Ineligible Roth Contributions

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baseball2horse
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Joined: Wed May 09, 2018 1:38 pm

Ineligible Roth Contributions

Post by baseball2horse » Fri Sep 14, 2018 10:18 am

Hello,

So I somehow thought that the limits for Roth contributions were based on earned income and not gross income. My regular salary is well under the limit so I assumed I was good to contribute to Roth. However I have a lot of capital gains this year due to selling stock for a house down payment putting my gross income well over the limit.

What is the best way to solve this issue?

I have already contributed about 2.5k into roth. When I asked vanguard they gave me forms to submit an excess contribution withdrawal. Is that the best way to do it? Would I better off characterizing as a non-deductible IRA.

There's also something about leaving the contributions and pushing the extra into the next year? And next year I would be well under the income limits.

Any help is greatly appreciated!

mhalley
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Joined: Tue Nov 20, 2007 6:02 am

Re: Ineligible Roth Contributions

Post by mhalley » Fri Sep 14, 2018 11:55 am

Yes, recharacterize to traditional then put it back into the Roth. I believe you need to wait 30 days after the recharacterization to put it back in the Roth. Most would recommend going ahead with the recharacterization and back door roth approach. Non deductable Ira are not worth the tax reporting hassle in retirement.
If you push it to the next year you will be subject to a penalty of 6% tax.
https://www.betterment.com/resources/ir ... tribution/

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FiveK
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Re: Ineligible Roth Contributions

Post by FiveK » Fri Sep 14, 2018 12:33 pm

If you don't have significant pre-tax IRA balances, recharacterizing to traditional and then doing a Backdoor Roth IRA seems best.

If you do have significant pre-tax IRA balances, going the excess contribution withdrawal route may be preferable.

krafty81
Posts: 26
Joined: Thu Jul 05, 2018 2:01 pm
Location: San Diego, CA

Re: Ineligible Roth Contributions

Post by krafty81 » Fri Sep 14, 2018 1:54 pm

I do backdoor Roth every year but the first time my (former) accountant really screwed up the transaction and I had to refile to get 1K back that I overpaid on state taxes. Just keep an eye on that.

baseball2horse
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Joined: Wed May 09, 2018 1:38 pm

Re: Ineligible Roth Contributions

Post by baseball2horse » Fri Sep 14, 2018 4:12 pm

mhalley wrote:
Fri Sep 14, 2018 11:55 am
Yes, recharacterize to traditional then put it back into the Roth. I believe you need to wait 30 days after the recharacterization to put it back in the Roth. Most would recommend going ahead with the recharacterization and back door roth approach. Non deductable Ira are not worth the tax reporting hassle in retirement.
If you push it to the next year you will be subject to a penalty of 6% tax.
https://www.betterment.com/resources/ir ... tribution/
Not sure what you mean by this. Do you just mean be sure to convert it to a Roth before retiring?
FiveK wrote:
Fri Sep 14, 2018 12:33 pm
If you don't have significant pre-tax IRA balances, recharacterizing to traditional and then doing a Backdoor Roth IRA seems best.

If you do have significant pre-tax IRA balances, going the excess contribution withdrawal route may be preferable.
I have a 401k through work so I am not eligible for a pre-tax IRA.

My understanding is that if I went the excess contribution route I would owe 10% on the earnings? Is that also true of a recharacterization?

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FiveK
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Re: Ineligible Roth Contributions

Post by FiveK » Fri Sep 14, 2018 5:14 pm

baseball2horse wrote:
Fri Sep 14, 2018 4:12 pm
I have a 401k through work so I am not eligible for a pre-tax IRA.

My understanding is that if I went the excess contribution route I would owe 10% on the earnings? Is that also true of a recharacterization?
If you have no pre-tax IRAs (not merely "not eligible this year") then the backdoor Roth IRA process seems perfect for you.

See IRA recharacterization and Backdoor Roth IRA. After reading those it may all be clear. If not (or even if it is), post your best guess at what you should do and why - you'll likely get positive or corrective feedback.

You will owe whatever your marginal tax rate is on earnings from the recharacterized contribution when the entire amount is converted to Roth. Until then, the Roth->traditional recharacterization itself will not be a taxable event.

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Earl Lemongrab
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Re: Ineligible Roth Contributions

Post by Earl Lemongrab » Sat Sep 15, 2018 12:37 am

mhalley wrote:
Fri Sep 14, 2018 11:55 am
Yes, recharacterize to traditional then put it back into the Roth. I believe you need to wait 30 days after the recharacterization to put it back in the Roth.
There is no waiting period. The used to be for recharacterizing conversions, but you can't do that anymore.
This week's fortune cookie: "Your financial life will be secure and beneficial." So I got that going for me, which is nice.

mhalley
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Re: Ineligible Roth Contributions

Post by mhalley » Sat Sep 15, 2018 1:30 am

Thanks for the clarification on the waiting period.

baseball2horse
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Joined: Wed May 09, 2018 1:38 pm

Re: Ineligible Roth Contributions

Post by baseball2horse » Mon Sep 17, 2018 11:05 am

FiveK wrote:
Fri Sep 14, 2018 5:14 pm
baseball2horse wrote:
Fri Sep 14, 2018 4:12 pm
I have a 401k through work so I am not eligible for a pre-tax IRA.

My understanding is that if I went the excess contribution route I would owe 10% on the earnings? Is that also true of a recharacterization?
If you have no pre-tax IRAs (not merely "not eligible this year") then the backdoor Roth IRA process seems perfect for you.

See IRA recharacterization and Backdoor Roth IRA. After reading those it may all be clear. If not (or even if it is), post your best guess at what you should do and why - you'll likely get positive or corrective feedback.

You will owe whatever your marginal tax rate is on earnings from the recharacterized contribution when the entire amount is converted to Roth. Until then, the Roth->traditional recharacterization itself will not be a taxable event.

So I read both articles and I am confused about this part

Recharacterization of Roth IRA conversions made in 2018 or later are no longer permitted.

Reading further it sounds like you can still recharacterize if you are eligible for deductible IRAs, but I'm not. But it also sounds like you just can't recharaterize if it was a conversion?

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FiveK
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Re: Ineligible Roth Contributions

Post by FiveK » Mon Sep 17, 2018 11:28 am

baseball2horse wrote:
Mon Sep 17, 2018 11:05 am
FiveK wrote:
Fri Sep 14, 2018 5:14 pm
baseball2horse wrote:
Fri Sep 14, 2018 4:12 pm
I have a 401k through work so I am not eligible for a pre-tax IRA.

My understanding is that if I went the excess contribution route I would owe 10% on the earnings? Is that also true of a recharacterization?
If you have no pre-tax IRAs (not merely "not eligible this year") then the backdoor Roth IRA process seems perfect for you.

See IRA recharacterization and Backdoor Roth IRA. After reading those it may all be clear. If not (or even if it is), post your best guess at what you should do and why - you'll likely get positive or corrective feedback.

You will owe whatever your marginal tax rate is on earnings from the recharacterized contribution when the entire amount is converted to Roth. Until then, the Roth->traditional recharacterization itself will not be a taxable event.

So I read both articles and I am confused about this part

Recharacterization of Roth IRA conversions made in 2018 or later are no longer permitted.

Reading further it sounds like you can still recharacterize if you are eligible for deductible IRAs, but I'm not. But it also sounds like you just can't recharaterize if it was a conversion?
The law now distinguishes between Roth contributions vs. Roth conversions. You may recharacterize a Roth contribution (e.g., money you took from your paycheck and put in a Roth account), but not a conversion (e.g., money you took from a traditional IRA and put in a Roth account).

Thus you may recharacterize your Roth contribution as a traditional contribution with no problem. Once that money is in the tIRA and you convert it to Roth, then you can't put it back into traditional.

Your eligibility or lack thereof for a deductible tIRA has no bearing on the recharacterization legality.

Does that answer the question or is more needed?

aristotelian
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Re: Ineligible Roth Contributions

Post by aristotelian » Mon Sep 17, 2018 4:58 pm

In your case, since it sounds like it is a one time excess contribution, the simplest option is to leave it as is and pay a 6% excise tax. You will then need to undercontribute by the same amount next year. After that, you are done and you can resume normal contributions.

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