Backdoor Roth IRA: Avoiding Pro-Rata Rule

[liuml07]

Hi,

I have a question, and would like to get insights from here.

On 2019 Jan 1st, I held some traditional IRA balance $5000 funded from pre-tax 401K rollover. I liked the backdoor Roth IRA trick, but I was aware of the pro-rata rule. So in 2019 I did not contributed after-tax $6000 to the traditional IRA nor did I convert the traditional IRA to Roth IRA. But since I was aware of the pro-rata rule, on 2019 Oct 1st, I did a reverse rollover from my traditional IRA to the pretax 401K plan.

So on 2020 Jan 1st, I had no traditional IRA balance. Now my question is: can I contribute to 2019 traditional IRA on 2020 Feb 1st and convert to the Roth IRA 2020 Feb 2nd, without triggering pro-rata rule? The assumption is that, in 2020, I'll not contribute any pretax fund to traditional IRA.

Am I doing this wrongly, or it's just working fine?

Thanks!

[dmertz · Accepted solution]

Well, the pro-rata calculation for a traditional IRA distribution in 2020, including a Roth conversion, depends on your December 31, 2020 balance in traditional IRAs.  As long as you don't move any pre-tax money back to your traditional IRAs before the end of 2020, the taxable amount of your Roth conversions will only be the amount of any investment gain during the short time the money is in your traditional IRA.

Assuming that you are eligible to contribute to a traditional IRA for 2020 as well as for 2019, there is no reason not to make both your 2019 and 2020 traditional IRA contributions on February 1, 2020 and convert the entire amount to Roth at once.  Just make sure that you still have a $0 traditional IRA balance on December 31, 2020.  Your nondeductible contribution for 2019 will appear on 2019 Form 8606 Part I line 1 and will be included in the sum on line 14.  Line 14 of your 2019 Form 8606 will transfer to line 2 of your 2020 Form 8606 to be added to the amount of your contribution for 2020 on line 1.  The result will be applied to your Roth conversion to determine the taxable amount of the conversion.

Since you made no distributions from your traditional IRAs in 2019 that you did not fully roll over, your December 31, 2019 balance is irrelevant.

[liuml07]

@dmertz Thank you very much!

[shabuboy]

I also was interested in doing a backdoor ROTH IRA as well this year, and my research shows the rules changed a bit. Does the above still apply? Is it a sum of all traditional IRA accts?

I was hoping to open a new traditional IRA acct, deposit post-tax $6000 and then convert to ROTH.

It seems as long as you take a full distribution, then you can separate the amounts that are pre-tax and post-tax, if you have both.

The below was found at www.irs.gov/retirement-plans/rollovers-of-after-tax-contributions-in-retirement-plans

Prior distribution rules

Prior to the 2014 guidance, each distribution from a participant’s account contained a pro rata share of both the pretax and after-tax amounts. For example, if a participant’s account was 80% pretax, then each distribution or rollover was made up of 80% pretax and 20% after-tax. A transfer of pretax amounts to one destination and after-tax amounts to another could have been done through a 60-day rollover, but the distribution was subject to mandatory 20% withholding on the pretax amounts.

Transition rules

Taxpayers can use the new rule for distributions on and after September 18, 2014. For distributions prior to September 18, 2014, taxpayers can also use the new rule, except for distributions from designated Roth accounts.

Still confusing as hell though.

[dmertz]

shabuboy, the rules for prorating distributions from traditional IRAs have never changed.  The guidance you are looking at has to do with split distributions from traditional accounts in qualified retirement plans like a 401(k), nothing to do with distributions from IRAs.

[shabuboy]

Gotcha!!!  Thanks...

[shabuboy]

So if it applies to 401k only, can I contribute post-tax $6k to my current employer plan (assuming it is permitted) and then once I separate from the company, request a rollover of the $6k to a ROTH IRA and the rest to a traditional IRA?

[dmertz]

You can only contribute post tax to the employer plan if it permits post-tax contributions.  But assuming that you can, yes, you can later split the rollover with the pre-tax money going to a traditional IRA and the post-tax money going to a Roth IRA.

[JeffAlmonte89]

Thanks for clarifying, that was very helpful!

[kaaraa69]

This year I did the Backdoor Roth IRA for both my wife and myself; $7000 each, as we are both over age 55.

The money is deposited in a Traditional IRA at our bank, and 100% is converted to both our Roth IRAs, and the Balance of both our Traditional IRAs is ZERO every year on 31 DEC, so the Pro Rata Rule does not affect this action.

Additionally, my wife rolled over $100,000 from the 401K from her work, into this same Traditional IRA at the Bank. This money was converted to her Roth IRA along with her $7000 contribution, as mentioned above.

For some reason, Turbo Tax is NOT taxing that $100,000 as taxable income. 

I have entered VERBATIM the 3 1099-Rs that pertain to this eventual conversion to a Roth IRA.

Repeated "Smart Checks" find "No Errors", but I know something is wrong, and I have been going through the questions step by step to fix this.

Any clues on what I am doing wrong?

[dmertz]

kaaraa69, based on your description I would expect one $7,000 Form 1099-R for your Roth conversion, a $100,000 Form 1099-R for the rollover from the 401(k) to your wife's traditional IRA and a $107,000 Form 1099-R for the Roth conversion for your wife's Roth conversion.  Indicating that the $107,000 was converted to Roth should cause $100,000 to be added to income. 

Is it possible that the rollover from the 401(k) was directly to the Roth IRA rather than first being rolled over to your wife's traditional IRA?  If so, I would expect the $100,000 Form 1099-R to have $100,000 in boxes 1 and 2a and code G in box 7.  Then her other Form 1099-R would only show a rollover of $7,000.

I'm assuming that all amounts were rolled over to the Roth IRA in 2020.

[Gurmeet Saran]

I have a similar situation..but I first did roth conversion of 6000$ on Jan 6 which was my after tax money moved from Traditional IRA to Roth IRA. Next I moved my 401k pre tax money to Rollover IRA and then did roth conversion from this Rollover IRA to same Roth IRA on Jan 15. Does 6000$ after tax money fall under pro rata rule

[Stevehofwa]

So you could have a large traditional pre tax Ira balance, and still make a non deductible contribution, convert the non deductible contribution into a Roth without taxes, as long as the traditional pre tax money was moved back into a 401k by the end of the conversion year.   So you don’t have to wait to do the conversion until your traditional Ira balances are zero, just make sure that happens by Dec 31.  -correct?

[MarilynG]

Yes, you can make a non-deductible contribution to your Traditional IRA and then convert the contribution to a Roth without taxes.

You don't need to do anything with the balance in your Traditional IRA.

Click this link for steps on How to Enter a Back-Door Roth Conversion.  

[Stevehofwa]

I don’t have to anything with it right now, but I do have to zero it out(by transferring to a 401k)  by the end of the year to avoid the pro rata rule.