Backdoor Roth and Basis Question

[rand90210]

I’m setting up a backdoor Roth conversion in Turbo Tax.  When setting up the 1099-R, I’m at the section:

Let us know if you have any non-deductible contribution to your traditional IRA from prior years.

I’ve never made a non-deductible IRA contribution during prior years, but in 2016 I did rollover a
before tax 401-K to a traditional IRA. 

Does this 401-K rollover to traditional IRA apply to this basis question and if so how do I handle it?

[DanaB27 · Accepted solution]

No pre-tax funds don't count for this question only after-tax would count towards the prior year basis.

But when you enter the value on December 31, 2022, you will have to include the value of all of your traditional/SEP/SIMPLE IRAs.

Please be aware, since you had pre-tax funds from your 401k rollover in your traditional IRA now the pro-rata rule applies. This means that with each distribution/ conversion, you will have a taxable and nontaxable part. You can see the remaining basis on line 14 of Form 8606, this basis can be carried forward. Therefore, each distribution/conversion in the future will have a taxable and nontaxable part until the basis is all used.

The Backdoor Roth only works if your traditional/SEP/SIMPLE IRAs are empty.  If you plan to use this strategy in the future you might want to think about a reverse rollover where you rollover IRA money to a company plan, like a 401(k). Only pre-tax funds can be rolled from an IRA to a company plan. Therefore, you would isolate the basis and could start the Backdoor Roth procedure fresh. But it only works if your employer allows it, not all plans do.

[rand90210]

Thank you so much for explaining, very helpful.  I have a question in your response.   You mentioned about the pro-rata rule.

I was aware of this so before executing the 2022 Backdoor Roth contribution (setup in March 2023 for 2022 tax year) I rolledover my full traditional IRA to my employer traditional 401K in Dec 2022. 

I assumed this would avoid the pro-rata rule.  Is that correct?

[DanaB27]

Yes, since you rolled over your full traditional IRA to your employer's traditional 401K in Dec 2022 then the pro-rata rule won't apply when you enter the conversion next year on your 2023 tax return.

On your 2022 return, you will enter the nondeductible traditional IRA contribution. You will have the 2022 Form 8606 with the basis on line 14 which will be carried over to your 2023 tax return. 

1. Open your return
2. Click “Deductions &Credits” on the top
3. Click "I'll choose what to work on"
4. Scroll down to “Traditional and Roth IRA Contributions” and click “Start”
5. Select “traditional IRA”
6. Answer “No” to “Is This a Repayment of a Retirement Distribution?”
7. Enter the amount you contributed
8. Answer “No” to the recharacterized question on the “Did You Change Your Mind?” screen
9. Answer the next questions until you get to “Any Nondeductible Contributions to Your IRA?” and select “Yes” if you had nondeductible contributions before this tax year
10. Enter your basis in the Traditional IRA from your 2021 Form 8606 line 14 (if you had a basis in the prior year)
11. On the “Choose Not to Deduct IRA Contributions” screen choose “Yes, make part of my IRA contribution nondeductible” and enter the amount (if you have a retirement plan at work and are over the income limit it will be nondeductible automatically and you only get a warning and then a screen saying $0 is deductible).

Next year on your 2023 tax return you will enter the conversion:

1. Click "Federal Taxes" on the top and select "Wages & Income"
2. Click "I'll choose what to work on"
3. Scroll down and click "Start" next to "IRA, 401(k), Pension Plan (1099-R)" 
4. Answer "Yes" to the question "Did You Have Any of These Types of Income?"
5. Click "I'll Type it Myself"
6. Choose "Form 1099-R, Withdrawal of Money from 401(k) Retirement Plans, Pensions, IRAs, etc."
7. Click "Continue" and enter the information from your 1099-R
8. Answer questions until you get to “What Did You Do With The Money” and choose “I moved it to another retirement account”
9. Then choose “I did a combination of rolling over, converting, or cashing out money.” and enter the amount next to "Amount converted to a Roth IRA account"
10. On the "Your 1099-R Entries" screen click "continue"
11. Answer "yes" to "Any nondeductible Contribution to your IRA?" if you had any nondeductible contributions in prior years.
12. Answer the questions about the basis from line 14 of your 2021 Form 8606 and the value of all traditional, SEP, and SIMPLE IRAs

[rand90210]

That's great news, thank you so much for the Turbo Tax steps, worked perfectly. 
As I was entering, I realized I have one last question related to the pro-rata rule.

I executed the transaction of moving my traditional IRA to my employer's traditional 401K in Dec 2022 and instructed my broker to roll ALL funds in the traditional IRA to the traditional 401K.   This happened in Dec 2022 and I thought my traditional IRA balance was $0.  I received a 2022 1099-R for this Dec 2022 transaction.

However in Jan 2023, $1,407 of December 2022 interest posted to my traditional IRA which I immediately rolled into my traditional 401K in Jan 2023. This will generate a 1099-R for $1,407 in 2023 tax year.  

My thinking is in Turbo Tax, I can make a 2022 1099-R for the $1,407. 

Two questions on this:

1) Is it correct to handle the $1,407 Dec 2022 interest payment on my 2022 taxes even though it was posted in Jan 2023?

2) Will this situation in any way force me to use pro-rata on this backdoor roth?

[DanaB27 · Accepted solution]

1. No, this will be reported on your 2023 tax return.

2. No, it shouldn't if your traditional IRA is $0 on December 31, 2023.