In the IRA section, TurboTax ask if you made and kept tract of any nondeductible contribution in prior years (This is not common). I must be missing something because this seems like everyone should do this. Why is this uncommon and why is it important?
Most IRA contributions are deductible in the year that you make the contribution. That's one of the biggest advantages of contributing to an IRA. So it's very rare for people to make nondeductible IRA contributions, since it cancels out one of the major tax advantages. Also, if someone wanted to contribute to an IRA without being able to deduct the contribution, contributing to a Roth IRA has significant advantages over making a nondeductible contribution to a traditional IRA. For all these reasons, it's very uncommon for people to make nondeductible IRA contributions.
One other factor is the "keeping track" part. You have to both make and keep track of nondeductible IRA contributions. Most people aren't careful about keeping financial records over long periods of time. Someone who made a nondeductible contribution to an IRA 20 or 30 years ago typically doesn't have the records anymore. They should have been filing a Form 8606 with their tax return every year, carrying forward their "basis" (total of nondeductible contributions) from year to year. But again, people aren't careful about things like that and the information tends to get lost over the course of many years. So as uncommon as it is for people to make nondeductible IRA contributions, it's even more uncommon for them to make nondeductible contributions and keep track of them.
You also asked why this is important. It's important because having basis (past nondeductible contributions) in your IRA reduces the amount that's taxable when you withdraw money from the IRA. But to take advantage of the reduction, you have to have the records of the past nondeductible contributions.
If someone's Modified Adjusted Gross Income is above the threshold for deductibility, a contribution to traditional IRA will still be beneficial since the growth portion will be tax-deferred, correct? And in this case, it will be a non-deductible IRA contribution as described in the subject is referred here, correct?
@cadore wrote:
If someone's Modified Adjusted Gross Income is above the threshold for deductibility, a contribution to traditional IRA will still be beneficial since the growth portion will be tax-deferred, correct? And in this case, it will be a non-deductible IRA contribution as described in the subject is referred here, correct?
The real expert is @dmertz but, as far as I can see, there is very little benefit to making non-deductible contributions to a traditional IRA.
The growth is tax-deferred, but when you withdraw the money you pay income tax at ordinary income tax rates. If you simply invest the money in a brokerage account (stocks, bonds, mutual funds, etc.) you pay a little tax every year instead of only when you cash out, but at least some of the income (depending on the kind of investment) is taxed as long term capital gains, so a lower rate than ordinary income. It might make sense if you were invested in income-heavy securities and expected to be in a lower tax bracket when you retire, but it doesn't make sense to me if you are invested in growth securities (capital appreciation).
You also create a paperwork mess insofar as having to keep track of basis in an account that usually has zero basis.
Thanks Champ!!
Given the limits to the (non-deductible) contribution with Roth IRA and Traditional IRA, if the intention of contributing non-deductible money to a traditional IRA is to subsequently convert it into a Roth IRA to allow it to grow tax-free, would it in your view still offer little financial advantage?
What cadore said.
Anyone with earned income can make a contribution to a traditional IRA. However, deductibility of traditional IRA contributions phases out with income (as does the ability to make Roth contributions). But the law permits higher earners to convert a traditional IRA to a Roth - the "backdoor Roth." This is a common reason someone might make a non-deductible traditional IRA contribution. However, conversion is usually done immediately after the contribution (there's no required waiting period), so non-deductible contributions from prior years would usually not be in the traditional IRA account anymore. TurboTax is not clear on this point in its instructions: you should only report past-year non-deductible contributions IF THEY ARE STILL IN THE ACCOUNT at the end of the current tax year. Note that mixing of deductible and non-deductible contributions is a little more complicated, as they can't be unmixed (and indeed is the reason for this question in TurboTax).
"you should only report past-year non-deductible contributions IF THEY ARE STILL IN THE ACCOUNT at the end of the current tax year."
As per US Tax Code, it is impossible to get all the non-deductible contributions out of the account, unless you convert or withdraw the entirety of ALL your Traditional, SIMPLE, or SEP IRAs
@fanfare @RickLamar @Bob Reardon @cadore
hey guys I was reading thru this thread. I think I have a made a few mistakes filing with TurboTax. For example, I have been doing the backdoor Roth for a few years now. You mention to only report non deductible contributions if they are still in the traditional account. If I have $0 in my traditional at end of year 2022, would it make any sense to have line 14 on my 8606 in year 2022 be $2722? Having something in line 14 thinks I still had $2722 in my traditional IRA? Thanks
This does not usually happen but it's possible the IRA basis is not used up even after you have emptied all your IRAs by conversion. This assumes you've been tracking your basis correctly all along.
why do you mention 2022?. do you see left-over basis?
start a new thread to discuss your situation.
I started a topic here:
Basically I think I have a unique situation. I accidentally recharacterized $1000 (for ease) twice from Roth to traditional bc I put it in the wrong account. This created a basis going forward from 2020 to 2021 and so forth. So end of year 2021 I ended up with $2772 on like 14 even though I actually only had $500. I feel that I reported everything correctly based on my tax forms (which included all these double recharacterizations) so now my basis does not match my actual amount in the traditional. Am I screwed pretty much going forward? I don’t really know how to remedy this besides report them as listed on the tax forms. Any advice would be appreciated.
the original thread of my problem from last year:
Investment losses can result in your basis being greater than your balance.
I see. What would be the tax implications for this? Would I owe any money bc my basis is higher than me end balance?
if my 2021 line 14 8606 is $2772, and my end of year balance in my traditional for 2022 is $0, would my line 14 for tax year be $0 to reflect this? Or would it be dependent on how much I converted for year 2022 ($6000?). I haven’t finished TurboTax this year but curious in theory and understanding. Thanks
In the past, unrecoverable basis could be claimed on Schedule A as a miscellaneous deduction subject to the 2% of AGI floor, but these deductions have been suspended through 2025.
“In the past, unrecoverable basis could be claimed on Schedule A as a miscellaneous deduction subject to the 2% of AGI floor, but these deductions have been suspended through 2025”
Hey could you explain more of this to me? I have never heard of such a thing thank you
This is discussed on page 36 of 2017 IRS Pub 590-B in the context of distributions from Roth IRAs, but the concept is the same. This deduction was suspended for tax years 2018 through 2025 by the Tax Cuts and Jobs Act of 2017.
Question, would having an outstanding recharacterization from year 2021 for an amount contributed in 2020 create a basis that can be taxed? This amount was also converted to Roth in 2021. Thank you
The recharacterization in 2021 of a Roth IRA contribution for 2020 to be a traditional IRA contribution instead could result in either a deductible contribution or a nondeductible contribution depending on your 2020 modified AGI and participation in an employer-provided retirement plan in 2020. If that contribution was nondeductible, your 2020 tax return should have included Form 8606 reporting that nondeductible contribution and would have resulted in basis shown on line 14 that would carry forward to line 2 of your 2021 Form 8606 to be used in calculating the taxable amount of any Roth conversions that you did in 2021.
thanks for the info. Yes it was a nondeductible contribution (recharacterized). My intention of doing clean backdoor Roth’s obviously didn’t work as intended. For 2021I had a cash amount ($500) at the end of the year and recharacterized amounts ($1000) in 2021 for year 2020. So essentially even though my balance in my traditional at end of year 2022 is $0, and I have converted all dollars in the traditional to Roth (including all recharacterizations 2020-2021) up to year 2022, I would still end up having some sort of basis on line 14 of 2021?
How do I get my basis back to $0 if I have nothing in my traditional? I think this is where I’m confused. Also, would I be paying taxes on only the earnings of my outstanding recharacterizations? Is the IRS interpreting my recharacterizations as a balance in my IRA as to produce a non-clean backdoor Roth, hence taxing some of these recjaracterizations?
I am unable to follow the bits and pieces of the transaction history. I would need to see a complete timeline of all of the transactions beginning with 2020 (along with any traditional IRA balance at the beginning of 2020) to be able to say what your Forms 8606 should have looked like. Note that TurboTax does special calculations when you make nondeductible traditional IRA contributions and distributions/conversions in the same year which can add to the confusion. Also, any recharacterizations done the in the year following the year in which the Roth IRA contribution was done are considered to be outstanding recharacterizations which must be included in the year-end balance on Form 8606 line 6 (or the equivalent line on Worksheet 1-1 from IRS Pub 590-B that TurboTax uses for the special calculation), which TurboTax normally does by asking about any outstanding recharacterizations.
What confuses people is trying to think of the traditional IRA contribution as being somehow intimately tied to the Roth conversion. These are two essentially independent transactions other than the fact that the traditional IRA contribution creates basis which the Roth conversion consumes in some way. The creation of the basis and the consumption of the basis is all handled automatically on Form 8606 (or Worksheet 1-1), so they should require no real thought. Enter traditional IRA contributions for the year (or the Roth contributions with recharacterization) without any thought about any Roth conversions and separately enter any Roth conversions done in the year without any thought about traditional IRA contributions.
I truly appreciate your feedback. I feel that I am grasping the overall idea, however the resulting numbers are what confusing me. Based on what you just stated I feel that I did it correctly, however if it’s possible I can provide a concise breakdown of numbers next week if you are willing to take a look.
have a great weekend!
“If that contribution was nondeductible, your 2020 tax return should have included Form 8606 reporting that nondeductible contribution and would have resulted in basis shown on line 14 that would carry forward to line 2 of your 2021 Form 8606 to be used in calculating the taxable amount of any Roth conversions that you did in 2021”
thankyou!