Narrow focus thread: Roth recharacterizations with new tax law

[SecondCor521]

If you had planned to do a Roth conversion this year and then a recharacterization after 1/1/18, what are you doing in response to the potential for a change in tax law?

A - Planning on the ability to recharacterize in 2018 because it's part of the 2017 tax year because you're recharacterizing a conversion done in 2017. If so, on what basis do you know your custodian will do a recharacterization for you?

B - Using an HSA contribution to dial in AGI.

C - Using a t-IRA contribution to dial in AGI.

D - Trying to figure out AGI this year and doing the conversion precisely in the first place.

E - Not worrying about it because you don't care what your AGI is.

F - Dialing in AGI some other way (if so, please elaborate!)

I'm trying to figure out what to do. I have a very high desire to hit a very exact AGI for 2017.

I know the original tax law thread shut down, so please let's keep this one focused on this specific question.

Also, to be clear I am not asking anyone to speculate on the tax law or its prospects or final form. I am asking everyone what actions you are currently taking based on your situation and looking for options on how to achieve what I am trying to achieve.

 

[braumeister]

please let's keep this one focused on this specific question.

This crowd? Thanks for the good chuckle.

 

[cathy63]

I am doing a combination of D and A. I'll try to be as precise as possible so the necessary recharacterization is small.

I have asked our custodian about recharacterizing part of this year's conversion in February 2018 given the provisions of the house bill, but unsurprisingly, their tax law team decline to speculate about how they'll interpret a law that hasn't yet passed. My concern is that the bill will be delayed and the custodian would allow the recharacterization in February based on current law; then a bill passes in May and they reverse the recharacterization because they interpret the new law as applying to all recharacterizations that occur in the 2018 calendar year even if they were for prior year conversions and were already reported on the 2017 return.

My best defense is to get as close as possible this year and just pay the extra tax if it comes to that.

 

[UnrealizedPotential]

I don't have an answer to your question, but I was wondering about Roth conversions as well. My problem is, I have the cash to do the IRA to Roth IRA conversion, but it would make my income higher and mess up my subsidy for health care premiums. So I am holding off until I can get an idea.

 

[flintnational]

D. We will model with Turbo tax in December and try and get close. We are also trying to keep the ACA subsidies. Accordingly, since it is a pretty steep cliff, we will leave a few thousand buffer just in case.

FN

 

[RunningBum]

A (for now, perhaps changing to F). Planning to recharacterize when I do taxes in early 2018. If there's any doubt about whether this will be allowed, I will recharacterize after December mutual fund distributions, before the end of this year, and get as close as I can.

How do I know Vanguard will allow it? They have in the past. I assume they'll follow the law and allow it for this year again too. I will probably explicitly ask.

Most likely, if the law passes and recharacterizations will no longer be allowed, I'll play it safe and do it before the end of the year.

 

[JoeWras]

Of course, everyone should do their homework on this. A bill is just a bill, and the Senate is working on revisions now, but the bill says this in section 1501 which addresses recharacterizations:

(b) EFFECTIVE DATE.—The amendments made by this section shall apply to taxable years beginning after December 31, 2017.

To me, that means you can recharacterize for tax year 2017, which may occur in 2018.

The brokerages, mutual companies already deal with the multiple tax year thing today on IRA contributions. I'm sure they can turn on recharacterizations for 2017, and turn them off for 2018, even if the physical act is occurring in 2018.

But of course, caution is necessary. And, it is still just a bill.

 

[pb4uski]

Interesting thread. FWIW, the plan indicates "Under the provision, the rule allowing recharacterization of IRA contributions and conversions would be repealed. The provision would be effective for tax years beginning after 2017."

Unclear if a recharacterization made in 2018 that effectively adjusts a 2017 conversion would be allowed but my interpretation would be that it would be allowed... so Plan A is choice A above.... planning on being able to recharacterize in 2018 for 2017 conversions.... but I'll obviously keep a close ey on the progress of the legislation and will try to dial it in as close as I can (choice D).

While 30% on a little bit isn't a big deal.... it is still 30% and 30% rubs me the wrong way.

https://waysandmeansforms.house.gov/uploadedfiles/tax_cuts_and_jobs_act_section_by_section_hr1.pdf

 

[bingybear]

D basically --- as usual
I do our Roth conversions at the end of the year. We only have ETFs in our taxable account. I have a simple spreadsheet and get all the numbers up to the end of November. Near the end of December most distributions have happened and the final "special" distributions have been announced. I plug those numbers into my spreadsheet and I have the conversion amounts.

Really not a big deal even with both IRAs having non-zero tax basis.

Even if I'm off a little in the right direction.... who cares? Its not significant.

 

[JoeWras]

Yeah a little bit of 30% is no huge deal. I think people who are trying to avoid various cliffs are the ones who really have to be cautious.

 

[RunningBum]

A little over is a big deal if it's the ACA subsidy cliff you're going over. That makes me more cautious than having the overaged taxed at 30%.

 

[pb4uski]

+1.... luckily no subsidies here so not a big issue for us but for those near the subsidy cliff a HUGE issue.

 

[Clone]

If you have a farm or some type of business- you can make capital purchases in 2017. When you do your taxes you can choose to Sec 179 those capital purchases in the year purchased, or use the standard depreciation schedule.

Lots of rules apply, and you need to be 'in business' in a manner that meets the IRS requirements. If you have a hobby that could be a money maker- this might be an option.

I use the Sec 179 option to tweak my overall taxes. When we have a good year, I reinvest some of the money back into machinery. I can depreciate most things on a 7 year schedule, so for the first year I can depreciate anywhere from 15% to 100% of the capital expenditure.

As a business, if I have a piece of machinery that I no longer need, when I sell it anything above the amount on the depreciation schedule comes back as ordinary income. You need to keep track of it. It may not be worth starting a business to tweak your taxes, especially if you are trying to avoid making income. But if the circumstances are right, it may be an option.

 

[pb4uski]

^^^^ a little off topic methinks.

 

[Clone]

^^^^ a little off topic methinks.

How so? The depreciation comes right off the income, thus allowing you to tweak the AGI amount. Or am I missing something?

 

[pb4uski]

We are talking about actions that one could take in 2018, before your return is filed, to reduce your 2017 taxable income.

How do you do that with Sec 179?

 

[bingybear]

+1.... luckily no subsidies here so not a big issue for us but for those near the subsidy cliff a HUGE issue.

So in that case you shoot a bit low. Difference being on the wrong side of the cliff ...huge

Difference being 1k under the cliff... small compared to being just under the cliff. What is it ... about $100?

 

[Clone]

How do you do that with Sec 179?

I need to purchase the capital item in 2017. Let's say a $10,000 piece of machinery. When I do my taxes, I can select how much to use for sec 179 (immediate depreciation). If I do no sec 179, then the capital purchase will create a 15% deduction on a 7 year MACRS schedule, and I get a $1500 business deduction. If I put it all on 179, then I get a $10,000 business deduction.

In my case, this flows from line 14 to line 34 on Schedule F (farming), which then goes to line 18 on the 1040. Any variance in that amount will directly impact the AGI. I do not use Schedule C (business), but on that form it looks like depreciation is line 13. The instructions indicate that you can also use 179 depreciation. So line 13 flows through to Net profit or loss, which ends up on line 12 on the 1040. Direct impact on AGI.

The decision on how much to depreciate is made when you file your taxes. The OP was asking for any other ways to dial in AGI. It is a bit of work, but for folks with some type of a business interest, this is legit.

 

[RunningBum]

So in that case you shoot a bit low. Difference being on the wrong side of the cliff ...huge

Difference being 1k under the cliff... small compared to being just under the cliff. What is it ... about $100?

Well, up til now, with the recharacterization option, you have two choices if you want to get close:

1) Convert more than you have room for under your cap in the current year, early in the year so you can get a full year benefit of growth in your Roth.. Takes almost no thought up front. When you do your taxes early in the next year, do the slight amount of work to decrease your Roth contribution in the tax program to get the results you want. Then do the work to fill out the form to do the recharacterization, which is busy work.

2) Figure out all of your income for the year before you get any 1099s. This means waiting for the last mutual fund distribution, and making sure you don't forget and interest or other income, and figure out what else gets added to or deducted from MAGI if the subsidy is your goal, or what all of your deductions will be if staying within the 15% bracket is your goal. Basically you are doing most of the work of your taxes in late December, and then again for the official return early the next year. And you won't be able to do the final conversion until late December, so you're either doing that early conversion, staying safely under your cap, and then a second one late in the year, or you're losing almost the full year of growth in the Roth.

There's work in both, and it's not the same, but #1 seems like less work, plus you can get it exactly right instead of having to settling for close.

 

[pb4uski]

I need to purchase the capital item in 2017. Let's say a $10,000 piece of machinery. When I do my taxes, I can select how much to use for sec 179 (immediate depreciation). If I do no sec 179, then the capital purchase will create a 15% deduction on a 7 year MACRS schedule, and I get a $1500 business deduction. If I put it all on 179, then I get a $10,000 business deduction.

In my case, this flows from line 14 to line 34 on Schedule F (farming), which then goes to line 18 on the 1040. Any variance in that amount will directly impact the AGI. I do not use Schedule C (business), but on that form it looks like depreciation is line 13. The instructions indicate that you can also use 179 depreciation. So line 13 flows through to Net profit or loss, which ends up on line 12 on the 1040. Direct impact on AGI.

The decision on how much to depreciate is made when you file your taxes. The OP was asking for any other ways to dial in AGI. It is a bit of work, but for folks with some type of a business interest, this is legit.

No doubt it is legit.... and I agree that in 2018 you could chose Sec 179 or MACRS... and it is arguably on-topic but not by a lot. The other problem is that it isn't flexable like recharacterizations are since using your example it is either $10,000 or $1,500 but if the OP needs a $3,000 reduction then it doesn't work.

It is like trying to make a finish cut in a nice piece of cherry wood with dull chain saw.

 

[Clone]

The other problem is that it isn't flexable like recharacterizations are since using your example it is either $10,000 or $1,500 but if the OP needs a $3,000 reduction then it doesn't work.

You can elect to 179 $1800 of the $10,000. The balance ($8200) goes on your 7 year depreciation schedule. So then you would also get approx 15% of the $8200. So a total depreciation for 2017 of $1800 + $1230 or $3030. (You need to use the form, because the 15% is actually 14.7% or something, and sometimes there are adjustments for partial year stuff. But you can vary the amount that you claim on 179, and walk the AGI to the number you need. By purchasing a $10,000 piece of equipment that is eligible for depreciation, you know you will be able to adjust anywhere from around $1,500 to $10,000 in depreciation expense.

I do not buy machinery to get a tax deduction, I buy machinery that I use on the farm. I do adjust how much is placed on 179 or on a normal depreciation schedule to tweak my taxes. It isn't for everyone, but as the MBAs say- it is one of the levers I can pull.

 

[SecondCor521]

Thanks all for the excellent replies.

Thanks for staying on topic.

As for Section 179, that's the sort of out-of-the-box thinking that I was hoping to hear about. In my particular situation I can't make it apply to me, but it may be helpful to someone else.

Thanks especially to those who quoted the relevant portion of the proposed bill. I read it the same way, that a recharacterization in early 2018 of a 2017 conversion should be allowed, and since the applicable IRAs are at Vanguard I feel much safer with option A.

I'm also probably going to do a combination of C and D - try to get figure my AGI as closely as possible and do the conversion in December and convert a little more than my target, then do a t-IRA contribution to dial it in exactly.

In my case I have income this year that I have to figure out if it counts as earned income or not.

I agree also with whomever made the point about cliffs. ACA subsidy cliffs are one thing; in my case I am aiming for a zero EFC for FAFSA, which also has a cliff.

The tricky thing is that the bill is obviously going through changes and those changes may impact what I do over the next 8 weeks or so. And the consequences for being wrong are somewhat high I think, although I need to research that as well, since I would go into a zero-assets level test above the zero EFC AGI.

Thanks again all! (Continued comments welcome)

 

[43210]

You can contribute to IRAs until mid-April the following year. So you can fine tune AGI with IRA contributions after you know all your numbers.

 

[pb4uski]

^^^^^ Deductible IRA contributions work only if you have earned income.... if you are fully retired you have no earned income so the above doesn't work.

 

[43210]

^^^^^ Deductible IRA contributions work only if you have earned income.... if you are fully retired you have no earned income so the above doesn't work.

Correct. One needs earned income.