How to Structure and Report Recharacterization & Backdoor Roth

[jcs94]

So here is the timeline of events for my situation:

March 2020: I contribute $4,585 to Roth IRA for tax year 2019

May 2020: I realize that I contributed too much (MAGI was slightly higher than expected) so i recharacterize $240 from Roth to a newly created Traditional IRA

May 2020: I also contribute an additional $350 to the aforementioned newly created Traditional IRA

June 2020: I file my taxes with Form 8606 included. Line 1, Line 3, and Line 14 are all $590. Other than those three lines nothing else is filled out on this form. 

Feb 2021: I receive a Form 1099-R for 2020 for $240 with a Box 7 value of "R"

Fast forward to today, I forgot to convert the $590 sitting in the traditional IRA into Roth so it's still sitting there.

I also intend to contribute the full $6,000 into a traditional IRA for tax year 2020 (but have not done so yet) and will backdoor this into my Roth. 

Here are the questions I was hoping you guys could help me with:

1. In terms of tax reporting have I done everything correctly thus far?

2. Should I convert the $590 into my Roth before doing the $6,000 transaction or is the timing of this irrelevant?

3. What should my tax reporting look like for tax year 2020 (aka the tax return that i am working on right now)?

Thank you so much in advance!

[JohnB5677]

1. In terms of tax reporting you have done everything correctly thus far.  

2. You can convert the $590 and the $6,000 transaction into your ROTH together.

3. Your tax reporting for tax year 2020 will show deductible traditional IRA contributions that are recharacterized to a taxable ROTH conversion.

A backdoor Roth IRA allows you to get around income limits by converting a Traditional IRA into a Roth IRA. Contributing directly to a Roth IRA is restricted if your income is beyond certain limits, but there are no income limits for conversions.

Doing a backdoor Roth conversion is a two step process.

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[jcs94]

Thanks for the response. One correction: my contributions to the traditional IRA were not deductible since my income was too high. Does that change anything?

Also, what about the fact that I put the $590 into the traditional IRA in 2020 but will not be converting that to Roth until 2021...how does that impact my reporting?

[DanaB27]

The 1099-R 2020 with code R belongs on your 2019 tax return but a 1099-R with code R will do nothing to your return.  It seems that you already reported everything correctly in regards to the nondeductible recharacterization ($240) and nondeductible traditional IRA contribution ($350) on your 2019 tax return.  

If you decide to contribute the $6,000 the the traditional IRA for 2020 then follow these steps on your 2020 return (you will enter the previous basis of $590 that was a contribution for 2019, see step 9):

1. Login to your TurboTax Account 
2. Click on "Search" on the top right and type “IRA contributions”
3. Click on “Jump to IRA contributions"
4. Select “traditional IRA”
5. Answer “No” to “Is This a Repayment of a Retirement Distribution?”
6. Enter the amount you contributed
7. Answer “No” to the recharacterized question on the “Did You Change Your Mind?” screen
8. Answer the next questions until you get to “Any Nondeductible Contributions to Your IRA?” and select “Yes” if you had a nondeductible contributions before this tax year.
9. If you had a basis in the Traditional IRA before then enter the amount. (In your case $590)
10. On the “Choose Not to Deduct IRA Contributions” screen choose “Yes, make part of my IRA contribution nondeductible” and enter the amount.

When you decide to convert the amount total amount in the traditional IRA to your Roth IRA in 2021 then on your 2021 tax return you will enter this:

1. Login to your TurboTax Account 
2. Click on "Search" on the top right and type “1099-R”
3. Click on “Jump to 1099-R”
4. Click "Continue" and enter the information from your 1099-R
5. Answer questions until you get to “Tell us if you moved the money through a rollover or conversion” and choose “I converted some or all of it to a Roth IRA”
6. On the "Your 1099-R Entries" screen click "continue"
7. Answer "yes" to "Any nondeductible Contributions to your IRA?" if you had any nondeductible contributions in prior years.
8. Answer the questions about the basis

Only the earnings will be taxable because you had the basis in the traditional IRA.

[jcs94]

Thank you for the detailed response. I am double-checking my work on the actual Form 8606:

Since I forgot to do the Roth IRA Conversion during calendar year 2020 my answer (for my 2020 return) to the Line 3 question is once again "No" and therefore I would only fill out Lines 1, 2, and 3 and then skip all the way down to Line 14. Correct?

So basically I think all I need to do is this: https://www.screencast.com/t/9itixcDb

In case the link doesn't work for anyone:

Line 1 = $6,000

Line 2 = $590

Line 3 = $6,590

Line 14 = $6,590

In Line 2 where it says "Enter your total basis in traditional IRAs" <--What time period is this question referring to? Shouldn't this question say something like "Enter your total basis in traditional IRAs as of 12/31/2020" or something like that?

Also, why doesn't this question differentiate between whether or not the "basis" has already been taxed or not?

[DanaB27]

Yes, since you didn't convert the amount in 2020 you will answer no and skip to line 14. Your entries are correct.

Line 2 is the basis reported on the previous Form 8606 line 14. Therefore, in 2020 this is the basis prior to 2020. Please see Form 8606 instructions line 2 and  8606 Instructions Basis chart for details.

A basis means that it was already taxes/ that it was nondeductible. Pre-taxed amounts are not included in the basis.

[jcs94]

Ok so while this stuff is still fresh in my head I want to plan ahead to next year when I will be filing my 2021 return.

So my 2020 return is going to have $6,590 on Line 14.

Lets say I have the following actions taking place this month (March 2021):

-I do the "backdoor" process to convert the $6,590 non-deductible funds currently sitting in my traditional IRA to the Roth (so this is the $590 from 2019 + the $6,000 for 2020)

-I also do my 2021 contribution and backdoor conversion for $6,000.

Next year when I am working on the 2021 Form 8606, is my Line 2 Basis $6,590 or zero or some other number?

[DanaB27]

Yes, line 2 of Form 8606 in 2021 will be $6,590 and line 1 will have the $6,000 nondeductible 2021 contribution. If you convert the whole amount to the Roth IRA then line 14 will be $0. 

The only amount that will be taxable will be any earnings that you have in the traditional IRA. 

[jcs94]

Another question I forgot to mention in my original post: When I enter my 2020 $240 1099-R into TurboTax it says "Looks like you may need to amend your 2019 return" Any idea(s) why it would say that and if I really do need to amend my 2019 return?

2020 1099-R has the following values:

Box 1 = $240

Box 2a = $0.00 

Box 2b = Blank

Box 4 = $0.00

Box 7 = "R"

All other boxes are empty

[jcs94]

@DanaB27  - Any thoughts regarding my 1099-R question (with regards to needing to amend my previous years taxes)?

[DanaB27]

1099-R 2020 with code R-Recharacterized IRA contribution made for 2019 belongs on the 2019 return and is for the recharacterization. But a 1099-R with code R will do nothing to your return. 

And it seems that you already reported everything correctly in regards to the nondeductible recharacterization ($240) on your 2019 tax return therefore you do not need to amend you return.

For review the steps to report the recharacterization:

1. Open your return
2. Click on "Search" on the top right and type “IRA contributions”
3. Click on “Jump to IRA contributions"
4. Select “Roth IRA”
5. Answer “No” to “Is This a Repayment of a Retirement Distribution
6. Enter the Roth contribution amount 
7. Answer “Yes” to the recharacterized question on the “Did You Change Your Mind?” screen and enter the contribution amount (no earnings or losses)
8. TurboTax will ask for an explanation statement where it should be stated that the original $xxx.xx plus $xxx.xx earnings (or loss) were recharacterized.
9. On the screen "Choose Not to Deduct IRA Contributions" answer "Yes"

[jcs94]

Thanks for the quick response.  Are the instructions you just shared for how to report the $240 on this years taxes?

Here's where I am getting confused: You said "1099-R 2020 with code R-Recharacterized IRA contribution made for 2019 belongs on the 2019 return and is for the recharacterization."

So does that mean I am supposed to ignore 1099-R 2020 on this years taxes?

[DanaB27]

Yes, you will ignore the 1099-R 2020 with code R on your 2020 return.

No, the recharacterization happen for a 2019 contribution, correct? The $240 recharacterization instructions are for 2019. I had the impression that you had reported that on your 2019 return since you had the correct amount on line 3 of Form 8606. If not then you will have to amend your 2019 return to correct your entries. How do I amend a 2019 return in TurboTax?

[jcs94]

Hmm, ok maybe this would be easier if I show you exactly what my 2019 8606 looked like: https://www.screencast.com/t/KsGUyORK

So as you can see the 2019 8606 does indeed properly reflect the $590 (of which $240 was the recharacterized amount)

So the primary source of confusion for me at this point is the 2020 Form 1099-R...The $240 did indeed pertain to a 2019-tax-year-contribution but the recharacterization took place in May 2020 (see original post for full timeline). I just assumed since it is clearly marked as "2020" that this meant I needed to reflect it on my 2020 return...

So I believe my options are as follows:

1. Amend my 2019 return to reflect this 2020 Form 1099-R

2. Include this 2020 Form 1099-R on my 2020 return

3. Disregard it completely and do not include it on my 2019 OR 2020 returns

Which one should I do?

[DanaB27]

Option 3: Disregard it completely and do not include it on your 2019 OR 2020 returns.

Since the recharacterization happened in 2020 before the due date of your 2019 return for a 2019 contribution the 1099-R has the code R in box 7. This code R indicates on a 2020 Form 1099-R it belongs on a 2019 tax return (if you would enter it in your 2020 tax return TurboTax would tell you it belongs on the 2019 return).

But a 1099-R with code doesn't do anything to your return when you enter it in 2019 and say it is a 2020 1099-R Form. It only gives the IRS information that a recharacterization happened.

To report a recharacterization in TurboTax you will have to enter it like I mentioned above. 

Did you enter the full $590 as a traditional IRA contribution on your 2019 return?

Or did you enter $350 as directly contributed to the traditional IRA and then the $240 under Roth IRA contribution and then recharacterized with the steps above?