Question about conversion to Roth IRA

[Pacun]

MFJ who made 140K in 2009 want to open a Roth IRA for 10K before April 15, 2010 for tax year 2009 (5K each). Non of them were covered by a retirement plan at work. They won 100K from the lotto. The other 40K is from their regular jobs. Every year they make about 35K to 40K and most likely that will be their situation for the next 5 years. Instead of paying taxes on those 10K in 2009, don't you think they could open a traditional IRA on April 15, 2010 and go back to the bank the next day and roll it over to a ROTH IRA and pay taxes in tax years 2011 and 2012? Am I correct? Have you thought about this situation?

[kcjenkins]

Had not, but it makes sense.

[BulldogTom]

Pacun,

I like your thinking. Not sure if it will fly because I have not researched it.

The only caution I would give is - we don't know what the tax rates are going to be in the next two years. This administration and congress has been so wrapped up in the HC debate that tax law has been pushed to the side. The administration has indicated new tax increases, but has not made any firm proposals to congress. By this strategy, you are sending your clients into an unknown.

I still like the idea of taking a tax deduction this year and paying it over the next two.

Tom

Lodi, CA

[JohnH]

Glad I found this discussion. I just had a client email me with this very question which their financial planner posed to them.

Seems to me it would work because non-deductible IRA's are eligible for Roth conversions - you just have to break out the taxable earnings and pay tax on that portion. So an immediate conversion would not generate any tax liablity since the earnings would be virtually nothing.

This taxpayer expects to be near the contribution limit in 2010 as well, and the planner also suggested going ahead and doing the non-deductible IRA for 2010 and then doing an immediate conversion of that amount as well. This relieves them of the necessity of adjusting the contribution by Apr 2011, which is what they would have to remember to do if they simply put it directly into a Roth in 2010.

[Pacun]

"The only caution I would give is - we don't know what the tax rates are going to be in the next two years. This administration and congress has been so wrapped up in the HC debate that tax law has been pushed to the side. The administration has indicated new tax increases, but has not made any firm proposals to congress. By this strategy, you are sending your clients into an unknown."

Tom,

I made my scenario so I covered all the basics. Remember, they got $100,000 for the lotto this year. In the next 5 years, MFJ will make 35K to 40K. Regardless of what Congress or the president devices, it will not affect them much.