Author Topic: Roth IRA -> Traditional: does it make sense in my situation?  (Read 2497 times)

aetherie

  • Pencil Stache
  • ****
  • Posts: 809
  • Age: 28
Roth IRA -> Traditional: does it make sense in my situation?
« on: January 27, 2015, 09:12:43 AM »
In 2014, I contributed $5500 to a Vanguard Roth IRA. A commenter on my journal recently suggested that a Traditional IRA might be a better choice, so I went back to look at things. Here's my situation, as far as I understand it:

My official salary is $75k (over Trad. IRA deduction limit), but since I started this job in June I only made ~$40k in 2014. This means that, for 2014 only, I could deduct Trad. IRA contributions.

Upside #1: If I deducted $5500 from my income it would save me ~$800 in taxes this year.

Upside #2: I could then invest that $800.

To recharacterize a year's worth of Roth IRA contributions to Traditional, I would need to open a brand new Trad. IRA account. I would need to do the math and move both the $5500 I put in and whatever those contributions have earned over the year. This money would then sit, by itself, in the Trad. IRA until some future year when I'm ER and can convert it back to Roth without heavy taxes.

Downside #1: I would have less than $6000 in this account, and I would never contribute to it again (since from 2015 onward I'll definitely do Roth). This means I would pay higher expense ratios on Vanguard's index funds - maybe $70/year more than I would if I added the same amount to my Roth, which already has enough in it to qualify for Admiral shares.

Downside #2: I'm pretty sure this would make this year's tax return significantly more complicated - 3 or so extra forms. I'm nervous enough about doing my own taxes as it is.

Help? I know everything will be fine if I leave it how it is right now, but the possibility of that $800 is tempting. Would jumping through all the necessary hoops be worth it? What am I overlooking?

aetherie

  • Pencil Stache
  • ****
  • Posts: 809
  • Age: 28
Re: Roth IRA -> Traditional: does it make sense in my situation?
« Reply #1 on: January 27, 2015, 10:29:02 AM »
If you make $75k and max out your 401k this year for $18k, that puts you at $57k.  So long as your MAGI is below $61k, you can take the full tIRA deduction.

Thank you! I didn't know that. And yes, I am maxing out my 401k.

charis

  • Handlebar Stache
  • *****
  • Posts: 2014
Re: Roth IRA -> Traditional: does it make sense in my situation?
« Reply #2 on: January 27, 2015, 10:37:46 AM »
What forms would you need to file after a recharacterization to a tIRA?  I did one recently with Vanguard, so I am wondering about this.

aetherie

  • Pencil Stache
  • ****
  • Posts: 809
  • Age: 28
Re: Roth IRA -> Traditional: does it make sense in my situation?
« Reply #3 on: January 28, 2015, 11:24:10 AM »
jezebel, the Vanguard customer service lady I talked to yesterday said IRS Form 8606.

charis

  • Handlebar Stache
  • *****
  • Posts: 2014
Re: Roth IRA -> Traditional: does it make sense in my situation?
« Reply #4 on: January 30, 2015, 09:59:30 AM »
My understanding, after reading the IRS instructions, is that you do not have to fill out the form if you re characterized a Roth contribution into a tIRA IF the entire contribution is deductible (which mine is).  But you do have to attach a statement explaining the recharacterization, either way - which I am not sure how to do with e-filing software.  Just found place in my software where I submit the statement.
« Last Edit: January 30, 2015, 10:14:23 AM by jezebel »

rmendpara

  • Pencil Stache
  • ****
  • Posts: 602
Re: Roth IRA -> Traditional: does it make sense in my situation?
« Reply #5 on: January 30, 2015, 10:51:10 AM »
Others already suggested how you can change it up, so I'll just add that if you are fully contributing to your 401k, or close to it, ~18k in pretax and 5.5k in post tax (Roth) doesn't seem like a bad way to go.

Of course, if you wanted it all pre-tax that is also great. The important thing is you are saving 23.5k on a 75k income. Awesome!!!