ornery client/broker - what to do?

[WITAXLADY]

client sold business so I had him convert his Roth to an IRA for a back door as I knew his income would be too high.

Vanguard agent said he cannot do a back door IRA..

plus it is too hard to keep track of.

Client and agent saying are leaving as is! This goes back to the posts earlier - about leaving earnings in, etc.. - What penalties does he incur?

My client wants to know what will happen if he leaves it in the IRA and it was not to be in there?

I said just put it into 2021 as he will be able to use it then. He wants to leave as is in 2020.

I said find another agent and he does not want to open another account!

Actually for keeping track of the %, that would not be a bad idea??

Thx d

 

[Lion EA]

I think you mean recharacterize. If he made a Roth contribution but his income is too high to contribute to a Roth, have him recharacterize the contribution to a non-deductible Traditional IRA. Move the earnings, too.

If it was for 2020 and he leaves it in his Roth, he'll pay extra 2020 taxes. He can contribute that much less in 2021, to even out in 2021. If not, he'll pay extra each year that the Roth keeps the excess contribution.

By the way, a backdoor Roth is a Traditional IRA (hopefully a non-deductible Traditional IRA or the computation is more complex) that's converted to a Roth when income is too high to make a Roth contribution directly.

[WITAXLADY]

he already recharacterized it,,, from Roth to Trad as income was too high so he could do a back door roth

Now the Broker says it is too complex so leave it as a non-deductible IRA -

Best to leave instead of argue?

[Lion EA]

It might not make a difference between a non-deductible Traditional IRA and a Roth, if Congress passes the laws they're discussing!

But you have to track (Form 8606) his non-deductible Traditional IRA contributions anyway.

I'm all for him doing the conversion to a Roth now.

However, if he has a lot in his TIRAs so that his non-taxable conversion amount would be small compared to the taxable amount per the ratio determined by all his TIRAs, it might not make sense to convert. He would make that decision. Not his broker!

Tell him to ask for a supervisor. Or, if a large national brokerage, their tax department. Or, move his retirement accounts elsewhere, and then do the backdoor. (I'd do that last one, if it were my money.)

Sorry, I didn't understand the timeline in your OP, so I wasn't addressing your issue.

[Sara EA]

Vanguard is right.  Since TCJA it is no longer possible to unwind a conversion.  Your client converted a Roth to a traditional, and I don't think that can be recharacterized back to a Roth.  Prior to TCJA it could be done.  I had a client who kept recharacterizing Roths to traditional and back again during the same year every time the market moved.  I had a million spreadsheets trying to keep track of it all and was glad when the law changed just because of him.

[Lion EA]

Can he make one recharacterization (Roth to TIRA when his income was too high to contribute to a Roth) plus one conversion (TIRA to Roth for a backdoor Roth) per year? Or only one of those? Can he make the second after 12 months? Or, after 31 December? 

[DANRVAN]

13 hours ago, Sara EA said:

I don't think that can be recharacterized back to a Roth.  Prior to TCJA it could be done. 

That is correct, the conversion is irrevocable per TCJA.  

 

[TexTaxToo]

You can convert from TIRA to Roth as often as you like.  Once done, you cannot undo (or recharacterize) a conversion.  If you have ever made tax-deductible contributions to the TIRA, you must pay tax on a portion of the amount converted (in proportion to the amount of tax-deductible contributions).

You can recharacterize only regular contributions made during the tax year, NOT conversions or rollovers.  The contribution must be moved (recharacterized) by the due date of the tax return (including extensions) for that year.  Can you recharacterize a contribution multiple times?   I'm not sure - I don't see anything prohibiting it if done before the due date and the trustee is willing to do it.  But if you ever called it a conversion, then no.

You can also simply withdraw any contribution made during the tax year by the due date (you must also withdraw any income due to the contribution and pay tax on it).

[Lion EA]

OP's client hasn't converted to a Roth -- yet. He contributed to a Roth; recharacterized to a TIRA. So, he can still convert to a Roth by 15 October, yes?

[DANRVAN]

3 hours ago, Lion EA said:

OP's client hasn't converted to a Roth -- yet.

OP is not clear to me, is she talking about recharacterizing a contribution or converting an account?  There is a difference

 

On 9/19/2021 at 6:41 PM, WITAXLADY said:

had him convert his Roth to an IRA

.

[Lion EA]

How is conversion defined? I thought it was taking from a potentially taxable IRA, paying any taxes due, and putting it into a Roth. Her client went the other direction, from a Roth. Is that still a conversion? Just trying to find a way that she can have her client do what she wants him to do without waiting a year...

[Sara EA]

I looked it up.  A conversion can only be done from a traditional to a Roth.  You can't convert a Roth to a traditional.  A recharacterization is when you contribute to one type of IRA and change it to the other type (in other words, you make a contribution to a Roth, call it a Roth contribution, and then decide to characterize it instead as a contribution to a traditional).  Neither can be undone.  If your client had told you about this before May 17, s/he could have withdrawn the contribution and then made a traditional IRA contribution and done the back door.  Too late now. 

[Lion EA]

Can her client do one recharacterization and also one conversion in a year, or is she limited to only one of those or the other?

[Hahn1040]

One can recharacterize a current or previous year's contribution from ROTH to traditional or Trad to ROTH up to the due date of the return (plus extensions).  You must transfer the contribution plus the earnings.  It is treated as if contributed to that IRA in the first place.  ROTH to traditional is common when AGI exceeds the income limits.  When this is the case, then income is too high to deduct the contribution so it  is reported on the form 8606 as a nondeductible contribution.

A conversion can be done at any time.  It is reported on the return for the year converted.

When t/p recharacterizes to cure an excess  ROTH contribution, t/p can then convert it back to ROTH.  the recharacterization is reported on the return for the year the original contribution was made.  The conversion is reported on the return for the year converted.

Recharacterizing a conversion is no longer allowed.

a "backdoor ROTH' is cleanest when done all at once:  t/p contributes to traditional IRA and then immediately converts to ROTH.  best when using a cash account.  the traditional has no time to earn income.  As long as t/p has no other traditional IRAs (or SEP),  the conversion has no tax consequence.

In the case of recharacterizing to cure the excess ROTH contribution, the earning are now part of the traditional account, so if they convert the contribution plus earnings, then the earnings are taxed.  The contribution was not deductible so it is not taxed.

IF the t/p already has traditional IRA accounts, then the conversion will result in taxable income and thus may not be attractive. 

If excess contribution is not cured by the due date of the return, then t/p pays the 6% excess penalty each year until it is cured.  In the case that the high AGI was a one-time thing, then one can leave the excess in the ROTH, pay the 6% penalty and then apply that contribution to the next year's IRA.   The advantage is that you don't have to pay tax on the earning (and a lot less paperwork)  This disadvantage is you lose a year's IRA contribution. 

[TexTaxToo]

12 hours ago, Sara EA said:

If your client had told you about this before May 17, s/he could have withdrawn the contribution and then made a traditional IRA contribution and done the back door.  Too late now. 

You are allowed an automatic 6-month extension to recharacterize or withdraw if you timely file.  For this and other rules, see:

https://www.irs.gov/publications/p590a#en_US_2020_publink1000230693

It is too late to make a new contribution for last year.  The conversion can be done anytime.

 

[DANRVAN]

21 hours ago, Lion EA said:

went the other direction, from a Roth.

I did not catch that part, but not clear if OP is referring to the conversion of an account balance or recharacterize a contribution.  

Under TJCA you cannot unwind a conversion of a traditional IRA "account" to a Roth "account".  The conversion is irrevocable per 408A(d)(6)(B)iii

However, you can still recharacterize a traditional "contribution" to a Roth Contribution.

 

 

[WITAXLADY]

who is OP?

He changed his Roth to a TIRA

He made too much so he has to withdraw or have his broker do a back door IRA

His broker does not want to do a back door as too much keeping track

so the broker said just leave it as a non-deductible traditional IRA..

1 - Can he do that? - just leave it?

2 - Either way it needs to be kept track of..

D

 

 

 

[Lion EA]

OP is Original Poster. That's you.

He can leave it as a non-deductible Traditional IRA.

You will keep track of it via Form 8606.

Or, your client can do a backdoor Roth.

Either way, the broker isn't keeping track, you are!

Give your client all his options and let him make a decision.

[Sara EA]

No back door in this case!  A contribution was made to a Roth and recharacterized to a traditional.  That cannot be undone.  See the code section cited by Danrvan.  I have doubts that the broker said it was too complicated to keep track of so forget it.  Clients hear what they want to hear, or fill in blanks in their misunderstanding.  Vanguard likely explained that the client would now have basis in the IRA and would have to keep track of it by filing 8606 every year.  Client likely heard that to mean too much paperwork and blamed Vanguard, who by law cannot convert a recharacterization.  OP gave the client bad advise to recharacterize the contribution instead of withdraw it, then contribute to a traditional--a contribution can be converted, not a sum already recharacterized.  As for the consequences of leaving it in the Roth, who knows if the IRS is watching.  I recently posted about a client who has a seven-figure income and has been contributing to a Roth for years without my knowledge.  When I found out about it this year and warned him of the excise tax, he decided to leave it alone and he'll pay up if they ever catch it.  I made copious notes about that conversation.

[Lion EA]

What does the IRS do with all the Forms 5498 they receive? Seems like nothing.

[Sara EA]

I have had clients get IRS notices when they reported IRA contributions but the 5498s showed otherwise, so they do match them with returns.  I don't know if they do anything with the ones showing Roth contribs, as evidenced by my client with a seven-figure income and Roth contribs for years.

[DANRVAN]

On 9/24/2021 at 6:15 PM, Sara EA said:

A contribution was made to a Roth and recharacterized to a traditional.  That cannot be undone. 

A recharacterized contribution can be reversed on or before the due date per 408A(d)(6)A whether it be from a traditional to roth or vice versa.

408A(d)(6)(B)iii prohibits the unwinding of a conversion of an account balance (rollover) from a traditional to roth or vice versa.

[DANRVAN]

On 9/23/2021 at 7:08 PM, WITAXLADY said:

He changed his Roth to a TIRA

 

On 9/23/2021 at 7:08 PM, WITAXLADY said:

1 - Can he do that?

If he made a contribution to a roth and then converted the contribution to traditional, he can change it back to a roth.

If he converted an existing Roth balance to a traditional ira, then it cannot be changed back to a roth.

 

[WITAXLADY]

not changing to as Roth - abut a back door Roth - does that make a difference?

 

I think I will have him leave it as a Roth and do a 8606..

[joanmcq]

I thought he already converted it? You mean leave it as traditional.