The ERISA consultants at the Columbia Management Retirement Learning Center Resource Desk regularly receive calls from financial advisors on a broad array of technical topics related to IRAs and qualified retirement plans. A recent call with an advisor in New Jersey is representative of a common inquiry involving Roth IRA conversions. The advisor asked:
“Is it possible for my client to ‘undo’ a 2013 conversion at this point in 2014?”
Highlights of Recommendations
- As late as Oct. 15, 2014, it may be possible to undo a Roth IRA conversion completed in 2013. The IRS will allow taxpayers to undo an unwanted Roth IRA conversion for any reason without tax or penalty as long as it is done by the deadline, which is generally October 15 of the year following the year of conversion. This transaction is called a “recharacterization.” The recharacterization timeframe is connected to when your client files his or her tax return.
- Note that if your client has completed a conversion of 401(k) assets to a designated Roth account within the plan (rather than to an external Roth IRA), he or she would not be able to recharacterize the in-plan conversion.
- For a Roth IRA conversion completed in 2013, if your client filed his or her 2013 tax return on time (i.e., by April 15, 2014) he or she could recharacterize the unwanted conversion without tax or penalty at any time up to October 15, 2014. Of course, he or she would have to properly amend the 2013 tax return to reflect the recharacterization.
- For a conversion completed in 2014, if your client files his or her 2014 tax return on time (i.e., by April 15, 2015) the individual would have until Oct. 15, 2015 to recharacterize the unwanted conversion without tax or penalty.
- To accomplish a recharacterization, your client would need to transfer the converted amount, along with any gains or losses, back to a traditional IRA within the prescribed IRS timeframe.
- What’s more, following a recharacterization, your client could reconvert a similar amount to a Roth IRA after satisfying the required waiting period for a “reconversion.” The required waiting period ends on the date that is the later of either:
- 30 days after the recharacterization or
- January 1 of the year following the conversion.
For example, Tom converted a portion of his 401(k) plan assets in 2013. He filed his 2013 tax return on April 15, 2014. Thom elects to recharacterize his 2013 conversion to a traditional IRA on Oct. 15, 2014 and amends his tax return. The soonest Tom could reconvert would be Nov. 14, 2014.
- As a rule of thumb, if a client converts and recharacterizes in the same year, he or she must wait until the following year to reconvert.
The following example illustrates the conversion/recharacterization/reconversion cycle. Click here to view a larger-sized version.
Conclusion
The IRS’ Roth IRA conversion/recharacterization/reconversion rules give taxpayers a great deal of flexibility if the proper process steps are completed within the set deadlines. Clients who are contemplating any of the three actions should carefully discuss them with their tax advisors.
The Columbia Management Retirement Learning Center Resource Desk is staffed by the Retirement Learning Center, LLC, a third-party industry consultant that is not affiliated with Columbia Management. For informational purposes only. Please consult a tax advisor or attorney for specific tax or legal needs. © 2014 Columbia Management Investment Advisers, LLC. Used with permission.
