Backdoor Roth Conversion

[SkinsFan0521]

Hi,

This is my first time needing to use this strategy and I only have a couple weeks left to figure it all out, so I'm looking for some advice.

Based on 2018 income, my wife & I can each contribute to a Roth IRA, but not the full amount. Let's call it $5,000 each for what we're allowed to contribute. The limit for 2018 was $5,500 each, so we have an additional $500 each that we'd like to contribute for 2018. Neither of us have any traditional IRA at this point. In case it matters, we did over-contribute in 2018, so I need to actually take back the $500 each that we over-contributed.

Our current Roth IRAs are with Fidelity, so I'd like to stick with them to keep all of this in one place. From my understanding, I need to do the following for each of us:

Open traditional IRA & fund with $500
Immediately convert that $500 traditional IRA to a Roth IRA

My questions are:
Can all of this be done online or do I need to get someone involved in helping me out?
Can all of this be done in like the next week or is that timing just never going to work?
Does the $500 that is converted to Roth add to my existing Roth account or is it an entirely new account?
If it's an entirely new account, does that mean that it has its own 5 year wait period until contribution withdrawals are allowed?


Anything else that I'm missing

Thank you for your help!

 

[bingybear]

do you have any traditional IRAs at the moment?

 

[SkinsFan0521]

do you have any traditional IRAs at the moment?

No, neither of us have traditional IRAs at this point.

 

[bingybear]

It can be done online. A backdoor roth is a roth conversion, thus it has its own 5 year rule.
the backdoor roth starts as a TIRA contribution that is followed by a roth conversion. Since you don't have a TIRA, you need to create that account. The roth does not have to be unique. However there are withdraw orders based on when conversions were done and what growth is related to which conversion or contribution.

 

[jazz4cash]

Seems like a lot of effort for just an extra 500 each. Maybe worthwhile to see how it’s done for future conversions, though.

 

[bingybear]

The OP could just do the back door roth for the complete contribution. There is nothing that stops him from doing this. Just because he can do a roth contribution doesn't mean he has to.

 

[SkinsFan0521]

The OP could just do the back door roth for the complete contribution. There is nothing that stops him from doing this. Just because he can do a roth contribution doesn't mean he has to.

True, but my plan going forward is to estimate how much Roth I'll be allowed to make and make monthly contributions up to that amount. Then, do one lump sum at the end of the year for the difference into a Trad. IRA and then roll into the Roth.

The only reason that I'm planning on doing it that way is cash flow & dollar cost averaging. I am not going to have the funds to contribute a lump sum of $12k (total between my wife & I) to the Traditional IRA early in the year and then convert immediately. And I don't want to wait until the end of the year when I will have saved up that money because then I will have missed out on monthly contributions and their possible gains and dollar cost averaging.

Does that sound reasonable or does anybody have a better suggestion?

Thank you!

 

[bingybear]

True, but my plan going forward is to estimate how much Roth I'll be allowed to make and make monthly contributions up to that amount. Then, do one lump sum at the end of the year for the difference into a Trad. IRA and then roll into the Roth.

The only reason that I'm planning on doing it that way is cash flow & dollar cost averaging. I am not going to have the funds to contribute a lump sum of $12k (total between my wife & I) to the Traditional IRA early in the year and then convert immediately. And I don't want to wait until the end of the year when I will have saved up that money because then I will have missed out on monthly contributions and their possible gains and dollar cost averaging.

Does that sound reasonable or does anybody have a better suggestion?

Thank you!

that is fine if that is what your want to do. an option would be to just do back door roths each month so you get your dollar cost averaging.

One benefit of your approach is that you would be able to withdraw the contributions after the one 5 year period while each conversion has to meet its own 5 year rule (until 59.5). All the different 5 year rules and tracking tracking earnings of each can be a pain unless you hold it until you are old enough.

 

[SkinsFan0521]

that is fine if that is what your want to do. an option would be to just do back door roths each month so you get your dollar cost averaging.

One benefit of your approach is that you would be able to withdraw the contributions after the one 5 year period while each conversion has to meet its own 5 year rule (until 59.5). All the different 5 year rules and tracking tracking earnings of each can be a pain unless you hold it until you are old enough.

Thanks for your reply. Yes, I do most likely plan to withdraw contributions before 59.5, so I would like to keep the amount of tracking that I need to do for each one to be kept to a bit of a minimum if possible.

Thanks again!

 

[N02L84ER]

Conversions, like contributions, are based on tax year not actual date of conversion. All conversions during the same tax year are treated as though they happened at the beginining of the year.
"Five-year rule for Roth conversions. ... withdrawals of money from the conversion of a traditional IRA or 401(k) to a Roth IRA are subject to a five-year waiting period to avoid a penalty. The five-year period begins the first day of the tax year in which you converted money."

 

[kgtest]

This is how I do it...

1. Opened Traditional IRA at Vanguard
2. Contribute my max allowed (for me $5500X)
3. Open Roth IRA at Vanguard
4. Complete Conversion to Roth Brokerage
5. Invest in the market by buying ETFs.


Substitute $5000X for your amount you want to convert. *Note any income converted is taxed as regular income, therefore increasing your taxable income liabilities, and furthermore potentially pushing you into a higher tax bracket if you are already near the top of your current bracket.

 

[gauss]

If you already have accounts at Fidelity with online access, I suspect that you could open a new TIRA account there instantly.

I did this with an new Fidelity HSA for both my wife and myself. The only snag was that although DW was joint owner on the brokerage account, she did not have her own online profile setup so we had to do that first. As it turned out, she had an old online profile back from 10+ years ago when her 401k was administered by Fidelity. We just needed a password reset and to accept some new t/c terms, security questions etc that have evolved during the past 10 years.

In summary, try to find the spot on the fidelity site to open a new TIRA. If it asks if you already have account, say yes and then login with your existing credentials.

-gauss

 

[SkinsFan0521]

If you already have accounts at Fidelity with online access, I suspect that you could open a new TIRA account there instantly.

I did this with an new Fidelity HSA for both my wife and myself. The only snag was that although DW was joint owner on the brokerage account, she did not have her own online profile setup so we had to do that first. As it turned out, she had an old online profile back from 10+ years ago when her 401k was administered by Fidelity. We just needed a password reset and to accept some new t/c terms, security questions etc that have evolved during the past 10 years.

In summary, try to find the spot on the fidelity site to open a new TIRA. If it asks if you already have account, say yes and then login with your existing credentials.

-gauss

Yes, I did some of this today...

I created new Tira accounts for both of us.
I couldn't take excess contributions directly from Roth to traditional IRA.
I needed to transfer excess to brokerage (or eyf to bank).
Then, I can transfer {in 3 business days) from brokerage to the new Tira.
I'll then convert Tira to Roth.

I think my only remaining question is about the excess contribution & taxes... These excess contributions were made in 2018 for the 2018 tax year. I now just withdrew them in 2019. There will be gains or losses that Fidelity is going to calculate. Do those gains/losses count for 2018 or 2019 tax year?

Thanks!

 

[SecondCor521]

Do those gains/losses count for 2018 or 2019 tax year?

Thanks!

2018. See my post here, with the relevant quote and IRS cite:

http://www.early-retirement.org/forums/f28/excess-roth-ira-contribution-96434.html#post2195407

 

[SkinsFan0521]

2018. See my post here, with the relevant quote and IRS cite:

http://www.early-retirement.org/forums/f28/excess-roth-ira-contribution-96434.html#post2195407

Thanks for this. How about if I were to recharacterize the contribution from a Roth to a Traditional instead of withdrawing the excess?

So, in my example, what if I recharacterized the $500 excess to a Traditional and then converted that traditional to Roth all for the 2018 tax year? Do I need to concern myself with gains if doing a recharacterization?

 

[SecondCor521]

Thanks for this. How about if I were to recharacterize the contribution from a Roth to a Traditional instead of withdrawing the excess?

So, in my example, what if I recharacterized the $500 excess to a Traditional and then converted that traditional to Roth all for the 2018 tax year? Do I need to concern myself with gains if doing a recharacterization?

With recharacterizations you do not need to worry about gains. Recharacterizations simply make it as though your original contribution (plus any gains or minus any losses) were made to the receiving account in the first place.

If you convert, though, you would pay ordinary income tax in the year of conversion on the value of any amount converted from traditional to Roth. Unless it were non-deductible, in which case you would pay income tax on any income while the funds were in the traditional IRA (which you can make very low by either not investing the funds while they are inside the traditional IRA or do the conversion quickly, or both).

Can you recharacterize from Roth to traditional and then back to Roth? I think so, and I think in that case no taxes would be due on any related gains.

You might need to call Fidelity and/or fill out a form to have them do the recharacterizations; it may not be able to be done online. I no longer have an account with them, but with Schwab and Vanguard these sorts of things usually involve paperwork.

 

[SkinsFan0521]

With recharacterizations you do not need to worry about gains. Recharacterizations simply make it as though your original contribution (plus any gains or minus any losses) were made to the receiving account in the first place.

If you convert, though, you would pay ordinary income tax in the year of conversion on the value of any amount converted from traditional to Roth. Unless it were non-deductible, in which case you would pay income tax on any income while the funds were in the traditional IRA (which you can make very low by either not investing the funds while they are inside the traditional IRA or do the conversion quickly, or both).

Can you recharacterize from Roth to traditional and then back to Roth? I think so, and I think in that case no taxes would be due on any related gains.

You might need to call Fidelity and/or fill out a form to have them do the recharacterizations; it may not be able to be done online. I no longer have an account with them, but with Schwab and Vanguard these sorts of things usually involve paperwork.

Thanks for your reply, I appreciate it.

The recharacterization can be done online. So, I actually filled out the form last night to recharacterize the excess from Roth IRA to (non-deductible) Traditional IRA for tax year 2018. Once that processes (supposed to be within 3 business days), I'll be able to immediately convert that to Roth. Since I'll be doing it right away, there should be no new gains to be taxed other than the gains that have already been made while it was an excess contribution in the Roth. I assume that I'll have to pay tax on those gains (that came over with the recharacterization) when converting from Traditional to Roth, right?

Am I making any sense??

Thanks again!

 

[SecondCor521]

Thanks for your reply, I appreciate it.

The recharacterization can be done online. So, I actually filled out the form last night to recharacterize the excess from Roth IRA to (non-deductible) Traditional IRA for tax year 2018. Once that processes (supposed to be within 3 business days), I'll be able to immediately convert that to Roth. Since I'll be doing it right away, there should be no new gains to be taxed other than the gains that have already been made while it was an excess contribution in the Roth. I assume that I'll have to pay tax on those gains (that came over with the recharacterization) when converting from Traditional to Roth, right?

Am I making any sense??

Thanks again!

Yes, you're making sense.

Glad you can do it online; that is nice.

On your tax question, I'm not sure. I would say that paying taxes on the gains between the original contribution amount ($500?) and the value of the relevant shares on the date that the conversion takes place (plus any associated income and gains) would make sense to me, since the recharacterization makes it as though your contribution was initially made to the traditional IRA rather than the Roth IRA.

I'd read Form 8606 and its instructions *very* *very* carefully and follow what it says. It looks to me like Part I and Part II will apply to your situation.

 

[kaneohe]

that is fine if that is what your want to do. an option would be to just do back door roths each month so you get your dollar cost averaging.

One benefit of your approach is that you would be able to withdraw the contributions after the one 5 year period while each conversion has to meet its own 5 year rule (until 59.5). All the different 5 year rules and tracking tracking earnings of each can be a pain unless you hold it until you are old enough.

As I understand it, OP wants to contribute monthly to a Roth. For those contributions, there is no 5 yr waiting period. Contributions can be withdrawn anytime.

 

[kaneohe]

Conversions, like contributions, are based on tax year not actual date of conversion. All conversions during the same tax year are treated as though they happened at the beginining of the year.
"Five-year rule for Roth conversions. ... withdrawals of money from the conversion of a traditional IRA or 401(k) to a Roth IRA are subject to a five-year waiting period to avoid a penalty. The five-year period begins the first day of the tax year in which you converted money."

I believe you are correct that the conversions in one yr will be treated as a single one for purposes of the 5 yr rule. The one complication might be if
conversions are not made in a timely manner, there may be various gains
that constitute the taxable part of that yrs conversions that will have to be tracked monthly for that yr and combined to get the taxable part of that conversion

 

[bingybear]

As I understand it, OP wants to contribute monthly to a Roth. For those contributions, there is no 5 yr waiting period. Contributions can be withdrawn anytime.

If OP is doing backdoor roths I think their are.
In a backdoor roth the contribution is to a TIRA an then a roth conversion is done. A conversion is is treated different than a contribution.

I agree if the OP is doing roth contributions then only the first contribution has a 5 year rule.

edit--
Note from the OP's original post ---

Open traditional IRA & fund with $500
Immediately convert that $500 traditional IRA to a Roth IRA

There may be something about how multiple conversions are treated in a given year that I'm not aware of.

 

[kaneohe]

If OP is doing backdoor roths I think their are.
In a backdoor roth the contribution is to a TIRA an then a roth conversion is done. A conversion is is treated different than a contribution.

I agree if the OP is doing roth contributions then only the first contribution has a 5 year rule.

edit--
Note from the OP's original post ---



There may be something about how multiple conversions are treated in a given year that I'm not aware of.

There is a 5 yr clock on the first contribution but only for measurement purposes. That money can still be withdrawn any time w/o penalty.
OP wants to do multiple monthly or so Roth contributions, then for the final one only (not eligible for direct contributions) to do backdoor.

 

[bingybear]

There is a 5 yr clock on the first contribution but only for measurement purposes. That money can still be withdrawn any time w/o penalty.
OP wants to do multiple monthly or so Roth contributions, then for the final one only (not eligible for direct contributions) to do backdoor.

I believe the first roth contribution is more than for measurement. Won't you be penalized if take out any of the growth from the first roth with in 5 years.

IIRC I already posted if he does contributions that conversion 5 year periods would not be in effect-- that he could take that out.

 

[kaneohe]

I believe the first roth contribution is more than for measurement. Won't you be penalized if take out any of the growth from the first roth with in 5 years.

.....................................................................

Correct.........but you can withdraw the contributions at any time.
And if you're thinking about earnings/growth........it's more than the 5 yrs.
It's 5 yrs and 59.5 y.o.

 

[slowsaver]

I stopped doing a backdoor roth a few years ago, because I got tired of the 1099-R it generates. I do my own taxes, and it's not that easy to convince the tax software that you are not taking an early distribution. If it was just $500, I would really not want to bother with it.