ROTH Conversion

[DR1959]

I own 401k, Traditional IRA, Rollover IRA, Non Deductible IRA.

I know I am not a good candidate for a backdoor IRA due to the amount of tax I would have to pay on the Traditional IRA's, so my question is not there.

I am thinking about doing a Roth Conversion. Are the same tax rules associated with backdoor in place for that? Will I pay tax only on the amount I conver.

IE; I have $500K traditional IRA. I convert $100K to ROTH. I pay tax on only $100K? Or like the backdoor will I have to pay based on a percentange of all IRA's?

Make Sense?

 

[timbervest]

You only pay taxes on the amount your convert.

However, do you have any post tax contributions (basis) in your IRA's? If so you can roll the taxable portions of your IRAs into the 401k and then convert the post tax basis to Roth. Once you have no taxable IRAs you can contributed through the Backdoor Roth

 

[38Chevy454]

X2 on timbervest's comment. Just think of the conversion as if you are doing a withdrawal from pre-tax account. You only pay on the amount you withdraw. So in your example, $100K is what would be taxable.


Depending on your age, you may have to use other funds to pay the tax, rather than use some of the withdrawal to pay the tax. In other words, if you are less than 59.5, if you withdraw $100K from the pre-tax, and want to use say $20K out of that $100K to pay for taxes, that $20K is subject to the 10% penalty. So to avoid that 10% penalty, you need to get the $20 for tax payment from somewhere else.

 

[cathy63]

I own 401k, Traditional IRA, Rollover IRA, Non Deductible IRA.

From the IRS' point of view, your Traditional IRA, Rollover IRA, Nondeductible IRA are all traditional IRAs, and they will be added together and treated as if they are one giant account.

Also from the IRS' point of view, there's really no such thing as a backdoor Roth contribution and there are no special rules for it. It's just an ordinary after tax contribution to a traditional IRA followed by an ordinary Roth Conversion. It just so happens that this will have no tax consequences if the taxpayer starts with a $0 balance in all his IRA accounts.

In your case, since you have non-deductible contributions in your IRAs, if you convert $100K, you will not pay tax on the entire amount. The tax will be calculated proportionally across the pre-tax and after-tax amounts in the IRAs and you will report that calculation on form 8606 on your 2020 tax return. You don't actually have to move money proportionally from all three accounts, the taxes will be the same no matter which account the money comes out of.

 

[DR1959]

You only pay taxes on the amount your convert.

However, do you have any post tax contributions (basis) in your IRA's? If so you can roll the taxable portions of your IRAs into the 401k and then convert the post tax basis to Roth. Once you have no taxable IRAs you can contributed through the Backdoor Roth

I am 61.5yo so no issue with the penatly.
But I am confused by this comment.
All my IRA's are pre-tax. Only post tax is one Non-deductible IRA.
I was told if I do a backdoor roth, I would have to pay tax on too much since it takes into account all pre-tax. My post tax amount is very low.

 

[timbervest]

I am 61.5yo so no issue with the penatly.
But I am confused by this comment.
All my IRA's are pre-tax. Only post tax is one Non-deductible IRA.
I was told if I do a backdoor roth, I would have to pay tax on too much since it takes into account all pre-tax. My post tax amount is very low.

First of all, I am not a tax attorney and nothing posted here should be taken as tax or investment advice.

Just from my own personal experience, I had an IRA with both pre-tax and post-tax contributions plus tax deferred earnings. Several years ago I rolled all of the pre-tax contributions plus the tax deferred earnings into my 401k. No tax consequences. That left only my post tax contributions in the IRA which I converted to a ROTH. Again no tax consequences. Since I still have earned income, each year I make an after tax contribution to my traditional IRA and immediately convert it to a Roth. Note that Roth conversions do no consider 401k balances but only all of your IRAs. Since the only IRA I have is the one that just accepts my after tax contribution, it is all non taxable.

Everyone's situation is different but this works for me. Only works if you have an active 401k that accepts rollovers.

 

[DR1959]

Yeah I am not active in my 401k, so I can't do that.
So my option is to convert the traditional to roth and pay the tax.

Even with your 401k, you will still pay tax when you pull it out.
All you did was change the classification of your IRA so you can do the backdoor, which really doesn't help me much at this point. No income!

 

[pb4uski]

I'm pretty sure that even though you have separate IRAs for deductible and non-deductible that for the purpose of Roth conversons they are combined in determing the taxable portion of the conversion.

 

[rkser]

I'm pretty sure that even though you have separate IRAs for deductible and non-deductible that for the purpose of Roth conversons they are combined in determing the taxable portion of the conversion.

+1

This is the way I did it last year on Turbo Tax -

I added up all my IRAs , I have my total post tax contributions written down which I keep a log of & also my prior filed 8606s keep a log of.

( I cannot convert only the post tax $ to Roth & pay no tax.)

The way I understand is , say if $2 are post tax $ in the grand total of $10 in all my IRAs, so 1/5 th is the ratio of my post tax $ .

If I convert say $5 to roth, I do not pay tax on 1/5th of $5 i.e..$1 & pay tax on $ 4.

I hope it is clear, & I did not confuse the issue further.

 

[kaneohe]

OP can try filling F8606 to see how the calculation works. There are only a few steps in the calculation.

 

[gauss]

OP can try filling F8606 to see how the calculation works. There are only a few steps in the calculation.

+1

The other option that I think is really useful and prudent is to only convert a very small amount, say $1000.00, the first year. Subsequent conversions can be done in later tax years once the individual has had a chance to file the tax return containing the small conversion.

Following this process will allow you to validate that they indeed understand how this works and if a "worse case" mistake/misunderstanding happens, they would only owe tax on $1,000 as opposed to the full balance.

-gauss

 

[DR1959]

That example is confusing, where is the $4 from?

My numbers are much different.
So I assume 401k is out of it.

Say I have IRA - 500
Non Ded IRA (post tax) 40

If I do 100 of the 500 into a ROTH, I will pay tax on 100?

 

[cathy63]

That example is confusing, where is the $4 from?

My numbers are much different.
So I assume 401k is out of it.

Say I have IRA - 500
Non Ded IRA (post tax) 40

If I do 100 of the 500 into a ROTH, I will pay tax on 100?

No. In this example, you have to add your IRAs together for a total of $540, $40 of which is your basis. $40/$540 = 7%.

If you convert $100, then you will pay tax on 93% = $93 and your basis will be reduced by the remaining $7, so it will be $33 going forward.

Note that even if you convert $100 today, you'll be doing this calculation based on the account values on Dec 31, 2020.

 

[Alan]

No. In this example, you have to add your IRAs together for a total of $540, $40 of which is your basis. $40/$540 = 7%.

If you convert $100, then you will pay tax on 93% = $93 and your basis will be reduced by the remaining $7, so it will be $33 going forward.

Note that even if you convert $100 today, you'll be doing this calculation based on the account values on Dec 31, 2020.

This is exactly my understanding as well. The new basis for use in future years is recorded on the 8606.

 

[kskmfire]

In my experience, the amount w/d from the tIRA is considered ordinary income. I receive a 1099-R for the amt w/d. I can state on my tax program whether or not that was rolled over.
You may want to listen to the Retirement and IRA Show podcast. Look for the term "mixing coffee and cream" on how they analyze the pre/post tax funds.

 

[pb4uski]

No. In this example, you have to add your IRAs together for a total of $540, $40 of which is your basis. $40/$540 = 7%.

If you convert $100, then you will pay tax on 93% = $93 and your basis will be reduced by the remaining $7, so it will be $33 going forward.

Note that even if you convert $100 today, you'll be doing this calculation based on the account values on Dec 31, 2020.

+1 IF his basis in the $40 non-deductible IRA is $40.... but he just said that his non-deductible IRA was $40 but not what his basis (contributions) were.

So if his non-dedcutible contributions were $25, then it would be 95% rather than 93%.

 

[cathy63]

+1 IF his basis in the $40 non-deductible IRA is $40.... but he just said that his non-deductible IRA was $40 but not what his basis (contributions) were.

So if his non-dedcutible contributions were $25, then it would be 95% rather than 93%.

Yes, you're right. The non-deductible IRA has probably grown since it was established, so he needs to know its basis, not it's current value.

 

[fh2000]

No. In this example, you have to add your IRAs together for a total of $540, $40 of which is your basis. $40/$540 = 7%.

If you convert $100, then you will pay tax on 93% = $93 and your basis will be reduced by the remaining $7, so it will be $33 going forward.

Note that even if you convert $100 today, you'll be doing this calculation based on the account values on Dec 31, 2020.

I believe this is related to Pro-rata rule.

I am starting Roth conversion this year the first time. I want to covert enough funds to meet ACA income requirement. So, the total funds converted are from one Non-deductible IRA (I have the 8606 to show after tax portion), one Traditional IRA, and some from 401K (Vanguard will create a new Roth account for this).

I am getting all my Non-deductible and TIRA accounts down to $0 by the end of this year, in order to avoid tracking Pro-rata base in the future. So, using the above example: I will be converting all of the $540 to Roth, and pay taxes for $500 from it.

 

[Alan]

I am getting all my Non-deductible and TIRA accounts down to $0 by the end of this year, in order to avoid tracking Pro-rata base in the future. So, using the above example: I will be converting all of the $540 to Roth, and pay taxes for $500 from it.

Good move. This is exactly what I did before touching my 401(k), then the following year rolled my 401(k) to an IRA and continued doing Roth conversions.

 

[rkser]

As an aside,

How do I know how much of IRA to convert into a Roth this year or any particular year ?

Is there a software which can project my taxes when my RMDs start in about 8 yrs ?

Is there a software which guides me to keep my taxes even or approximately in the same Income Tax Bracket in the coming years. I do not have any earned income, so all

I mean, nobody wants high taxes in some yrs & low in others, please advise.

I know to fill up the tax bracket I am in for the year with the extra income from Roth Conversions. Is there a way to further narrow the taxes down say 8 yrs from now.

Thank you inadvance

If my post is not appropriate for this thread I apologize & I can start another. I thought it was related.

 

[Whisper66]

As an aside,How do I know how much of IRA to convert into a Roth this year or any particular year ?is there a software......

The Extended version of I-ORP is helpful. It is free web based product and discussed on this board occasionally. Has extensive help screens to read as needed to understand it's proper use. I use it yearly to optimize lifetime taxes by considering it's recommendation for Roth conversions each year. It provides a table of estimated taxes and also estimates RMD's. Also suggests how much money to use each year for expenses from taxable, tax deferred and tax free acounts. See https://www.i-orp.com/EmptyRow/Extended.html

 

[Alan]

I use TurboTax to file my taxes and it has an easy to use form to estimate next year’s taxes where you can change or add amounts. However I always save a test version of my return and can play with that in great detail. The next year’s version is usually out by December so can get an even more accurate estimate of taxes.

I’m sure you can do similar with just about any tax prep software.

 

[rkser]

Thank you, I will try the extended I-ORP.

I just purchased membership in NewRetirement, it does a decent job of organizing your finances & indicating your level of expenses in retirement are sustainable but does NOT project the taxes in the future with the RMDs in.

I have to look at Maxifi also.

Thanks

 

[deserat]

If you are spreadsheet inclined and are willing to put some time into it, the Retiree Portfolio Model downloadable spreadsheet will also let you model Roth conversions (along with a bunch of other actions) in one's portfolio. If you choose the calculated method, it functions similarly to i-ORP where conversions are done over the shortest time possible. If you choose the manual approach, you can see how much you can convert based on tax brackets and spread it out for tax minimization.

Note - that sheet is a *beast* but once you get used to it/learn it, it is very powerful for modeling many situations.

https://www.bogleheads.org/wiki/Retiree_Portfolio_Model

 

[rkser]

I just got the result from i-ORP after I completed the detailed input form. I am unable to understand a lot of it,
The contact orplanner@gmail.com, does not work, so I am unable to send them a email.

Unfortunately I am not good with spread sheets & excel, but thanks.

I am looking for & hope I can find a ready made easier software I can buy to get my answers about when & how much to Roth convert to avoid the Tax Torpedo come RMD time.