 shares back to his Roth and then remove them from there or remove the 7 shares from his TIRA.What do you recommend? And how will this look for 1099’s for 2021?
Permalink Submitted by Alan - IRA critic on Fri, 2021-06-04 16:12
The second bullet point would apply then. If the IRA basis from the recharacterized contribution is 6000, then 6000 worth of shares or cash can be converted to the Roth IRA after the rest of the TIRA has been accepted by the 457. There is no need to remove or distribute shares to the client since there is no longer an excess contribution due to the completed recharacterization. However, if the pre tax rollover to the 457 cannot be done for some reason, then a distribution might be considered to avoid having basis in the TIRA for a long period.
Permalink Submitted by Robert Roselli on Fri, 2021-06-04 16:21
When you say transfer all the monies except the 7 shares to the 457 first and then convert the rest, what is the reason? does it have to do with if he converts it first, it will affect the taxation of the conversion? I’ve heard if you do a backdoor Roth and there is already a balance in the TIRA, it makes more of it taxable?
Permalink Submitted by Alan - IRA critic on Fri, 2021-06-04 16:25
The rollover being done first is to eliminate the chance of the rollover being rejected or delayed, and that would result in the conversion being mostly taxable due to a year end balance left in the TIRA. So yes, that would make more of the conversion, in fact most of it taxable while still leaving most of the basis in the TIRA.