Tax implications of a Roth IRA

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Newieinvestor
Posts: 8
Joined: Thu Oct 05, 2017 6:47 pm

Tax implications of a Roth IRA

Post by Newieinvestor » Wed Oct 11, 2017 4:26 pm

1) I'm planning to do a backdoor Roth IRA with money from our savings account (income that we already had taxes deducted from), and I just wanted to clarify the tax implications of this. The wording of this is confusing to me, I just want to make sure that if I do it I won't have to pay taxes a second time on it or there will be some other tax penalty:

"The funds that you convert to a Roth IRA will most likely count as income, which could kick you into a higher tax bracket in the year you do the conversion. On the other hand, if your income happens to be unusually low in a particular year—perhaps you had a gap in employment—you could take advantage of that situation by making the Roth conversion then. Timing is important. Carefully calculate the tax implications of a Roth IRA conversion before you decide." (from http://www.rothira.com/what-is-a-backdoor-roth-ira)

2) My second question is regarding this second part: "Roth IRA Contribution limits: Normally, you may contribute only $5,500 ($6,500 if you are age 50 or over) to a Roth IRA. With a backdoor Roth IRA conversion, these limits do not apply." (from http://www.rothira.com/what-is-a-backdoor-roth-ira)

Does that mean that my husband and I could each contribute 10k into our respective backdoor Roth IRAs this year?

I am using the instructions from this website for setting up the backdoor Roth IRA: https://www.whitecoatinvestor.com/backd ... a-tutorial. Thanks!

MotoTrojan
Posts: 700
Joined: Wed Feb 01, 2017 8:39 pm

Re: Tax implications of a Roth IRA

Post by MotoTrojan » Wed Oct 11, 2017 4:30 pm

You can convert more than $5500 but the conversion starts with a non-deductible IRA, which has the $5500/$6500 limits. If you have pre-tax IRAs the conversion is more complicated and will have tax implications. If not, simply contribute $5500/$6500 each to an IRA, then immediately convert it to Roth. Only the earnings (should be minimal/none) are taxed. Can do that all online with VG.

Newieinvestor
Posts: 8
Joined: Thu Oct 05, 2017 6:47 pm

Re: Tax implications of a Roth IRA

Post by Newieinvestor » Wed Oct 11, 2017 4:34 pm

Thanks so much, that makes sense! :)

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celia
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Location: SoCal

Re: Tax implications of a Roth IRA

Post by celia » Wed Oct 11, 2017 4:37 pm

I'm sorry, but the paragraph with the bold text is wrong. It is describing a regular Roth contribution, not a backdoor one.

As far as paragraph 2), you need to differentiate between an IRA contribution, which has limits of $5,500/$6,000 and a conversion, which has no limits. That paragraph is misleading.

I suggest you follow the information in our wiki instead: https://www.bogleheads.org/wiki/Backdoor_Roth_IRA

Most importantly, you need to know that existing money in any non-Roth IRA you each have will impact the taxes greatly.

Spirit Rider
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Joined: Fri Mar 02, 2007 2:39 pm

Re: Tax implications of a Roth IRA

Post by Spirit Rider » Wed Oct 11, 2017 6:55 pm

People need to remember that there is no such thing as a Backdoor Roth. It is a made up term to describe a non-deductible contribution to a traditional IRA followed by a Roth conversion with little to no earnings. This means that there is little to no tax liability. These are a distinct minority

The vast majority of Roth conversions are people converting their pre-tax traditional IRA assets to a Roth IRA. The statement; "The funds that you convert to a Roth IRA will most likely count as income" is certainly not wrong.

retiredjg
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Joined: Thu Jan 10, 2008 12:56 pm

Re: Tax implications of a Roth IRA

Post by retiredjg » Fri Oct 13, 2017 9:28 am

Newie, the rothira .com website has confused two terms - "Roth conversion" and the "back door" method of getting money into Roth IRA. These are similar procedures but they are not the same thing. That website is calling something a "back door" when really it is only a Roth conversion. If what you want to do is the "back door", you should not use that website for guidance in my opinion.

A Roth conversion converts some or all of a tIRA into a Roth IRA. This can be a taxable event if some or all of the money in the tIRA had not been taxed before.

There are no limits on how much of a tIRA one can convert in a year. You can convert $1,000 or $100,000 if you have that much in tIRA and are willing to pay the taxes on the conversion if any taxes are due.

The "back door" consists of two steps. First, you put money into tIRA (limit $5,500 if not yet 50) and do not deduct it from your taxable income (either because you choose not to or you are not eligible to). Second you do a Roth conversion of that money in the tIRA. Since the money was not ever deducted from your taxable income it is already taxed and can go into the Roth IRA without being taxed again.

Agree with Spirit Rider that there is no such thing as a "backdoor Roth". It is just a Roth IRA. Some or all of the money may have gotten into the Roth using a back door method.

Does that mean that my husband and I could each contribute 10k into our respective backdoor Roth IRAs this year?
No. The limit is $5,500 or $6,500 for each of you.

There is information in the Wiki (link above center) about the back door. And there is information in this link as well.

https://thefinancebuff.com/the-backdoor ... ow-to.html

Please pay particular attention to the fact that any other IRA, including SEP IRA and SIMPLE IRA, will get in the way of this "back door" procedure. If you have other IRAs (except Roth IRA) you probably should not use the "back door".

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