@BruceR
Correct: Massachusetts adopts the same principal as does the IRS that distributions from a deferred income IRA which contains both previously taxed principal ("basis") and accumulated untaxed income generated cause the basis to be withdrawn first so that only when the basis is exhausted do successive withdrawal recognize the untaxed income.
As to the Rollover IRA with the proceeds of the terminated §401(k) deferred income - please note that a §401(k) plan usually has two separate accounts, with one being your already taxed contributions and a second with employer-matched untaxed (as yet) contributions. It is helpful to keep the two accounts separate so that accounting for what is and what is not subject to tax liability is simple, if not then you must maintain an accounting record to properly reflect the basis. Assuming that you are only discussing your untaxed contributions to the §401K plan [NOTE: this applies at both Federal and Mass. level] , it would be best if you could segregate those untaxed principal contributions and their earnings. Otherwise you will have to and must continue to maintain an accounting that recognizes this separate basis of untaxed funds.
So see the attached PDF which presents a hypothetical Form 1099-R (since I ahve no idea what yours looks like), and then the Massachusetts relevant pages of interview and the Form 1 Schedule X. Clearly, the easiest way to address this is to use Forms Mode when you use the Desktop Product instead of the online service.
Frankly, I never use online and am not sure that you can make the manual entries into Schedule X that are required in your particular and unusual circumstance.
Your $20,000 distribution needs to be manually adjusted either in the interview in the screen shown, or else at the Schedule X level.
Actually, Massachusetts assumes that in the usual case, if you do a Roth Conversion from a deferred income acount of any type, MA assumes until you indicate otherwise that the Federal fully taxable portion is mirrored at the state level. This is one very good reason to segregate the funds between taxed (basis) and untaxed. So, going forward, assuming you make no attempt to do a segregation of funds [remembering that if an account has both basis and non-basis it is the basis that first moves out] you will annually have to make a manual adjustment, but again remembering that MASS follows the convention of first funds out are basis.
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