{"id":314740,"date":"2025-11-24T03:59:31","date_gmt":"2025-11-24T03:59:31","guid":{"rendered":"https:\/\/peraltafinancing.com\/business\/investing\/ira-social-security-income-tax-and-all-things-financial-21\/"},"modified":"2025-11-24T03:59:31","modified_gmt":"2025-11-24T03:59:31","slug":"ira-social-security-income-tax-and-all-things-financial-21","status":"publish","type":"post","link":"https:\/\/fivemor.com\/?p=314740","title":{"rendered":"IRA, Social Security, income tax, and all things financial"},"content":{"rendered":"


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Photo credit: jb<\/p>\n<\/div>\n

We\u2019ve discussed here in the past about how it is a perfectly legal maneuver to make a non-deductible contribution to a traditional IRA and then at some point later convert the same contribution to your Roth IRA (see Is it Really Allowed?<\/a> for more). If you have no other IRA accounts, this conversion to Roth can be a tax-free event, especially if there has been no growth or gains on the investments in the account.<\/p>\n

However (and there\u2019s always a however in life) I recently came across a situation that was sent to me by a reader that alters the equation. The reader wanted to do just such a Roth conversion, but he also wanted to rollover some money from his 401(k) plan into an IRA. The question is in the timing \u2013 understandably, if he does the conversion from the traditional IRA to the Roth IRA, there will be no tax on the conversion, since he doesn\u2019t have any other IRA accounts.<\/p>\n

As we know, when taking distributions from an IRA (such as for a conversion) the taxability of the distribution depends upon the total amount of money in all IRAs, and how much is pre-tax versus how much is post-tax.<\/p>\n

Here\u2019s the example: Joe has an IRA with deductible contributions of $4,000 and subsequent growth of $1,000. He is no longer eligible for deductible contributions to his account, and he also is not eligible for contributions to a Roth IRA, both due to his income level. He wants to make a non-deductible contribution of $5,000 to the IRA and then later convert the money to his Roth IRA. When he does the conversion, his $5,000 conversion will be partly taxed \u2013 since half of his total IRA is non-deductible contributions, every dollar he converts is 50% taxed, and 50% tax-free.<\/p>\n

So, if Joe did the same thing except that he starts out without any traditional IRA at all, and when he converts $5,000 from his traditional IRA to the Roth IRA, the entire amount of the conversion will be tax-free. Maybe.<\/em><\/p>\n

Back to the question that the reader posed. What happens, tax-wise, if he does the non-deductible contribution and then later converts the money to Roth, followed later in the same tax year with a rollover of his 401(k) plan into an IRA?<\/p>\n

Here\u2019s what happens: The Roth Conversion will be partly taxable. Let\u2019s say the 401(k) rollover amount is $10,000. At the end of the year, when the taxpayer files his tax return he\u2019ll include a Form 8606 to determine taxability of his distribution (the Roth conversion). On Form 8606 will be a determination of the amount of his distribution(s) from his IRA that is deemed non-taxable for the year. This is done by developing a fraction against which his distributions are multiplied. The fraction is as follows:<\/p>\n

Total Non-Deductible Contributions \/ (Year-End Account Balance + Distribution Amounts + Outstanding Rollovers Not Yet Completed)<\/p>\n

The key to this equation that makes his Roth Conversion partly taxable is the fact that the divisor of the equation includes his Year-End Account Balance<\/strong> \u2013 not the account balance at the time of his conversion.<\/p>\n

So, in the reader\u2019s question, the equation looks like this:<\/p>\n

$5,000 \/ ($10,000 + $5,000 + 0) = 33.33% or 1\/3<\/p>\n

In other words, only 1\/3 of the conversion amount will be tax-free given the circumstances. If the rollover from the 401(k) plan is delayed to the following tax year, the full amount of the conversion distribution would have been tax-free, all other things remaining the same.<\/p>\n<\/p><\/div>\n\n","protected":false},"excerpt":{"rendered":"

Photo credit: jb We\u2019ve discussed here in the past about how it is a perfectly legal maneuver to make a non-deductible contribution to a traditional IRA and then at some point later convert the same contribution to your Roth IRA (see Is it Really Allowed? for more). 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