I am planning on pretty aggressive Roth conversions again this year. I am planning to do multiple conversions but hate paying quarterly taxes. Can someone explain the strategy to do a year end conversion for taxes to avoid having to pay estimated taxes throughout the year?
Paying taxes on Roth conversions
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RetireBy90
Thinks s/he gets paid by the post
One option is to have taxes withheld from conversion amount. This will have the effect of less $$ in your tax free Roth but will allow you to avoid estimated payments.
I have followed another member or 2 that figures tax payments due each December and does a withdrawal from a traditional IRA with 100% withholding so that no penalty is due for not making quarterly payments. I’m making TIRA withdrawals for some living expenses so I consider it one more expense. This works wether liability is due to Roth conversion or any other reason.
I have followed another member or 2 that figures tax payments due each December and does a withdrawal from a traditional IRA with 100% withholding so that no penalty is due for not making quarterly payments. I’m making TIRA withdrawals for some living expenses so I consider it one more expense. This works wether liability is due to Roth conversion or any other reason.
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There are a couple things you can do which ensure no penalty or interest. One is the safe harbor rules. Check them out. Assuming your AGI is greater than you have to pay in 110% of last year's tax. Make sure your State handles it the same way. When you do your Roth conversion, you can use the withholding as RetireBy90 indicated. If you understand your safe harbor number you can only have the bare minimum withheld in order to meet safe harbor and then pay the tax out of your taxable account by April 15th.
Another refinement of this is to do a separate withdraw from your IRA at 100% withholding. Again, just do the minimum necessary to meet safe harbor. Then, within the 60 days, put that money back in your IRA from your taxable account.
These steps assume that you want most, if not all, of the money to pay taxes to come from your taxable account.
Another refinement of this is to do a separate withdraw from your IRA at 100% withholding. Again, just do the minimum necessary to meet safe harbor. Then, within the 60 days, put that money back in your IRA from your taxable account.
These steps assume that you want most, if not all, of the money to pay taxes to come from your taxable account.
SecondCor521
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For those folks doing Roth conversions under 59.5, be aware that any withholding for taxes from a Roth conversion made before you turn 59.5 and not replaced within 60 days will incur a 10% early withdrawal penalty on top of the income taxes due.
If you're over 59.5 (couldn't tell from OP's profile), then you can ignore this aspect of it.
If you're over 59.5 (couldn't tell from OP's profile), then you can ignore this aspect of it.
Is it literally that simple? What kind of tax forms have to be filed for this type of transaction? I'm not 59.5 yet, but I like this option.
pb4uski
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It is that simple. The only thing is you can only do this once every 12 months.
And you don't have to wait 60 days, you can do it the same day and effectively convert an estimated payment that is counted on the day it is made to an estimated payment that is considered as having been paid throughout the year because it is a withholding.
And you don't have to wait 60 days, you can do it the same day and effectively convert an estimated payment that is counted on the day it is made to an estimated payment that is considered as having been paid throughout the year because it is a withholding.
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Sunset
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This seems to say conversions are not limited to the 1 per 12 month period (bolded by me)
And that the rule was created by the court case about folks doing multiple 60 day rollovers from IRA to IRA to have tax free money available:
https://www.irs.gov/retirement-plans/plan-participant-employee/rollovers-of-retirement-plan-and-ira-distributions
IRA one-rollover-per-year rule
You generally cannot make more than one rollover from the same IRA within a 1-year period. You also cannot make a rollover during this 1-year period from the IRA to which the distribution was rolled over.
Beginning after January 1, 2015, you can make only one rollover from an IRA to another (or the same) IRA in any 12-month period, regardless of the number of IRAs you own (Announcement 2014-15 and Announcement 2014-32). The limit will apply by aggregating all of an individual’s IRAs, including SEP and SIMPLE IRAs as well as traditional and Roth IRAs, effectively treating them as one IRA for purposes of the limit.
The one-per year limit does not apply to:
rollovers from traditional IRAs to Roth IRAs (conversions)
trustee-to-trustee transfers to another IRA
IRA-to-plan rollovers
plan-to-IRA rollovers
plan-to-plan rollovers
SecondCor521
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^ The Roth conversions themselves can be done multiple times per year, but the part of the thread you're quoting refers back to someone doing a traditional IRA withdrawal with 100% withholding, then replacing the funds within 60 days from taxable back into the traditional IRA. I'm pretty sure the IRS would count this 100% withholding transaction set to be an indirect rollover, which are indeed limited to once in a rolling 12 month period of time.
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I did that the end of 2022 - except I waited two days to make sure that the withholding was properly reflected by Vanguard. IIRC it took a little longer for me to be able to confirm the withholding for state income tax. Then I toddled into Fidelity with a check from a taxable account. I will be doing this again to "true up" towards the end of this year.
Koolau
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Quarterlies are a pain but not a big deal. To accomplish your goal of large conversions, it's worth the hassle. As always, its' best to use "spare" cash rather than other tIRA money to pay the taxes. YMMV
imjustawarrior
Dryer sheet aficionado
Here is a discussion from bogleheads
https://www.bogleheads.org/forum/viewtopic.php?p=7731023#p7731023
To summarize:
1. Do direct Roth conversion and withhold enough in taxes to avoid IRS penalties. Withholdings are always timely.
2. From your taxable account move money into your Roth IRA that is equivalent to the amount of taxes withheld in step #1. Indicate that this is an indirect rollover. It cannot be done online at Fidelity or Vanguard. You have to call them.
There is no 12 month restriction.
There is no penalty for being under 59.5.
All money is converted from IRA to Roth IRA.
All taxes are paid out of taxable account.
Withholdings are always timely.
No estimated tax payments needed.
https://www.bogleheads.org/forum/viewtopic.php?p=7731023#p7731023
To summarize:
1. Do direct Roth conversion and withhold enough in taxes to avoid IRS penalties. Withholdings are always timely.
2. From your taxable account move money into your Roth IRA that is equivalent to the amount of taxes withheld in step #1. Indicate that this is an indirect rollover. It cannot be done online at Fidelity or Vanguard. You have to call them.
There is no 12 month restriction.
There is no penalty for being under 59.5.
All money is converted from IRA to Roth IRA.
All taxes are paid out of taxable account.
Withholdings are always timely.
No estimated tax payments needed.
ncbill
Thinks s/he gets paid by the post
unnecessarily complicated.
1. I don't withhold.
2. but instead pay taxes from taxable accounts via electronic transfer just as soon as I convert...there's no need to wait until quarterly estimated tax dates.
none of the above requires any manual interventions from anyone else.
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Assuming you only convert once per year and the sum is somewhat large, then one manual intervention you have is that whoever is preparing your taxes likely needs to file an extra form so that you can annualize your income and avoid penalties.
SecondCor521
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And depending on the amounts and timing of the conversion and the tax payments, even the extra tax form may not avoid penalties.
imjustawarrior
Dryer sheet aficionado
I'm glad that works for you.
One of the nice things about the process I described is that it can be done at the end of the year once one knows the income for the year. That way one can do the Roth conversion up to what ever level makes sense. This avoids penalties and having to use the annualized estimated tax payment method.
ncbill
Thinks s/he gets paid by the post
but statistically you forego tax-free growth in your Roth by waiting so long into the year.
converting at the beginning of the year is the optimal approach based on back-testing.
paying the taxes owed on that conversion contemporaneously via electronic payment is trivial.
as for the annualization method to avoid penalties, my CPA does that, don't the popular tax software packages offer that as well?
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But if the money I'm converting ( in kind transfer) is in a Traditional IRA ( which it obviously is) aren't I still seeing tax free growth of the money?
Am i missing something?
I think what ncbill meant was that the growth in your trad IRA during the year will come out during the end of year conversion as taxable. OTOH, converting it early in the year makes that nontaxable. Maybe not a huge difference, but worth being aware of.
We have 2 pensions, dividends, Roth conversions throughout the year, and some hobby income. We have no withholding and no quarterly estimated payments.
Like others, I withdraw our safe harbor amount from a tIRA each December, instructing Fidelity to withhold 100%. Following January, I repay the IRA from taxable funds and instruct Fidelity to code it as a 60-day rollover. So the original tIRA withdrawal is non-taxable... like it never happened.
In effect, we use taxable funds to pay tax each January for the prior year. But it's deemed to have been withheld equally throughout the prior year. So no worries about underwithholding or filing Form 2210 (AI). The process is simple and the cash flow is quite favorable.
To avoid complications associated with the once-per-year restriction on rollovers, I alternate between my IRA and DW's IRA.
Like others, I withdraw our safe harbor amount from a tIRA each December, instructing Fidelity to withhold 100%. Following January, I repay the IRA from taxable funds and instruct Fidelity to code it as a 60-day rollover. So the original tIRA withdrawal is non-taxable... like it never happened.
In effect, we use taxable funds to pay tax each January for the prior year. But it's deemed to have been withheld equally throughout the prior year. So no worries about underwithholding or filing Form 2210 (AI). The process is simple and the cash flow is quite favorable.
To avoid complications associated with the once-per-year restriction on rollovers, I alternate between my IRA and DW's IRA.
Thx for that explanation. Would have to look at my numbers. My initial thoughts are that my total conversion is a small % of my IRA so would have to look.
ncbill
Thinks s/he gets paid by the post
so no 1099-R gets generated that shows taxable income, as with normal traditional IRA to Roth IRA conversions?
if so, I might consider the above.
even though converting at beginning of year backtests better than waiting until end of year.
January's repayment from taxable goes to which IRA?
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A 1099-R is generated for the December tIRA withdrawal. However, box 2b is checked, indicating that "taxable amount is not determined." Turbo tax will ask what you did with the money. I check the box indicating that I returned it to an IRA within 60 days. On F1040, Turbotax prints the gross distribution amount on line 4a and the taxable amount on line 4b, with the word "ROLLOVER" to explain the difference.
Nothing about this method precludes Roth conversions early in the year. In fact, that's the whole point... make large Roth conversions early in the year, but don't pay tax until January of the following year. You accomplish this with zero risk of underwithholding, no quarterlies, and no need for F2210 (AI) to prove that you were not underwithheld each quarter. Plus you pay conversion tax with taxable funds.
Technically, the January repayment (rollover) can go to any IRA you own. But I always return it to the same tIRA from which I made the December withdrawal.
Koolau
Give me a museum and I'll fill it. (Picasso) Give me a forum ...
I wish I'd known about this back in the day when I was still converting - and paying quarterlies.
Doesn't the withdrawn amount count against your AGI?
I learned about it on this forum 4 or 5 years ago and I've been doing it ever since. Prior to that, I was doing quarterlies, plus F2210 almost every year.
