Author Topic: Tax free Roth conversion??  (Read 2024 times)

szmaine

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Tax free Roth conversion??
« on: April 18, 2016, 06:50:56 AM »
A little background:

Last year I received a modest inheritance and had too much money in checking and savings so after filling my Roth for the year I began maxing my 403b and started contributing to  a 457b up to the amount that would give me the largest EITC filing as QW with one child for 2015. That worked really well for me.

Three months into this year I have been doing the same when it dawned on me that I may be able to also  convert some funds from a 403a from a previous employer but the same carrier. The rules of this account state that I can only roll over my own contributions before I'm 55 but this still leaves a fair bit to work with. If I up the contributions in the 457 to the amount of the conversion then it seems that it will be tax free altogether since it will just be added back into my earned income which was already zero taxes plus the EITC under last year's scheme.

Am I right about this? Missing anything about the way the conversion funds are reported for tax purposes?
If I'm right I need to do as much as possible this year since I am unsure what our tax status will be next year (2017) with  transition to Head of household status and daughter turning 18 this year.

Edited for clarity.
« Last Edit: April 18, 2016, 07:10:23 AM by szmaine »

teen persuasion

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Re: Tax free Roth conversion??
« Reply #1 on: April 18, 2016, 09:24:59 AM »
It sounds about right, as far as taxes/EITC goes.  Is the inheritance invested now?  Is it generating investment income that might make you ineligible for EITC at some point?

You mention your daughter is near 18 - is she going to college?  Look closely at the FAFSA EFC formulas - conversions will increase your AGI, AND your retirement plan contributions get added back to your AGI during the calculation.  It might be tricky.  Timing is everything.  2015's tax info will be used on 2 consecutive FAFSA years, due to a switch in the timing of applications.  They are moving applications from January to the previous October.  So for my DS, also turning 18, we did the FAFSA in February using 2015 tax info for school year 2016-2017, and will do it again this October again using 2015 tax info for school year 2017-2018.  After that it will continue in Octobers using the prior-prior year's tax info.

I've been trying to figure out the best years to convert; after DS4 there will be a 3 year window with no FAFSA applications, and then DS5 will be applying for college.  It will be much harder to get his EFC low (vs his older siblings), because of the shrinking family size.  If we skip those 4 years conversions, I limits how much we can get converted before RMDs kick in.  I'm weighing the tradeoffs

teen persuasion

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Re: Tax free Roth conversion??
« Reply #2 on: April 18, 2016, 09:33:28 AM »
Oh, one possible EITC hitch that might occur: if you fully fund your employer's retirement account, how low does your line 7 income go?  Since the amount you get for the EITC is the smaller of the amount based on line 7 or the amount based on AGI (after the conversion is added in), if your line 7 income is too low (below the plateau) you might not get the max.  Check out the EITC table to test out different income amounts.

teen persuasion

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Re: Tax free Roth conversion??
« Reply #3 on: April 18, 2016, 12:49:42 PM »
I think the retirement contributions is a separate question on the FAFSA, not part of the IRS retrieval (since they don't appear on your tax return).  There is a special automatic EFC = 0 if you meet certain conditions, and it kicks in before the add back, maybe you qualified for that.

Google "EFC formulas 2016-17" to get the actual way the EFC is calculated, and the rules for auto EFC = 0, and the simplified needs test.  That last one lets you skip entering assets (like your inheritance) that would normally increase your EFC.

Great work on getting EFC =0!  I have DH fully fund tha HSA, and put enough in his 401k to get the EFC as low as possible (0 this year), and the most EITC we can manage (not max) while having enough take home.  I'm trying to project out for all the years for the kids - it fluctuates depending on how many are in college, how many count as dependents for FAFSA (IRS is completely different), their ages and incomes, etc.  More students is not better for us - it drops the income protection amount for the same size family.

szmaine

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Re: Tax free Roth conversion??
« Reply #4 on: April 18, 2016, 01:55:50 PM »
Hmm...I guess it is b/ c I filed with 1040A AND had an income of less than 49,999....between the income protection and the asset protection it must work out. But I will calculate it out. Thanks for the info!