After-Tax Conversion & 401k Rollover Same Year
Have a client that has $18,000 in an after-tax IRA. Due to the market being down, we are considering doing a IRA to Roth Conversion in 2022. She recently got divorced and we are considering rolling over the spouse 401k, approximately $1 million. 100% of this account is with pre-tax dollars. If we do both of these transactions in 2022, will this create a basis issue? If so, it is best to do the conversion in 2022 and the rollover in 2023 to avoid any issues?
Permalink Submitted by David Mertz on Wed, 2022-05-18 19:40
If the 401(k) is rolled over to an IRA in 2022, the $1M will be included in the 2022 year-end IRA balance on line 6 of Form 8606 when calculating the taxable amount of a Roth conversion. This will make a Roth conversion in 2022 mostly taxable and most of the IRA basis will remain in the client’s IRAs to be applied to future distributions. To avoid this undesirable outcome on a 2022 Roth conversion the client would need to delay the rollover of the 401(k) until 2023.
Permalink Submitted by Todd Martin on Thu, 2022-05-19 01:54
Thank you for your response and direction.
Permalink Submitted by Alan - IRA critic on Wed, 2022-05-18 22:18
If she received a portion of spouse’s qualified plan pursuant to a QDRO and is under 59.5, she might determine if she can take distributions from the plan since they will be penalty free. With an IRA rollover, she will have to wait until 59.5 or adopt an inflexible 72t plan.
If the current value of her IRAs is considerably more than her basis, she will have to convert the entire amount to get the entire 18k into the Roth. That might spike her now higher single marginal tax rate. To eliminate that issue, if she is working for an employer with a plan that accepts IRA rollovers, she could convert the 18k tax free if she rolled the pre tax IRA value into that plan, and holds off on the rollover of more pre tax dollars into her IRA until 2023.