Roth IRA Conversion - FAQs
What is changing in 2010 regarding conversions to Roth IRAs?
Can I convert my: IRA, 401k, 403b, Simple IRA, Roth 401k, etc.?
Who is eligible for a Roth Conversion?
What if I make a partial conversion?
I already have a Roth IRA account. Do I need a new Roth IRA account for the conversion?
Can I move assets instead of liquidating?
What about Required Minimum Distributions (RMDs)?
Before 2010, only individuals with modified adjusted gross income (MAGI) of $100,000 or less could convert. (Married Separate filers were also limited) At the end of 2009, income limits for conversions (not contributions) will be lifted. All individuals wishing to convert from a Traditional IRA (including funds that have been rolled over from a qualified plan) to a Roth IRA may do so without income or filing-status limitations. If you convert, you may also elect to defer income from the conversion to 2011 and 2012. Only conversions made during 2010 are eligible for the income deferral opportunity.
What about Required Minimum Distributions (RMDs)?
Yes. You may also roll from an employer plan to a Traditional IRA and then convert to a Roth IRA. For Simple-IRA holders, rollovers or conversions are not allowed until a 2 year holding period,
starting with the initial deposit made, has been met.
Before 2010, only individuals with MAGI of $100,000 or less can convert. After 2009, income limits are lifted for those wishing to convert.
Yes. Conversion income is subject to taxation at ordinary income tax rates. Form 1099-R will be issued for conversion based on values at date of conversion. Withheld funds used to pay your income tax are considered taxable distributions – subject to the 10% penalty if you are younger than age 59 ½)
Amounts included in partial conversions are subject to taxation at ordinary income tax rates.
No. Converted amounts must be placed into a Roth IRA. Taxpayers with an existing Roth IRA account will not need to open a new account for this provision, the existing Roth IRA account can receive the conversion assets.
Yes. Conversions can be triggered with in-kind distributions from source account. Your 1099-R will reflect the value of the assets on date-of-distribution for in-kind conversions.
What about Required Minimum Distributions (RMDs)?
Roth IRA owners are not subject to required minimum distribution rules. Beneficiaries of Roth IRAs are subject to RMD rules, but can take advantage of the "stretch" opportunities by taking distributions over their life expectancies.
Tax rates may rise after 2010 when current tax rate schedules "sunset". Without other Congressional action, marginal income tax rates will revert to those in place before 2001 including two top tax brackets of 36% and 39.6% after 2010. Upper tax bracket individuals may choose to recognize the conversion income immediately rather than risk exposing the income to higher tax brackets after 2010.
Individual circumstances will vary. Factors to consider include, but are not limited to: asset values, marginal tax rates, tax-rate hedging, tax-attribute opportunities, etc. Conversion candidates should work closely with a qualified tax advisor to determine when to convert.
Qualified distributions from Roth IRAs are generally free from taxation. Qualified distributions are generally those made after a 5-year holding period and after the individual reaches age 59 1/2 or on account of death, disability or qualified purchase of a first home.
Removal of the income limit on Roth Conversions is legislative and is scheduled to continue beyond 2010. Deferral of Conversion Income to 2011 and 2012 is available only to electing taxpayers making conversions in 2010. Conversions made after 2010 will not be eligible for deferred reporting of conversion income.
Non deductible contributions (basis) for an IRA holder are aggregated which means basis is deemed to carry a pro-rata allocation in relation to the entirety of the holder's IRAs. Basis cannot be segregated into one account. Distributions of non-deductible contributions are allocated pro-rata in relation to all of the holder's IRAs. Conversion income will be subject to income tax in terms consistent with the pro-rata allocation rules for non-deductible contributions. Subject taxpayers should coordinate carefully with a qualified tax advisor for use of this strategy.
In the year of conversion, amounts converted will be reported on Form 1099-R. Clients over age 59 1/2 will receive a 1099R with IRS code 7. Clients under age 59 1/2 will receive a 1099R with IRS code 2 (Early Distribution). Please note if you are under age 59 1/2 and you elect to have tax withheld for your conversion, amounts withheld are treated as premature distributions subject to the 10% penalty for early distributions. The 1099R for this portion of the distribution will reflect IRS code 1 (premature distributions). Conversion candidates should be aware that 2010 deferral elections (to 2011 and 2012) and pro-rata allocation of non-deductible contributions to the conversion income are elements of the individual income tax return engagement. Conversion candidates should coordinate closely with a qualified tax advisor to manage these concerns.
Distributions from employer plans aren’t necessarily subject to aggregation and pro-rata allocation rules governing IRAs. Accordingly, conversion candidates may have opportunities to manage distributions from the employer plan to segregate the taxable and non-taxable portions. Consult with your tax advisor and your plan administrator to determine if you qualify.
IRA Custodians don't track the individual's non-deductible contributions. No adjustments will appear on 1099-R for distributions of non-deductible amounts. Taxpayers with non-deductible IRA contributions file Form 8606 with the individual income tax returns to establish and maintain the record of amounts so contributed. This same information is used to determine the taxable portions of distributions.
Yes. After conversion, Roth IRA contributions can be made by eligible taxpayers. Roth Contributions (not conversions) continue to be subject to general limitations including earned income requirements and limitations of MAGI.
Yes. Qualifying taxpayers may continue making contributions to Traditional IRAs after converting. IRA contributions will continue to be subject to general limitations including earned income requirements, age and limitations of MAGI.
Begin with adjusted gross income and apply the following "modifications":
Additions:
- Deductions claimed for a regular contribution to a traditional IRA.
- Deductions claimed for student loan interest or qualified tuition and related expenses.
- Income excluded from Form 1040 under foreign earned income exclusion provisions.
- Exclusions or deductions claimed for foreign housing.
- Interest income from series EE bonds excluded under qualified higher education expense provisions.
- Employer-paid adoption expense excluded from Form 1040.
- Amount claimed as domestic production activity deductions.
Less:
- Conversion Income Exclusion
(Conversion income reported when converting from a traditional IRA to a Roth IRA is excluded from MAGI.)
Strategies for paying the income taxes from funds outside of the IRA appear to provide the best opportunity for the investments to grow and "stretch". Taxpayers should consult closely with a qualified tax advisor to determine how best to address this question. Those paying tax on conversion income from other assets can experience a reduction in their taxable estate.
Yes by means of recharacterization. A taxpayer has until the due date for the income tax return (including extensions) following the year of conversion to complete a recharacterization back to a Traditional IRA.
Beneficiaries of a Roth IRA are subject to minimum distribution requirements. When you die, your Roth IRA is inherited by your designated beneficiaries who begin receiving tax free RMD’s which can be 'stretched' over the beneficiary's expected lifetime.
- Taxpayers who can afford to pay the tax on converted accounts from outside of the IRA assets.
- Taxpayers who anticipate being in a higher tax bracket in retirement than they are currently or who don't expect a decline in effective tax rates during retirement.
- Taxpayers with significant amount of time before reaching retirement age (allows longer period of tax free growth to recoup conversion costs).
- Taxpayers with investments well in excess of core retirement needs who do not expect to spend meaningfully from IRA assets in retirement.
- Taxpayers who do not plan to leave IRA assets to charity.
Recharacterize. If the converted assets (including earnings or loss) are transferred back into a traditional IRA by the due date of your return (including extensions), you can qualify for 'recharacterization' treatment. (If you Recharacterize, you cannot reconvert until the following year – deferral opportunities for conversion income will no longer be available.)
Yes. Qualified distributions from the Roth IRA cannot commence until the 5-year holding period is satisfied. Taxpayers in this circumstance may wish to consider the opportunities of a Partial Conversion.
No. Beneficiary IRAs are not eligible for Conversion to Roth IRAs.
No. Required Minimum Distributions from your Traditional IRA are not eligible for conversion to your Roth IRA. If you are subject to RMD, you are eligible to take your RMD as a distribution then to convert the rest to Roth (note, the 5 year rule applies to the Roth after conversion – consider a partial conversion if you need to access the funds immediately).