Old Traditional IRA with non-deductible funds converted to Roth IRA

[frankiestylez]

So in 2021 I contributed $6000 of non-deductible money to a Traditional IRA and did so again in the beginning of 2023 (don't ask why I didn't do a backdoor Roth at each time, just call it not being well educated to the process). I then had a total of $12000 which has since gone up to $12400 in gains. Can I convert that money to a Roth IRA? I've already did a backdoor Roth in 2024 of $7000. Since the IRS see's the IRA as one bucket, is the $400 taxable and how would I figure that out next year? That's why I figured I convert everything and start fresh in 2025 to do a clean backdoor conversion moving forward. How will that look on my 8606 form when I do taxes for 2024 if I can? Would the basis become zero since all the funds from the Traditional IRA has been converted to a Roth? 

[AnnetteB6 · Accepted solution]

Going in to 2024, you had a basis of $12,000 in your Traditional IRA, along with $400 of earnings.  You have since added $7,000 to the basis and already converted that to a Roth IRA.  The $7,000 non-deductible Traditional IRA contribution will be reported on your 2024 tax return (unless you made the contribution for 2023 and reported it on your 2023 return).  

You will receive one Form 1099-R for 2024 to show the distribution(s) made from the Traditional IRA which was subsequently converted to a Roth IRA.  There will be only one Form 1099-R that will either show $7,000 or possibly $19,400 (if you decide to convert the $12,400 also).  Out of that $19,400, $19,000 will be basis in the Traditional IRA and will not be taxed.  The $400 of earnings will be taxable on your return.  

When doing your 2024 return, Form 8606 should show a basis of $19,000 which would leave only the earnings portion taxable.  The earnings can be converted to a Roth along with the non-deductible contributions.  The earnings are taxable when converted; the non-deductible contributions are not.  After all has been converted, your basis will be zero until another non-deductible contribution is made in the future.

[frankiestylez]

That helps a bunch! And there's no limit to how much I convert that old money from the T-IRA to the Roth, correct? I just can't contribute more for 2024 since I hit that limit. 

Now hypothetically speaking, what if the $12400 from the T-IRA takes a loss and goes down to $11500 and then I convert it to the a Roth?

[AnnetteB6]

No, there is no limit on conversion from a Traditional IRA to a Roth IRA.

If the value of the Traditional IRA drops below your basis, then the amount converted will be less than the basis and will not be taxable.

@frankiestylez 

[frankiestylez]

Now just for more educational purposes, If I chose not to convert the rest of the $12400, would the $400 still be taxable, since from my understanding, the IRS doesn't delineate when and what was contributed to the Traditional IRA. Would the Pro Rata rule go into effect and then take a percentage of the gains and factor that into the $7000 that was converted to be taxable?

[AnnetteB6]

Actually, the pro rata rule would apply because the $400 of earnings is pre-tax money.  If you did not convert the full amount of the IRA before the end of the year so that the balance is zero, then a portion of the $7000 you already converted would be taxed due to the pro rata rule.

@frankiestylez