The mechanics of Traditional IRA to Roth IRA transfers

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The mechanics of Traditional IRA to Roth IRA transfers

Post by walkinwood » Sat Jun 27, 2009 9:19 am

I will have very little income this year, so am planning to convert some of my traditional IRA funds to a Roth IRA and am hoping that people who have done this before can share some insights. If you could comment on my thoughts below, I would appreciate it. I am sure there are many others in my situation this year.

- When is the best time to do this?
I guess its best to set up the Roth way before the end of the year, but move funds there only at the very end of the year when you have a firm idea of your income (earnings + dividends + distributions). Can you set up a Roth IRA with the intent of funding it later in the year?

- What tool do you use to determine the optimum amount to transfer?
The preliminary 2009 tax software should be out by December, so I think that's the best tool to use. It would allow you to determine the impact on other aspects of the tax code like deductions or credits.

- What are the implications of transferring funds from a Traditional IRA that also has after-tax contributions?

Are there other aspects that I need to think about?

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Post by dave.d » Sat Jun 27, 2009 9:53 am

If there are amounts that you are certain you'll be able to move, making a transfer or conversion of those amounts earlier in the year will, assuming positive returns, allow you to avoid taxes on those returns.

Also, I think is possible to make a conversion and then undo it in whole or in part later in the year. If you had investment losses after doing a conversion, it may even be possible to reverse and redo, thus reducing your income by the amount of the loss.

So I think there is less reason to wait than you think.
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Post by livesoft » Sat Jun 27, 2009 10:04 am

Some of this was discussed in-depth in the WSJ journal article cited here

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Post by walkinwood » Sun Jun 28, 2009 10:16 am

Thanks Livesoft. It answered my questions.

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Post by Still Learning » Mon Jun 29, 2009 10:49 pm

We went through this last year for the same reason - to convert as much to Roth IRA but stay in the 15% bracket

A few things from our experience that may help:

- my tax estimate was off because I didn't fully understand rules for determining the non-taxable amount of the conversion. The fraction of the conversion that is after tax money is determined as follows:
after tax contributions of all traditional IRAs divided by (yearend value of all IRAs (Traditional, SEP, & SIMPLE) + conversion amount).

- The yearend values tripped me up. This was even more of an issue because we also rolled over part of my 401k to my Traditional IRA late in the year. The net effect was more of the conversion was taxable than I had estimated.

- The conversion pushed our income into the 25% bracket, so after we finished our tax return we recharacterized part of the conversion to get back in the 15% bracket. After the recharacterization numbers came from Vanguard we finalized and submitted our tax return.

A bit of extra work, but most of it was figuring out the process and the rules.

Will be doing the same for the next few years and convert chunks of our Trad IRA and 401k to Roth


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Post by kaneohe » Tue Jun 30, 2009 8:16 am

this is from livesoft's link but worth a separate entry for emphasis........would have helped many last yr when values fell.....

It’s also a good idea to put converted holdings in a new account, rather than an existing Roth. Here’s why: If the value of your converted assets falls further—after you have paid taxes on their value—you can change your mind, “recharacterize” the account as a traditional IRA, and, in turn, no longer owe the tax. Later on, you could reconvert the assets to a Roth again. (See IRS Publication 590 for the timing details.) This dilutes the tax benefit if you’ve combined those converted assets with other Roth holdings that have appreciated in value.

In fact, you might consider opening a separate Roth for each type of investment you make with the converted money. That way, you could “cherry-pick the losers,” recharacterizing investments that perform poorly, suggests Mr. Slott. Let’s say you made two types of investments—one that doubled in value and another that lost everything. If those investments were in the same Roth, the account value would appear unchanged. But if they were in separate accounts, you could recharacterize the one that suffered—and allow the one doing well to continue appreciating in value as a Roth..

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