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Understanding Pro Rata

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  • Understanding Pro Rata

    Hello WCI family,

    New residency graduate here. My current retirement account planning was to contribute to non-tax advantaged IRAs and then perform IRA to Roth IRA conversions (backdoor Roth IRA) in addition to my own solo 401(k). My spouse and I have prior Roth IRA contributions but we had no other IRAs so I was not concerned about the pro rata rule for IRA conversions.

    Well, I've come to find out that my wife who has moved from public to private school teaching has a match to a SIMPLE IRA. The match isn't a lot of money since our nation doesn't pay school teachers half of what they are worth, so getting her employer's match will amount to ~900 dollars per year. In return for picking this up, we will have the complexity of having to account for the pro rata rule when we file our form 8606. My understanding is that this will essentially just make it to where her SIMPLE IRA won't be quite as tax advantageous as it would be otherwise, but it will still be worth her getting her employer match, and almost certainly still be worth doing Roth IRA conversions, correct?

  • #2
    How long has she participated in the SIMPLE plan? If at least 2 years, there is a fairly “simple” solution to your problem. Even if < 2 yrs, it won’t take long to get there.

    Congrat’s on graduating training!
    Our passion is protecting clients and others from predatory advisors. Fox & Co CPAs, Fox & Co Wealth Mgmt. 270-247-6087


    • #3
      She would be participating starting in the next month, so for zero years so far. This is her first month at a new job and just brought the SIMPLE IRA participation forms home today.


      • #4
        It will not only be her employer match which is always pre-tax, but her employee deferrals which are also always pre-tax in a SIMPLE IRA (no Roth deferrals).

        As alluded to by jfoxcpacfp, a participant can not rollover their SIMPLE IRA balance for two (2) years after the first contribution except to another SIMPLE IRA.

        Is their any legitimate works tasks she can perform for your business that sponsors your one-participant 401k in a couple of years? If so, there could be a reasonable path out.

        She would continue to make non-deductible traditional IRA contributions, but not do any Roth conversions until two years have elapsed since her first contribution. Then she could rollover the SIMPLE IRA balance to her one-participant 401k account every year prior to 12/31.

        ​​This assumes you do not have a Vanguard Individual 401k, which does not allow IRA rollovers. You would have to amend your one-participant 401k plan to another provider before that is required.

        There may be another pressing significant consideration that I will cover in a following post.
        Last edited by spiritrider; 08-05-2020, 09:56 PM.


        • #5
          SIMPLE IRA plans are often laden with expensive investment options and possibly even advisor fees. There is a solution that the custodian and/or advisor prefer you are not aware of even though it is required to be disclosed. However, many participants do not pickup on the fine print in their enrollment election packet. Or is even sometimes the case, it is conveniently missing.

          There are two types of SIMPLE IRA plans. Plans adopted under Form 5304-SIMPLE and Form 5305-SIMPLE.

          5304 plans allow you to select your own SIMPLE IRA custodian for your employee deferrals and employer contributions to be deposited to. Often to hide this ability, the enrollment forms are pre-printed with the default custodian. No matter how much they object they must allow you to select your own custodian.

          5305 plans have a designated financial institution (DFI) that your employee deferrals and employer contributions will automatically be deposited to. However, the custodian must allow you to elect to have all deposits rolled over to an eligible retirement plan at least monthly at no cost to the participant.

          In the first two years, this can only be rolled over to another "rollover only" (sometimes called a frozen) SIMPLE IRA account. Not all SIMPLE IRA custodians offer such an account. Vanguard does, but Fidelity does not. After two years, it can be rolled over to a traditional IRA, Roth IRA, 401k (including a one-participant 401k), etc... account.

          It is best to know this ahead of time and make the adjustments in the initial election. I suggest you come back and update us on who the custodian/advisor, what the fund selections, expense ratios and any advisor fees are. As well as whether it is a 5304 or 5305 SIMPLE IRA plan.


          • #6

            Thank you for the thoughtful response. The paperwork of course makes no mention if it’s a 5304 or 5305 so I’m pursuing that information right now with her benefits coordinator.

            Assuming that it’s a 5305 and I’m left with Fidelity, I believe these are my fund choices ( It’s difficult to parse through what my lowest cost index funds would be from this list. I’m being told that there are no additional fees, however.