Determining tax planning options with a basis in an IRA

Submitted by Joseph Schwarz on Wed, 2023-12-20 21:11

Facts:

Client’s age is 67
Our client has an IRA with a value of $677,000
We viewed his 2022 Tax Return that shows a 8606 form that indicated that his basis is $39,020 in his IRA.
We verified with the client that the basis has been tracked annually and is correct.

Our understanding is that when taking distributions from the IRA with basis it’s taxed on a pro-rata basis.
For example, for every $100 taken out (Or converted to Roth) of the IRA 5.76% of the distribution will not be taxable. (667/39 = 5.76%)

Is there a way to take the basis out of the IRA without it being a pro-rata basis. Can you take a one-time distribution and indicate this to be 100% basis? Or “Basis first”

Thanks you.



Submitted by Alan - IRA critic on Thu, 2023-12-21 00:03

  • There is no way to avoid Form 8606 and pro rating of distributions other than 1) ignoring the basis and treating the entire distribution as taxable for the duration or 2) being able to separate the basis by rolling the entire pre tax balance into a non IRA plan (eg 401k), then distributing or converting the remaining basis tax free. After the distribution or conversion year of the basis, the 401k could be rolled back into the IRA and the IRA would then be 100% pre tax with no more pro rations. Most 401k or 403b plans will not accept IRA rollovers after the employee is no longer active, although the TSP (govt plan) is an exception.

Submitted by Joseph Schwarz on Thu, 2023-12-21 15:23

Hi Allen, Say we were to go with option 2.- You mentioned you need to convert/distribute the basis, and one year after you can then roll the plan back into the IRA. If the rollover from the IRA to the 401k and the rollover from the 401k Plan back to the IRA are both considered “Direct Rollovers” (Compared to 60-day), Are we able to roll the plan back to the IRA without having to wait a year? Client may retire in 2024, which would allow him to roll the dollars back to his IRA.  Thank you. 

Submitted by Alan - IRA critic on Thu, 2023-12-21 15:50

The one rollover limit does not apply to rollovers between IRAs and qualified plans. It’s likely too late to roll the pre tax IRA to the 401k this year. Doing it in 2024 and converting the IRA basis in 2024 would mean that the 401k balance could not be rolled back into the  IRA until 2025. If done in 2024 it will make the 2024 conversion taxable.

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