@Bbrun200587 wrote:
Thanks for your help. The original story is long but I assure you, it was an oversight. The account started with a zero balance, no money was every transferred, only deposits from her checking account. Last question, would it be taxed as ordinary income or at a capital gains rate?
What you are asking is to do a conversion from a traditional to a Roth IRA account. By default, the conversion is always taxable. If you can prove you made non-deductible contributions, that part of the conversion will be non-taxable, but the gains (which have been growing tax-free) will be taxable.
You prove that your contributions were tax-deductible by filing form 8606 each year that you made non-deductible contributions. So at a minimum, you need to go back 5 years and file amended tax returns to report the non-deductible contributions and generate a form 8606 for each year. Each form will build off the previous one, if you opened the account in 2019, you need a form 8606 for 2019. Then if you contributed in 2020, you will take the info from the 2019 form 8606 plus the new contribution info to generate a new form 8606 for 2020, and so on.
(For your 2021, 2022 and 2023 tax returns, it would be possible to amend your returns to take the tax deduction and get a refund. But then, much more of the conversion will be taxable and you will just have to pay that refund back as taxes when you do the conversion.)
File all the amended returns separately. You will need to prepare 2019 and 2020 by hand or seek another tax preparer, because turbotax is not supported that far back. Keep copies of the form 8606s with your other important tax papers for 7 years after the Roth conversion, in case of audit.
For the 2024 contribution specifically, you can leave it in the account, or remove it. But it won't really hurt to leave it in, since there won't be very much earnings from a recent contribution and if you don't take the deduction, it won't be taxable.
Then, you will be prepared to do the conversion. The simplest thing is to convert the entire account to a Roth. Suppose that over the years, you made $38,000 of non-deductible contributions and the account balance is $60,000 due to gains. The $38,000 conversion is tax-free and the other $22,000 will be taxable. However, you are not allowed to only convert the contributions. All conversions are pro-rated, so if you did try to convert a smaller amount, it would still be 63% tax-free and 37% taxable. The conversion, the non-deductible portion and the taxable portion will be reported and calculated on your 2024 tax return, assuming the conversion is done during 2024.
