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  • Yet another Roth conversion question

     

    Here is my dilemma.  I have a 401k through my job and my wife's job provides her with an individual IRA.  In January 2017 I contributed 5500 each to both my wife and my traditional IRA accounts and subsequently converted them to Roths (something I have been doing for several years).  Soon after however, I was enlightened that my wife's Individual IRA creates a tax consequence on Roth conversions so for 2017 I quickly reversed the conversion back to the traditional IRA.  After listening to listening to a recent WCI podcast this AM however, WCI mentioned that spousal IRAs are considered separate entities when determining eligibility/tax consequenses for Roth conversions.  So as I now understand it, I can convert my personal Roth IRA without the consequence, however my wife cannot have hers converted to a Roth without the tax consequence.  Correct?

    If so I am planning on reconverting my 2017 traditional IRA back to a Roth and doing my own personal backdoor Roth in 2018.  Sound right?

  • #2
    How does a business have a traditional IRA for an employee? Is it a SEP or SIMPLE? I'm interested to hear more about this. Businesses aren't supposed to have anything to do with traditional *individual* retirement arrangements.

    Hers have nothing to do with yours, unless you're talking about the ability to deduct traditional contributions above a certain joint-filing income level. There was no reason to change your IRA from Roth back to traditional.

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    • #3
      Yea he probably means sep or simple. Which means yes the pro-rata rule takes effect.

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      • #4
        Pro rata just refers to when there exists both deducted and non-deducted contributions in pretax IRAs, and anything converted is added to income based on percentage of non-deducted to the whole. If the whole thing is being converted, then there's no pro rata (dividing by zero), but the untaxed portion (gains and any contributions which were deducted) will still be taxed.

        If it's a SIMPLE, which it sounds like it is, then those are contributed to via salary reduction...so it hasn't been taxed or reported as income. So *if* you wanted to continue to do "backdoor" Roth IRA for her, then you would have to convert the whole of her SIMPLE contributions before the end of each year in order to avoid pro rata taxation (essentially double-tax) of the non-deductible traditional IRA contribution used for "backdoor" Roth. I admit to knowing fairly little about SIMPLEs because they aren't often the best choice other than for very small businesses for which a 401(k) can be cost-prohibitive for employers to provide to employees.

        If you can and want to pay the tax on up to $12,500 of additional income (that's the SIMPLE max contribution for under age 50) in order to get that $5,500 in Roth, sure, go for it. But if you're in a high bracket, that might not be the best use of money. Might just be better to put what you'd otherwise have put into Roth into a taxable brokerage account, then when your wife changes jobs, roll her SIMPLE into a 401(k) and do "backdoor" Roth then.

        Again, this doesn't affect *your* ability to do a "backdoor" Roth.

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        • #5
          Yes I am referring to a Simple IRA.  Sorry about the confusion and thanks for the feedback.  I guess this means I can keep backdoor Roth converting myself, but would prefer to avoid the pro rata on her as her Simple IRA has grown quite a bit over the past few years.  Thanks for the feedback.

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          • #6
            SIMPLEs and SEPs are a kind of hybrid retirement vehicle. They are employer accounts but have the same ownership properties as IRAs. That means the accounts are set up by the employer for individual employees, who are fully vested the minute the contribution goes in.

            If your wife has a talent that lends itself to a SE side gig, it is still possible for her to have the ability to do a backdoor Roth. She would simply set up a solo-k through the side gig and roll the SIMPLE/SEP into it each year. Note that she needs to wait 2 years from the first date of SIMPLE participation to do this or she will be penalized 25%. There is no such rule for SEPs.

            She should just make sure that there is no balance in the SIMPLE as of 12/31 annually if she wants to go this route - that is the only date that matters. This post might help:

            Explaining Backdoor Roth IRAs
            Working to protect good doctors from bad advisors. Fox & Co CPAs, Fox & Co Wealth Mgmt. 270-247-6087

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