Last month on Technical Tax Tuesdays, I wrote about Roth recharacterizations in general, and gave an example of a simple recharacterization. This month, I’ll look at a more complex recharacterization.
As mentioned in last month’s column, the tax consequences of a Roth recharacterization are simple if no other money has been put into the Roth IRA other than the money converted from a traditional IRA. Click here to find last month’s column.
The calculation of a Roth recharacterization can be more complicated if you’ve made other contributions into the Roth IRA beyond the traditional IRA conversion. Here is an example:
You have a traditional IRA with an account balance of $50,000 and a Roth IRA with an account balance of $10,000. You convert the traditional IRA into the Roth IRA, giving the Roth IRA a balance of $60,000. A few months later, the market drops and your Roth IRA drops to $54,000. You decide to recharacterize the traditional IRA conversion back into a traditional IRA.
To calculate the recharacterization amount, you have to allocate the loss between the converted traditional IRA money and the existing Roth money.
- STEP 1: $50,000 was the amount of the original conversion.
- STEP 2: $54,000 was the account balance on the date of recharacterization.
- STEP 3: $60,000 was the account balance immediately after the conversion.
- STEP 4: $6,000 is the amount of the loss from the date of the conversion ($60,000 – $54,000).
- STEP 5: Take $-6,000 divided $60,000 = -.10.
- STEP 6: Multiply -.10 x $50,000 = $-5,000.
- STEP 7: Take the original conversion amount of $50,000 and add the amount from Step 6. In this case, that equals $45,000.
“This blog post, along with comments that may follow, should not be considered tax advice. Before you make final tax or financial decisions, please secure a professional tax advisor to give you advice about your unique situation. To secure Jason as your accountant, please click on the ‘Services’ link at the top of the page.”