How do I characterize an IRA from Roth to Traditional due to my mistake

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Topic Author
AirTimeMD
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Joined: Mon Mar 23, 2015 9:55 pm

How do I characterize an IRA from Roth to Traditional due to my mistake

Post by AirTimeMD » Thu Mar 14, 2019 11:05 am

Good afternoon All,

I manage my wife's investments and instructed her to max out her IRA last year, which we put into Vanguard in a Roth IRA. I failed to realize that us becoming married in November of 2018 combined with my income would impact her ability to contribute to a Roth IRA. Needless to say, this was my error which my CPA politely brought to my attention. To make it even worse, we've already maxed out her Roth IRA for 2019 ($6000).

My CPA has instructed me to "re characterize the Roth IRA as Traditional as soon as possible." My question to the forum is how I go about doing that thru Vanguard. I want to do everything the right way and I am obviously fine paying a penalty for my mistake. Any help is appreciated.

ATD

Alan S.
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Re: How do I characterize an IRA from Roth to Traditional due to my mistake

Post by Alan S. » Thu Mar 14, 2019 12:31 pm

AirTimeMD wrote:
Thu Mar 14, 2019 11:05 am
Good afternoon All,

I manage my wife's investments and instructed her to max out her IRA last year, which we put into Vanguard in a Roth IRA. I failed to realize that us becoming married in November of 2018 combined with my income would impact her ability to contribute to a Roth IRA. Needless to say, this was my error which my CPA politely brought to my attention. To make it even worse, we've already maxed out her Roth IRA for 2019 ($6000).

My CPA has instructed me to "re characterize the Roth IRA as Traditional as soon as possible." My question to the forum is how I go about doing that thru Vanguard. I want to do everything the right way and I am obviously fine paying a penalty for my mistake. Any help is appreciated.

ATD
Recharacterization is a common solution, but there are also other options.
Did YOU also make a Roth contribution?
Does your wife have any non Roth IRA balance, eg traditional, SEP or SIMPLE IRA? If not, a back door Roth is the solution and recharacterization would be the first action to take.
CPA suggests doing ASAP, probably because he is holding up your 2018 joint return. You are filing jointly for 2018 and 2019, right?

Once we know the answers to the above, can better answer your question.

Topic Author
AirTimeMD
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Re: How do I characterize an IRA from Roth to Traditional due to my mistake

Post by AirTimeMD » Thu Mar 14, 2019 1:39 pm

Alan S. wrote:
Thu Mar 14, 2019 12:31 pm
AirTimeMD wrote:
Thu Mar 14, 2019 11:05 am
Good afternoon All,

I manage my wife's investments and instructed her to max out her IRA last year, which we put into Vanguard in a Roth IRA. I failed to realize that us becoming married in November of 2018 combined with my income would impact her ability to contribute to a Roth IRA. Needless to say, this was my error which my CPA politely brought to my attention. To make it even worse, we've already maxed out her Roth IRA for 2019 ($6000).

My CPA has instructed me to "re characterize the Roth IRA as Traditional as soon as possible." My question to the forum is how I go about doing that thru Vanguard. I want to do everything the right way and I am obviously fine paying a penalty for my mistake. Any help is appreciated.

ATD
Recharacterization is a common solution, but there are also other options.
Did YOU also make a Roth contribution?
Does your wife have any non Roth IRA balance, eg traditional, SEP or SIMPLE IRA? If not, a back door Roth is the solution and recharacterization would be the first action to take.
CPA suggests doing ASAP, probably because he is holding up your 2018 joint return. You are filing jointly for 2018 and 2019, right?

Once we know the answers to the above, can better answer your question.
Hi Alan,
Thanks for the response.
I made a Traditional IRA contribution of $5,500 for myself in 2018 and also maxed out by IRA. I do not backdoor to Roth for myself personally because doing so would cause tax problems for two inherited IRA's from my mother's death. I believe I am fine with making the non-deductible $5,500 contribution to my tIRA for 2018 but my error was contributing to my fiancee's / now wife's 2018 IRA as ROTH when we became married in November 2018.

My wife has the following, all in Roth IRA
2015: $5,500
2016: $5,500
2017: $5,500
2018: $5,500 (became married in November)
2019: $6,000
Total current balance: $29,882.91
Total contributions: $28,000

She also has a 403b plan that she contributes to. You are correct that CPA suggests doing ASAP because he says we need to accomplish prior to 4/15 and suggests we file jointly for 2018.

I am so embarrassed and grateful for the help. This is my first big misstep since personally deciding to manage everything in 2012.

krow36
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Re: How do I characterize an IRA from Roth to Traditional due to my mistake

Post by krow36 » Thu Mar 14, 2019 1:55 pm

AirTimeMD wrote:
Thu Mar 14, 2019 1:39 pm
I do not backdoor to Roth for myself personally because doing so would cause tax problems for two inherited IRA's from my mother's death.
The inherited IRAs do not enter into the pro rata calculation. Does your wife have any non-Roth IRA that would stop her from using the backdoor Roth process?

Topic Author
AirTimeMD
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Re: How do I characterize an IRA from Roth to Traditional due to my mistake

Post by AirTimeMD » Thu Mar 14, 2019 2:06 pm

She does not.

I don't understand how backdoor Roth would apply currently as I contributed directly to her Roth in 2018 and 2019 without contributing to traditional and backdooring roth thru Vanguard?

ivk5
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Re: How do I characterize an IRA from Roth to Traditional due to my mistake

Post by ivk5 » Thu Mar 14, 2019 3:00 pm

Right but you might have the option to turn this into a backdoor Roth contribution by recharacterizing to traditional and then converting to Roth.

Topic Author
AirTimeMD
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Re: How do I characterize an IRA from Roth to Traditional due to my mistake

Post by AirTimeMD » Thu Mar 14, 2019 3:14 pm

Got it.

I'm struggling due to not knowing how to get it out of the Roth. I attempted to open a traditional IRA with VANGUARD for wife today and then tried to fund it by exchanging funds from the Roth to the Traditional but it would not allow me...

ivk5
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Re: How do I characterize an IRA from Roth to Traditional due to my mistake

Post by ivk5 » Thu Mar 14, 2019 3:15 pm

AirTimeMD wrote:
Thu Mar 14, 2019 3:14 pm
Got it.

I'm struggling due to not knowing how to get it out of the Roth. I attempted to open a traditional IRA with VANGUARD for wife today and then tried to fund it by exchanging funds from the Roth to the Traditional but it would not allow me...
Call. Make sure it’s clear you want to recharacterize, not just “get it out” (could be interpreted as distribution).

retiredjg
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Re: How do I characterize an IRA from Roth to Traditional due to my mistake

Post by retiredjg » Thu Mar 14, 2019 4:27 pm

A recharacterization MUST be done by the custodian of the account. You cannot do it yourself. Call them.

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Duckie
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Re: How do I characterize an IRA from Roth to Traditional due to my mistake

Post by Duckie » Thu Mar 14, 2019 4:50 pm

AirTimeMD wrote:My CPA has instructed me to "re characterize the Roth IRA as Traditional as soon as possible." My question to the forum is how I go about doing that thru Vanguard.
Call Vanguard (or maybe your wife needs to call them). Tell them you (she) contributed to a Roth IRA for 2018 but your income is too high and you need to recharacterize the contribution plus earnings to the newly opened TIRA. They will do it. (While on the phone you could also recharacterize the 2019 contribution or you could do that later.) In a couple of days after everything posts she can convert the TIRA to the Roth IRA.

Then let your CPA know she recharacterized the 2018 Roth contribution to a non-deductible TIRA contribution. Your CPA should know enough to file Form 8606 and the recharacterization statement.

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Epsilon Delta
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Re: How do I characterize an IRA from Roth to Traditional due to my mistake

Post by Epsilon Delta » Fri Mar 15, 2019 1:32 am

You might want to go to Vanguard's recharacterization page and have a look at the "IRA Recharacterization Form" (I can't deep link directly so you'll have to find the link on that page). There is some useful information you can digest at leisure. Even if you do this by phone the form gives some idea of the questions you will want to be prepared to answer


https://investor.vanguard.com/ira/roth- ... terization

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celia
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Re: How do I characterize an IRA from Roth to Traditional due to my mistake

Post by celia » Fri Mar 15, 2019 2:41 am

BOTH of you should be doing Backdoor Roths from now on. Once your wife’s 2018 and 2019 contributions have been recharacterized to a Traditional IRA, you are both ready for the Roth conversion step. However, you both should read the wiki page that I linked to. It gives several examples and shows how to calculate the tax-free part of any Roth conversion. A big part of understanding it is to be able to fill out a Form 8606 by hand for each of you. Then you can make sure it matches what the tax preparer calculated for you.

Note that for 2018 you will both only have the non-deductable contribution (basis) to report on Form 8606. For 2019, you will have more nondeductible contributions (that were contributed FOR 2019) and Roth contributions (that were/are to be done IN 2019) reported on Form 8606.

Inherited IRAs are not involved here since all you can do with them is take distributions (as no Conversions are possible from them).
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.

JustinR
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Re: How do I characterize an IRA from Roth to Traditional due to my mistake

Post by JustinR » Fri Mar 15, 2019 3:53 am

AirTimeMD wrote:
Thu Mar 14, 2019 11:05 am
Good afternoon All,

I manage my wife's investments and instructed her to max out her IRA last year, which we put into Vanguard in a Roth IRA. I failed to realize that us becoming married in November of 2018 combined with my income would impact her ability to contribute to a Roth IRA. Needless to say, this was my error which my CPA politely brought to my attention. To make it even worse, we've already maxed out her Roth IRA for 2019 ($6000).

My CPA has instructed me to "re characterize the Roth IRA as Traditional as soon as possible." My question to the forum is how I go about doing that thru Vanguard. I want to do everything the right way and I am obviously fine paying a penalty for my mistake. Any help is appreciated.

ATD
Take a deep breath.

It's easy. I just did the same thing a few weeks ago. They're probably getting thousands of calls each day right now during tax season to do this exact thing.


Simple version:

1) Figure out how much you need to recharacterize. To keep it simple, recharacterize all 2018 and 2019 contributions (for example: $5,500 + $6,000 = $11,500).

2) Create a Traditional IRA account on Vanguard if you don't have one already.

3) Call Vanguard at 800-205-6189. The robot will ask you what you're calling about. Say "recharacterization." They'll forward you to a recharacterization specialist. Tell the person you want to recharacterize your 2018 and 2019 Roth IRA contributions to your Traditional IRA. They'll say "Ok, we'll send you a form on secure message, fill it out." Make sure you remind them to send you the form twice since you're recharacterizing 2018 and 2019.

4) Vanguard will send you a secure message with a docusign form. You fill it out online and press submit. You have to do this twice since you need to fill out a form for each year.

5) The next day, Vanguard will move the $11,500 plus earnings to your Traditional IRA.

That's it!




Complex version of step 1:

1) Figure out how much you need to recharacterize.

1A) If you already figured out your modified adjusted gross income (MAGI) for 2018, you will know how much is eligible for the Roth and how much isn't (the part you need to recharacterize). These two links can help you out:
https://www.fidelity.com/calculators-to ... calculator
https://www.irs.gov/publications/p590a# ... 1000231016

1B) You don't actually have to worry about the 2019 contribution right now if you don't want to. You can choose to recharacterize 2018 only. If you think your income will be around the same or more, then you might as well recharacterize your 2019 contribution at the same time. Your choice.

JustinR
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Re: How do I characterize an IRA from Roth to Traditional due to my mistake

Post by JustinR » Fri Mar 15, 2019 4:06 am

To follow up on my above post, this is how you proceed to convert the recharacterized funds BACK to your Roth IRA (also known as a Backdoor Roth).

6) Now you have $11,500 + earnings (let's say $3,000) in your Traditional IRA, for a total of $14,500.

Your recharacterized contributions (the $11,500) are considered after-tax funds (you funded your Roth IRA with after-tax money). They will not be taxed during the Traditional -> Roth conversion.

The earnings are considered pre-tax funds. They have never been taxed, since they have been growing in your Roth IRA. When you do the Traditional -> Roth conversion, they will be taxed (for the 2019 tax year).

7) To avoid being taxed on the earnings at this time, call your 401k administrator and ask if your plan allows you to rollover pre-tax money from your Traditional IRA to your Traditional 401k. Many plans allow this but your plan may or may not. If they do, then great! Ask them how and roll the $3,000 into your 401k so that only $11,500 is left in your Traditional IRA.

8) Call Vanguard at 800-205-6189. Say "IRA conversion." Tell them you want to convert your Traditional IRA to a Roth IRA. They'll explain to you that any pre-tax funds will be taxed. If you did step 7 then your taxes will be $0. If you didn't, then you'll pay taxes on the $3,000 earnings when you do your 2019 tax return. Either way, your Vanguard rep will do the conversion and the funds will be moved back to your Roth IRA the next day.

That's it! You just did a Backdoor Roth.

Starting in 2020, you should do the Backdoor Roth directly: contribute to your Traditional IRA settlement fund, then immediately do a conversion to Roth IRA.

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