By Andy Ives, CFP®, AIF®
In 2017, I opened a Roth IRA through my company. Being over 65, I mistakenly thought I could convert Traditional IRA funds to the Roth if I paid tax on the rollover amount. In August 2018, I had Schwab roll $50,000 into my Roth from my traditional IRA. This month (February 2019) when doing my 2018 taxes, I realized that conversions are not allowed in 2018, and withdrawals are not allowed from a Roth younger than 5 years old. What are my options for undoing this situation without paying a 6% yearly penalty? I am prepared to pay income tax on the amount.
Assuming I understand your terminology, I think I have some good news for you! First, you did NOT make a mistake. Converting Traditional IRA funds to a Roth IRA is certainly still allowed and is a great estate planning tool for the right people. What went away in 2018 was the ability to recharacterize, or reverse, an unwanted Traditional-IRA-to-Roth conversion. However, you wanted to do the conversion, so the fact that it is irrevocable should not be a problem.
Rolling money from an IRA into a Roth via a 60-day rollover or “converting” the funds directly accomplish the same thing. The amount moved from the Traditional IRA will be taxable in the year of the conversion, you will not have any penalties on the move, but you will also not be able to undo the transaction. Enjoy your Roth IRA and the tax-free growth that comes with it!
PS – If you contribute new money to a Roth IRA this year and decide that you wanted the contribution to go into a Traditional IRA (or vice-versa), those contributions can still be recharacterized. It is the Traditional-to-Roth conversions that can not be undone.
Here is some more good news. You have no reason to be concerned about a 10% penalty on the withdrawal of converted funds from your Roth IRA. Yes, there is a five-year holding period for penalty-free withdrawals of converted funds. However, this only applies to those who are under age 59 ½. The converted funds in your Roth IRA will be distributed first, and they are tax-and-penalty-free. The only five-year period you need to consider is the one for qualified distributions of earnings. You must wait five years for the earnings in your Roth to be distributed penalty-free. However, this is not as bad as it might sound because earnings are considered the last money out of your Roth IRA.
Can I contribute the maximum amounts to my Roth 401(k) and my Roth IRA in the same year?
Yes, you certainly can. As long as you have enough earned income, you can maximize your Roth IRA in 2019 with $6,000, plus $1,000 catch-up dollars for those over age 50. You can also max out your Roth 401(k) with $19,000, plus $6,000 catch-up dollars for those over age 50. That’s potentially $32,000 into tax-free retirement accounts in one year!
Question: In 2017, I opened a Roth IRA through my company. Being over 65, I mistakenly thought I could convert Traditional IRA funds to the Roth if I paid tax on the rollover amount. In August 2018, I had Schwab roll $50,000 into my Roth from my traditional IRA.