Taxpayers who made a regular-IRA-to-Roth-IRA conversion in 2017 may regret their decision due to factors such as market declines. Fortunately, such taxpayers may unwind their conversions, but they must act no later than Oct. 15, 2018.
Taxpayers who believe Roth IRAs are a better choice for them than regular IRAs may convert funds from regular IRAs to Roth IRAs within 60 days of the distribution. Additionally, a distribution from a Code Sec. 401(a) qualified plan can be:
1. Contributed to a Roth IRA through a direct rollover; or
2. Received by the distributee and contributed (rolled over) to a Roth IRA within 60 days.
Unlike the usual IRA rollover, however, a switch from regular IRA or qualified plan to Roth IRA is not income-tax-free. Rather, it is subject to tax as if it were distributed from the regular IRA or qualified plan and not recontributed to another IRA but it generally isn’t subject to the 10% premature distribution tax.
Some taxpayers who made a regular-IRA-to-Roth-IRA conversion may find the move was not to their advantage, for example, because the Roth IRA account has declined in value because of a stock market slump.
Early in 2017, Jim converted a regular IRA invested in an aggressive mutual fund to a Roth IRA invested in the same mutual fund. At that time, the regular IRA had a $100,000 balance, all of it attributable to deductible contributions and their earnings. Because of some poor investment choices by the fund, Jim’s Roth IRA currently is worth only $70,000. If he does nothing, Jim will have effectively paid tax on $30,000 of evaporated income.
Last chance to back out.
Jim, or any other taxpayer in this situation, may unwind the 2017 transaction by recharacterizing the regular-IRA-to-Roth-IRA conversion no later than Oct. 15, 2018. This involves transferring the converted amount (plus earnings, or minus losses) from the Roth IRA back to a regular IRA via a trustee-to-trustee transfer. If the taxpayer had converted qualified plan account proceeds to a Roth IRA, he can recharacterize all or part of the amount by making a direct, trustee-to-trustee transfer to a regular IRA. Assuming the taxpayer timely filed his 2017 return, he should file an amended return for 2017 reflecting the recharacterization (the notation “Filed pursuant to section 301.9100-2” should be made on the return). (Instructions to Form 8606 (2017), p. 4)
A regular-IRA-to-Roth-IRA conversion made after Dec. 31, 2017, cannot be recharacterized. More specifically, the rule allowing taxpayers to recharacterize Roth IRA contributions and regular IRA contributions does not apply to a post-2017 conversion contribution to a Roth IRA. The TCJA also prohibits recharacterizing amounts rolled over after 2017 to a Roth IRA from other retirement plans, such as Code Sec. 401(k) or Code Sec. 403(b) plans.
Although recharacterization can no longer be used to unwind a Roth conversion, it is still permitted with respect to other contributions. For example, an individual may make a contribution for a year to a Roth IRA and, before the due date for the individual’s income tax return for that year, recharacterize it as a contribution to a regular IRA. In addition, an individual may still make a contribution to a regular IRA and convert the regular IRA to a Roth IRA—but the individual cannot later unwind the conversion through a characterization.
Source: Checkpoint Newstand 9/11/18