Help With Fixing 2016 IRA Contributions

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almeida
Posts: 38
Joined: Sat Sep 08, 2012 4:09 pm

Help With Fixing 2016 IRA Contributions

Postby almeida » Sat Mar 18, 2017 4:28 pm

Hi. My wife and I made the maximum contribution to each of our Roth IRAs for 2016. We made the contributions in January 2016. I work and am covered by a retirement plan. My wife does not work. We are both under 50. I'm doing our taxes now and realized that our MAGI is between $184K and $194K, putting us in contribution- and deduction-limit territory. I'm used to not being able to make deductible contributions for myself, but the reduced deduction for her and the Roth IRA contribution limit are new to us. It is likely that we'll be in this range or above in the future.

My understanding of my situation is as follows:

1. I am allowed to contribute to a Traditional IRA, but not to any deduction (source).
2. I am allowed to contribute to a Roth IRA, but my contribution is limited (source).

What should I do? I think the first step is to recharacterize all or part of my 2016 Roth IRA contribution to a Traditional IRA contribution. Say that my Roth IRA contribution is limited to $1000. Should I convert the full $5500 from Roth IRA to Traditional IRA or should I just convert $5500 - $1000 = $4500? If it affects the answer, I do think I need to plan for backdoor Roth contributions in the future.

Our IRAs are all at Vanguard. Can I just call them and have them take care of it? Will I owe any penalties or taxes as a result of this recharacterization?

Because I'm going to be in the same boat for 2017 and beyond, I think my next step is to prepare myself for backdoor Roth contributions. My Traditional IRA is only about $3K now, so hopefully this will be fairly painless. I do have a sizable deductible Rollover IRA though. Another potential complication is that I am starting a new job in a few days. For the new job, I will have a 401(k) at Vanguard, but I don't know if I'll get access before April 18, 2017, if that matters. My old 401(k) is at Schwab and doesn't have great fund options. With that in mind, I think I should:

1. Roll my Rollover IRA to my new 401(k) at Vanguard as soon as possible.
2. Roll my old 401(k) at Schwab to my new 401(k) at Vanguard as some point.
3. Convert my traditional IRA to a Roth IRA, paying any applicable taxes.

Assuming I do 1 before 3, the tax should be small, because I will have moved the deductible Rollover IRA out of the way. I think I would just owe tax on the $3K that's in the Traditional IRA now. The portion that I recharacterized for 2016 would not be taxed. Is that right?

Now, for my wife, I've figured out the following:

1. My wife is allowed to contribute to a Traditional IRA, but her deduction is limited (source).

What I haven't figured out is how much she can contribute to a Roth IRA, if at all. Does the same limit apply to both of us or is there a different calculation for spouses?

Like me, she has Traditional, Rollover, and Roth IRAs at Vanguard. Due to a rookie mistake from many years ago, her Traditional IRA already has a non-deductible portion. As I mentioned, she doesn't work, so she doesn't have a 401(k) to roll in to. Doing a Roth conversion for her would cost us too much in taxes. For her, I think we should just recharacterize whatever part of her 2016 Roth IRA contribution is necessary and live with the deductible/non-deductible mix until she gets access to a 401(k) again.

We've already made the maximum contribution to our Roth IRAs for 2017. I won't know what our Roth IRA contribution limit for 2017 is until I do our taxes next year. Should I already have Vanguard recharacterize all or part of our 2017 Roth IRA contribution to Traditional IRA?

Our habit is to fund our IRAs as soon as possible after January 1. In the future, should we just do Traditional IRA contributions?

I know that's a lot, so I'll summarize my questions:

1. Should I recharacterize all or part of my 2016 Roth IRA contribution?
2. Will Vanguard take care of the recharacterization for me?
3. Will I owe any penalties or taxes as a result of the recharacterization?
4. After rolling my Rollover IRA into my 401(k) and converting my Traditional IRA to a Roth IRA, will I only owe taxes on the deductible portion of my Traditional IRA?
5. Does my Roth IRA contribution limit also apply to my non-working spouse?
6. Should we already recharacterize our 2017 Roth IRA contributions?
7. Should we do Traditional IRA contributions in the future?

I appreciate any help you can provide.

(Edited the subject to be more specific.)
Last edited by almeida on Sun Mar 19, 2017 10:42 am, edited 1 time in total.

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AndrewXnn
Posts: 91
Joined: Thu Jan 02, 2014 7:55 pm
Location: New York

Re: Help With IRA Contributions

Postby AndrewXnn » Sat Mar 18, 2017 5:02 pm

For 2017 If you can make deductible contributions to the new 401K, then that may reduce your MAGI enough so that you'll be able to make the full Roth IRA contributions. The limit is $18K per year.

For 2016, if you wife did not have income, then you are not allowed to make Roth IRA contributions on her behalf. So, you'll need to withdraw those funds or re-characterize pronto. You'll have to talk with Vanguard to see how they handle it.

almeida
Posts: 38
Joined: Sat Sep 08, 2012 4:09 pm

Re: Help With IRA Contributions

Postby almeida » Sun Mar 19, 2017 10:34 am

AndrewXnn wrote:For 2017 If you can make deductible contributions to the new 401K, then that may reduce your MAGI enough so that you'll be able to make the full Roth IRA contributions. The limit is $18K per year.


Thanks, but I am already making the maximum deductible contributions to my 401(k) and HSA, so my MAGI is about as low as it's going to get.

AndrewXnn wrote:For 2016, if you wife did not have income, then you are not allowed to make Roth IRA contributions on her behalf. So, you'll need to withdraw those funds or re-characterize pronto. You'll have to talk with Vanguard to see how they handle it.


Are you saying a generic non-working spouse is ineligible for Roth IRA contributions or that my specific non-working spouse is ineligible? A generic non-working spouse can definitely make Roth IRA contributions under certain conditions. It's called a Spousal IRA (sources 1, 2, 3). We've done this for years now, but are hitting the limits for the first time for 2016. I believe her Roth IRA contribution limit is the same as mine, but I haven't found a clear statement of that.

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AndrewXnn
Posts: 91
Joined: Thu Jan 02, 2014 7:55 pm
Location: New York

Re: Help With Fixing 2016 IRA Contributions

Postby AndrewXnn » Sun Mar 19, 2017 12:02 pm

almeida;

I stand corrected concerning non-working spousal Roth IRA's rules. Thank-you.

My spouse has been working for a number of years (she did not always though)
so, there has been no question about each of our contributions.

Last year though, we ended very near the phase out MAGI range.
It's so close that I've decided to hold off 2017 contributions until later
and move some taxable funds into cash to reduce income.

My thoughts are that the contribution limits would apply equally to both individuals.

I used Turbo Tax and believe that it will correctly figure out the details.
Do not care to go thru all the hassles of re-characterization and the like.

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Epsilon Delta
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Joined: Thu Apr 28, 2011 7:00 pm

Re: Help With Fixing 2016 IRA Contributions

Postby Epsilon Delta » Sun Mar 19, 2017 12:54 pm

almeida wrote:Like me, she has Traditional, Rollover, and Roth IRAs at Vanguard. Due to a rookie mistake from many years ago, her Traditional IRA already has a non-deductible portion. As I mentioned, she doesn't work, so she doesn't have a 401(k) to roll in to. Doing a Roth conversion for her would cost us too much in taxes. For her, I think we should just recharacterize whatever part of her 2016 Roth IRA contribution is necessary and live with the deductible/non-deductible mix until she gets access to a 401(k) again.

If you have any basis in traditional IRAs a deductible contribution to a traditional IRA followed by a partially taxable conversion to a Roth is better than a direct Roth contribution of the same amount.

A conversion takes advantage of some fraction of the basis now, rather than some time in the indefinite future. Using the basis earlier is better if you expect positive returns on your investments. This is more of an advantage if the basis is large compared to the total value of traditional IRAs. If only a tiny sliver of the IRA is basis you only use a tiny sliver of the basis for each conversion and it may be more trouble than it's worth.

The downside of the conversion is that you can withdraw a direct contribution tax and penalty free immediately, where as for the conversion there maybe a 10% penalty for five years after the conversion. This is not usually important unless you are using the Roth as an emergency fund.

almeida
Posts: 38
Joined: Sat Sep 08, 2012 4:09 pm

Re: Help With Fixing 2016 IRA Contributions

Postby almeida » Mon Mar 20, 2017 7:51 am

Epsilon Delta wrote:If you have any basis in traditional IRAs a deductible contribution to a traditional IRA followed by a partially taxable conversion to a Roth is better than a direct Roth contribution of the same amount.

A conversion takes advantage of some fraction of the basis now, rather than some time in the indefinite future. Using the basis earlier is better if you expect positive returns on your investments. This is more of an advantage if the basis is large compared to the total value of traditional IRAs. If only a tiny sliver of the IRA is basis you only use a tiny sliver of the basis for each conversion and it may be more trouble than it's worth.

The downside of the conversion is that you can withdraw a direct contribution tax and penalty free immediately, where as for the conversion there maybe a 10% penalty for five years after the conversion. This is not usually important unless you are using the Roth as an emergency fund.


Thanks. Assuming "basis" is the non-deductible part, then the basis is fairly small. I believe it's around 10%, maybe less.

I have answered two of my own questions:

2. Will Vanguard take care of the recharacterization for me? Yes, you just need to call them, or travel back in time to find a fax machine to send them some form.
3. Will I owe any penalties or taxes as a result of the recharacterization? No.


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