|
Roth Conversions - Technical Corrections
Written
and edited by Harry Rubins for his clients and
friends.
Not intended as legal or tax advice.
Obtain professional advice before taking action on
this information.
Many of the changes in the technical corrections to the Tax Payer’s Relief Act of 1997
(TRA - 97) and subsequent tax changes concern the conversion of a traditional IRA to the Roth IRA. The changes clarify the details and establish a method to unravel a Roth conversion if the $100,000 adjustable gross income
(AGI) limit is exceeded.
One Roth IRA
Account For Both Conversion And Contributions
Previously Roth IRA conversion funds had to be separated from regular Roth IRA contributions. Now one account can be used for both.
Re-characterized Roth IRA Conversion
Or Contribution
This change
allows an individual to undo a Roth IRA conversion and transfer the funds back to the original IRA by the tax return due date or later with extensions up to October 15th
without penalties or taxes. This is important to an individual who converted and discovers in the following year that they did exceed the $100,000 AGI limit. Any earnings can also be transferred back to the IRA without penalty or tax.
Re-characterization applies to any IRA so that both a traditional IRA and Roth can be reclassified before the tax return due date plus extensions.
Roth
Distribution Ordering Rules
The
distribution ordering rules treat all Roth IRA accounts (conversion & contributions) of a single holder as one
for determining taxation & penalties. Amounts distributed are deemed to come from the following categories of all the Roth accounts in the order listed. The first dollars withdrawn will come from the 1st category until that category is depleted from all the Roth accounts even though it came from only one account. Additional distributions will then come from the 2nd category until depleted, etc. It will be the responsibility of the individual to keep track of the various categories & file IRS form 8606 when distributions are made.
Distribution
Order |
Category
|
| 1st |
Contributory based assets (no tax or penalty)
Annual $2,000 contributions. |
| 2nd |
Converted taxable amounts less than 5 years (taxes & penalty, see below). After 5 year hold for each year's conversion (no tax or penalty). |
| 3rd |
Converted non-taxable amounts less than 5 years (no tax or penalty) |
| 4th |
All tax deferred earnings (taxes & penalty under age 59½ and less than 5 year hold.
Tax and penalty free after 5 year hold & age 59½ or for qualifying events). |
Penalty
For Roth IRA Conversion Withdrawals
During 5 Year Hold
To close a major loophole a new penalty was added:
- The penalty relates to the 5
year holding period. A 10% penalty tax will be made on any distribution of taxable
pre-conversion amounts within the 5 year holding period unless it is for a qualifying event, including age 59½.
|
