Author Topic: Could a Roth IRA conversion make you ineligible for a Roth IRA contribution?  (Read 1996 times)

koralcem

  • 5 O'Clock Shadow
  • *
  • Posts: 24
I've been reading about traditional to Roth conversions, and pretty much everyone says "the converted amount counts as income" (or something pretty close to that lingo). What, precisely, does this mean? Does it just mean the converted amount will get taxed at your regular income tax rate? Or will the amount literally be added to your income, possibly affecting other things as well as getting taxed at your regular income rate?

For example, assume we're currently eligible to make a Roth IRA contribution (i.e. our regular salary income isn't too large). We choose to make a gigantic Roth conversion such that, when the amount is added to our income, it pushes us above the income limits for Roth IRA contributions. Would we actually be ineligible to make a Roth contribution that year, even if what pushed us over the limit was the converted amount?

We're currently at the 25% bracket, so I'm not sure a conversion is a good idea anyway. But I am really curious about the mechanics.

secondcor521

  • Handlebar Stache
  • *****
  • Posts: 2044
  • Age: 49
  • Location: Boise, Idaho
  • Big cattle, no hat.
    • Age of Eon - Overwatch player videos
I'm not a super tax expert, but I have stayed at a Holiday Inn before.

Roth conversions will show up on line 15b of a 1040.  This means that Roth conversions contribute to your Total Income, your Adjusted Gross Income, and your Taxable Income.

Generally, yes, I'm fairly certain that the converted Roth money will be taxed at your marginal rate.

The amount will literally be added to your income (by this I think you probably are thinking of W-2 income).  W-2 income goes on line 7 and gets combined with Roth conversions on line 15b at line 21.

Yes, if the Roth conversion (plus your other income, such as wages or capital gains) increases your AGI (technically MAGI) beyond the contribution limits for your filing status, it would prevent you from making a Roth contribution.  Speaking more generally, the increased income that results from a Roth conversion affects all sorts of things that are based on income, such as child tax credits, ACA credits, college financial aid, the various education tax credits, the Earned Income Tax Credit, etc.

I personally would not convert at the 25% bracket unless you knew your tax bracket will never be lower and you absolutely need to convert in order to start your Roth pipeline funding because you need to retire, like yesterday.  The generally recommended approach is to find some other way to fund your first five (really four) years, and then start converting after you've retired.  Then you can usually Roth convert more money at a lower tax rate.  That's what I am doing.

Good luck!

koralcem

  • 5 O'Clock Shadow
  • *
  • Posts: 24
Quote
Yes, if the Roth conversion (plus your other income, such as wages or capital gains) increases your AGI (technically MAGI) beyond the contribution limits for your filing status, it would prevent you from making a Roth contribution.

Interesting... Are you sure about that? Because I had a similar question about capital gains pushing up your income in the "Taxes" forum. In his/her answer MDM posted a link to the Worksheet for Modified Adjusted Gross Income for Roth IRA Purposes. If I try to follow it:
  • Line 1 asks for your income straight off of your 1040. I imagine this will include any Roth conversion amount.
  • Line 2 asks for any income resulting from a Roth conversion.
  • Line 3 asks you subtract line 2 from line 1. So I imagine Line 3 will now include all your income except any due to a Roth conversion.
  • You then roll through all the other lines, adding back in some misc deductions. But you never add anything back relating to your conversion.
  • Finally on line 12, this total counts as your MAGI for contribution purposes.
Wouldn't this imply that your income (increased by your conversion) would indeed affect all sorts of things (such as child tax credits, ACA credits, college financial aid, the various education tax credits, the Earned Income Tax Credit, etc.) but, just for purposes of determining eligibility for a Roth IRA contribution, the conversion amount would be left off?

Sounds weird to me even as I type it. But I can't see what I'm missing...

I can see how it would still be taxed at your marginal rate. but that seems to be a different matter.

secondcor521

  • Handlebar Stache
  • *****
  • Posts: 2044
  • Age: 49
  • Location: Boise, Idaho
  • Big cattle, no hat.
    • Age of Eon - Overwatch player videos
Quote
Yes, if the Roth conversion (plus your other income, such as wages or capital gains) increases your AGI (technically MAGI) beyond the contribution limits for your filing status, it would prevent you from making a Roth contribution.

Interesting... Are you sure about that? Because I had a similar question about capital gains pushing up your income in the "Taxes" forum. In his/her answer MDM posted a link to the Worksheet for Modified Adjusted Gross Income for Roth IRA Purposes. If I try to follow it:
  • Line 1 asks for your income straight off of your 1040. I imagine this will include any Roth conversion amount.
  • Line 2 asks for any income resulting from a Roth conversion.
  • Line 3 asks you subtract line 2 from line 1. So I imagine Line 3 will now include all your income except any due to a Roth conversion.
  • You then roll through all the other lines, adding back in some misc deductions. But you never add anything back relating to your conversion.
  • Finally on line 12, this total counts as your MAGI for contribution purposes.
Wouldn't this imply that your income (increased by your conversion) would indeed affect all sorts of things (such as child tax credits, ACA credits, college financial aid, the various education tax credits, the Earned Income Tax Credit, etc.) but, just for purposes of determining eligibility for a Roth IRA contribution, the conversion amount would be left off?

Sounds weird to me even as I type it. But I can't see what I'm missing...

I can see how it would still be taxed at your marginal rate. but that seems to be a different matter.

Note to self:  Go to IRS.gov to get answers for people, not Google.

You are correct.  I was lazy and went to Google and found this article on how to calculate MAGI:

https://www.thebalance.com/how-to-calculate-your-modified-adjusted-gross-income-4047216

The author of that article leaves out Roth conversions apparently, because who does those?  I do, and it sounds like you might.  So people like us should go to IRS.gov and find the appropriate worksheet, like you did.

I think your analysis is spot on, and I am mistaken about the part that you quoted.

koralcem

  • 5 O'Clock Shadow
  • *
  • Posts: 24
Quote
Go to IRS.gov to get answers for people, not Google.

Good point! And thanks for looking over my assumption/analysis.

Also, thanks for taking that response in stride. I didn't mean to be confrontational; was just trying to get at an accurate answer. Hard to find people that assume good faith on internet forums these days... Hopefully these forums are different :)
« Last Edit: June 21, 2017, 12:58:07 PM by koralcem »

secondcor521

  • Handlebar Stache
  • *****
  • Posts: 2044
  • Age: 49
  • Location: Boise, Idaho
  • Big cattle, no hat.
    • Age of Eon - Overwatch player videos
Quote
Go to IRS.gov to get answers for people, not Google.

Good point! And thanks for looking over my assumption/analysis.

Also, thanks for taking that response in stride. I didn't mean to be confrontational; was just trying to get at an accurate answer. Hard to find people that assume good faith on internet forums these days... Hopefully these forums are different :)

You're welcome, and no worries! :-)

DavidAnnArbor

  • Handlebar Stache
  • *****
  • Posts: 1953
  • Age: 53
  • Location: Ann Arbor, Michigan
This is a great question for the Tax part of the forums.