Yikes! I screwed up my Roth Backdoor Contributions. Advice appreciated.

[Tuskalusa]

Hello Fellow Mustachians!  Need some advice. 

I thought I would get all fancy this year and make Roth IRA backdoor contributions.  So, here's what I did.

 - I contributed $5,500 to a Traditional IRA
 - I meant to roll over that $5,500 contribution to a Roth IRA account
 - Instead, I screwed up and rolled the $5,500 into my Rollover IRA (non-Roth) account. 
 - When I called Vanguard to correct the transfer and move the money into my Roth account, the told me it would trigger a taxable event for my entire rollover IRA.

Not sure how to fix this.  (I even hate that I have to admit this screwup.)  Does anyone have any advice on what to do now?

Thanks!

[secondcor521]

I assume you do not qualify to deduct the $5,500 contribution because you are over the income limit.  If this is the case, there are three reasonable options:

1.  Call Vanguard and tell them that you want to withdraw your excess contribution to the traditional IRA plus any earnings (AKA net income attributable).  You will have to pay ordinary income taxes on any earnings plus a 10% penalty on the earnings if you are under 59 1/2.  You will not be entitled to any deduction or credit for the IRA contribution.  Note:  This option may have gone away once you did the rollover.

2.  Leave it in your Rollover IRA as a nondeductible IRA contribution.  You can take any deduction or credit on the IRA contribution on your taxes in the year of contribution.  But from now on, any conversion to your Roth will be treated as being taken pro-rata from your deductible and non-deductible portions of your rollover IRA.  So if you already had, for example, $55,000 in your rollover IRA, then for every $11 you move from your traditional IRA to your Roth IRA, $1 would be from the $5500 in non-deductible (and would not trigger any taxes) and $10 would be from the $55,000 in deductible (and would trigger taxes, as Vanguard hinted).

3.  Undo the contribution as in step 1, then roll the Rollover IRA into your current 401(k) if it is allowed.  Then you will be able to do a backdoor Roth next year.  There are timing considerations in doing this, and you may not have a 401(k) or your 401(k) may not allow rollovers.

[dandarc]

What secondcor521 - you effed this up before you made a mistake on the account you selected.

The procedure for doing backdoor Roth is:

1) Get any existing tIRA money into a 401K or 403B. This includes any SEP and SIMPLE IRAs - you don't get to say "this conversion is from this specific IRA account" for tax purposes when you convert.

2) Contribute to tIRA - obviously, you don't deduct it

3) Convert to the tIRA to Roth.

You missed step 1, so even if you had done step 3 to the right account, you would still have a taxable event on a portion of the conversion.

[bacchi]

As an aside, there's no tax difference between a (pre-tax) rollover and a traditional IRA.

You can even contribute to a rollover IRA the same as a traditional IRA. Some companies don't like commingled funds brought into their 401ks but the IRS stopped caring about 15 years ago.


To put it another way, you did an account transfer when you moved the money from the tIRA to a rollover IRA. You can do that all day long, back and forth, and there won't be a tax penalty.

[Tuskalusa]

Thanks for the advice. I really appreciate it.

I’m going to try for option 1. Since there is a solid paper trail across the Traditional IRA accounts, it seems that I can make a add to get it back. Fingers crossed!