Excess Contribution in Roth IRA

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MoneyNovice
Posts: 1
Joined: Wed Jul 21, 2021 6:11 pm

Excess Contribution in Roth IRA

Post by MoneyNovice »

I need help with understanding the following situation:
TL;DR
Roth 2021 January Roth Contribution: $6000
June 2021 Opened first tIRA with $0 balance
July 1, 2021 Categorized $6000 due to income limits and had gains of $840, total tIRA contibution $6820
July 20, 2021 $6000 Roth Conversion from tIRA, total tIRA $840 (tIRA growht of $20)

I will be making more than the allowable contribution limits for the Roth IRA. A great problem to have. However, I already deposited and made gains on my 2021 contribution. When all said is done I had to recategorize $6000 initial investment from January and calculate and recategorize $820 of Net Attributable Income, into a tIRA. I opened my first tIRA in June, with $0 balance. I did a conversion of the $6000 back into the Roth IRA as part of the backdoor Roth. However, I do not know what to do with the $840 extra dollars, it had gained $20 since I have done this process.
  • What are my options with this $840 of income sitting in a traditional IRA?
    When I moved the $6000 from Roth to tIRA via Characterization and the $6000 tIRA to Roth via conversion, did I miss a step in-between, or did I understand that correctly?
    Can I also convert the $840 from tIRA as a Roth so I can maximize on the Roth's tax efficiency and zero out the account to move forward with future backdoor Roth conversions?
    How will this all look tax wise?
    What happens if I gain $100 while figuring out what to do so the tIRA is now $940, how will that complicate my taxes? Should I wait for the investments to go back down to $820.
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celia
Posts: 12999
Joined: Sun Mar 09, 2008 6:32 am
Location: SoCal

Re: Excess Contribution in Roth IRA

Post by celia »

TLDR

I’m sure your answer is covered in the Backdoor Roth wiki page. It would also help if you tell us what ‘categorize’ means.
A dollar in Roth is worth more than a dollar in a taxable account. A dollar in taxable is worth more than a dollar in a tax-deferred account.
Silk McCue
Posts: 5544
Joined: Thu Feb 25, 2016 7:11 pm

Re: Excess Contribution in Roth IRA

Post by Silk McCue »

Welcome to Bogleheads!

After recategorizing (not categorized) the Roth and earnings to Traditional you could have simply converted the full amount to Roth. Taxes would have been due on the growth above the $6000 had you converted the full amount to Roth. Regardless, you can now convert the current amount remaining in the Traditional IRA tomorrow. Do not withhold taxes on the conversion as that would incur an early withdrawal penalty of 10% of that amount. You will owe taxes on the roughly $840 when you file your taxes next year.

Cheers
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Duckie
Posts: 8307
Joined: Thu Mar 08, 2007 2:55 pm

Re: Excess Contribution in Roth IRA

Post by Duckie »

MoneyNovice wrote: Wed Jul 21, 2021 6:28 pm I will be making more than the allowable contribution limits for the Roth IRA. A great problem to have. However, I already deposited and made gains on my 2021 contribution. When all said is done I had to recategorize $6000 initial investment from January and calculate and recategorize $820 of Net Attributable Income, into a tIRA.
When you recharacterized, who calculated the earnings? You or the IRA custodian? Because it should have been the custodian.
I opened my first tIRA in June, with $0 balance. I did a conversion of the $6000 back into the Roth IRA as part of the backdoor Roth. However, I do not know what to do with the $840 extra dollars, it had gained $20 since I have done this process.
You either convert it (when converting you convert 100% of the TIRA) and pay the taxes on it, or you roll it into your employer plan if they'll take it. You don't leave it in the TIRA because it messes up the process. Personally I'd just convert.
When I moved the $6000 from Roth to tIRA via Characterization and the $6000 tIRA to Roth via conversion, did I miss a step in-between, or did I understand that correctly?
You did it correctly.
Can I also convert the $840 from tIRA as a Roth so I can maximize on the Roth's tax efficiency and zero out the account to move forward with future backdoor Roth conversions?
You not only can, but you should convert it and pay the taxes on it. When using the backdoor method don't use dollar amounts when converting. Always convert 100% of the account. And if in a few weeks some pennies from trailing dividends end up in the TIRA convert them also.
How will this all look tax wise?
What happens if I gain $100 while figuring out what to do so the tIRA is now $940, how will that complicate my taxes? Should I wait for the investments to go back down to $820.
You will pay taxes on the earnings, the amount over the $6000 non-deductible contribution. Right now it's $840. Don't let it get any higher. Convert it now, 100% of the TIRA.

If you need to do the backdoor in the future, use a money market or settlement fund in the TIRA. That way there will be minimal gains and no losses between the non-deductible contribution and the conversion.

Be prepared for the tax forms issue next spring. You will get a 1099-R for the conversion which needs to be entered in the tax-software. Plus you need to input the original Roth IRA contribution, the recharacterization (which triggers a required statement), the non-deductible contribution (which triggers Form 8606), and the conversion (also on Form 8606).
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