Roth 5-yr period question

[Cat in OH]

TP is age 68 and started his Roth IRA 7 years ago. Additionally, he converted from his traditional IRA to the Roth in 2008, 2009 and 2010. He wants to be sure that there is no penalty if he has to withdraw so much in 2011 that, by the ordering rules, he withdraws converted amounts before their 5-year period has been reached

Reading Pub 590, I think he's okay, but want to be sure I'm following it correctly. Here's what I'm looking at:

"Additional Tax on Early Distributions...If, within the 5-year period (for a converted amount)...you take a distribution from a Roth IRA, you may have to pay the additional tax on early distributions."

It then goes on to explain the separate 5-yr period for each conversion or rollover. Two paragraphs later it says "Unless one of the exceptions listed later applies, you must pay the additional tax on the portion of the distribution attributable to the part of the conversion...that you had to include in income because of the conversion..." The first exception is "You have reached age 59 1/2."

I read that to mean that once TP is over 59 1/2, the separate 5-year rule for conversions is irrelevant?

Thanks so much for any help.

[Catherine]

Was just in a seminar today that addressed this.

For CONTRIBUTIONS, start date of the 5-year period is 1/1 of the year FOR which the FIRST contribution was made. So 1st contribution made 4/1/10 for tax year 2009 would have a contribution date of 1/1/2009.

For CONVERSIONS, EACH conversion has its' OWN start-of-the-five-year date, also considered to be 1/1 of the tax year of the conversion. So a conversion on 4/1/10 would have a conversion date of 1/1/10.

So your taxpayer should NOT over-withdraw into his less-than-five-years-old conversions.

Catherine

TP is age 68 and started his Roth IRA 7 years ago. Additionally, he converted from his traditional IRA to the Roth in 2008, 2009 and 2010. He wants to be sure that there is no penalty if he has to withdraw so much in 2011 that, by the ordering rules, he withdraws converted amounts before their 5-year period has been reached

Reading Pub 590, I think he's okay, but want to be sure I'm following it correctly. Here's what I'm looking at:

"Additional Tax on Early Distributions...If, within the 5-year period (for a converted amount)...you take a distribution from a Roth IRA, you may have to pay the additional tax on early distributions."

It then goes on to explain the separate 5-yr period for each conversion or rollover. Two paragraphs later it says "Unless one of the exceptions listed later applies, you must pay the additional tax on the portion of the distribution attributable to the part of the conversion...that you had to include in income because of the conversion..." The first exception is "You have reached age 59 1/2."

I read that to mean that once TP is over 59 1/2, the separate 5-year rule for conversions is irrelevant?

Thanks so much for any help.

[Pacun]

"So your taxpayer should NOT over-withdraw into his less-than-five-years-old conversions.

Catherine"

What happens if the taxpayer who is 68 years old over-withdraws? That's the question.

I believe nada but I will let others reply.

This is from NATP:

When does the 5-taxable-year period begin and end for purposes of a qualified distribution from a Roth IRA?

The 5-taxable-year period begins on the first day of the individual’s taxable year for which the first regular contribution is made to any Roth IRA of the individual or, if earlier, the first day of the individual’s taxable year in which the first conversion contribution is made to any Roth IRA of the individual. The 5-taxable-year period ends on the last day of the individual’s fifth consecutive taxable year beginning with the taxable year described in the preceding sentence. For example, if an individual whose taxable year is the calendar year makes a first-time regular Roth IRA contribution any time between January 1, 1998, and April 15, 1999, for 1998, the 5-taxable-year period begins on January 1, 1998. Thus, each Roth IRA owner has only one 5-taxable-year period for all the Roth IRAs of which he or she is the owner. Further, because of the requirement of the 5-taxable-year period, no qualified distributions can occur before taxable years beginning in 2003.

[Cat in OH]

Has anyone else had this situation? It is unlikely that the TP will have to over-withdraw and cut into the less than 5 year conversions, but he really wants to be sure that he won't be penalized if he does.

Thanks, Cathy

[LindaB]

I think you have to go back to the definition of a qualified distribution (from pub. 590):

A qualified distribution is any payment or distribution from your Roth IRA that meets the following requirements.

1. It is made after the 5-year period beginning with the first taxable year for which a contribution was made to a Roth IRA set up for your benefit, and

2. The payment or distribution is:

a. Made on or after the date you reach age 59 1/2,

b. ...

c. ...

d. ...

According to this, wouldn't any distribution he took be a qualified distribution? There is also a flow chart in pub. 590, figure 2-1, to determine if a distribution from a Roth is a qualified distribution:

Start Here: "Has it been at least 5 years from the beginning of the year in which you first set up and contributed to a Roth IRA?" -> yes -> "Were you at least 59 1/2 years old at the time of the distribution?" -> yes -> "The distribution from the Roth IRA is a qualified distribution. It is not subject to tax or penalty."

[Gail in Virginia]

I think, that if you re-read the same section of Pub 590 more carefully, that you are both right and wrong. If you are over 59 1/2, you do not have to pay the 10% penalty on the amount that you converted and of course you do not have to pay income tax on it because you already paid the income tax on it at the time you converted it. However, if you withdraw earnings on the amount that you converted within the 5 year period for that conversion, it is taxable income even though there will be no penalty since you are over 59 1/2.,

Example: In May 2006 you convert your $10,000 traditional IRA to a Roth IRA. Your 5 year holding period begins 1/1/06. In 2010, you withdraw the entire amount of the conversion plus the earnings - maybe $10,500. If you are under 59 1/2, then you will pay income tax on the $500 earnings plus penalty on the $10,500 withdrawal. If you are over 59 1/2, you will pay income tax on the $500 earnings. However, if you wait until 1/1/11 and make the same withdrawal, then if you are under 59 1/2 the situation is the same because it is still not a qualified distribution. BUT if you are over 59 1/2, there will be no tax consequences because you have met both tests for a qualified distribution.

At least, that is the way that I understand this from reading Pub 590. So there may be consequences to not leaving a conversion in for five years, but not as substantial as if you were under 59 1/2.