Friday, January 21, 2011

Pro-Rata Rule, Roth Recharacterizations Highlight Mailbag

This week's Slott Report Mailbag talks about the pro-rata rule, Roth recharacterizations and the income limits on Roth IRA contributions. As always, we stress the importance of working with a competent, educated financial advisor to keep your retirement nest egg safe and secure.



I did a partial Roth Conversion in 2010 in my (only) Traditional IRA.

Now I want to recharacterize it.

If I recharacterize it, could I then transfer part of that (once again all) traditional IRA funds into another fund company this year (2011)? Will the IRS allow that?

Thank you,
C. T.

Yes you have until October 15, 2011 to recharacterize a Roth IRA conversion done in 2010. After putting the funds back into a traditional IRA you can move the funds to another fund company at any time. If you want to reconvert the funds to a Roth IRA you will have to wait until 30 days have passed from the date of your recharacterization.


Good morning,

I have been contributing to both Traditional or Roth IRAs over the past several years all in compliance with the IRS tax codes. I also have been keeping my pre-tax and after-tax Traditional IRA contributions in separate IRA accounts.

I would now like to convert my after-tax IRA account into my Roth IRA account without paying any taxes at this time.

Will I be in compliance with the IRS tax codes, since I have been keeping my pre-tax and after-tax accounts separate and can, without question, show that they are only after-tax contributions that I am converting?

It was my understanding that if you have more than one IRA account, you just have to figure the amount to be recharacterized only on the account from which you withdraw the contribution.

Thank you for your help!

Jeff Wertz

Unfortunately there is what is called a pro-rata rule that applies to all IRA distributions, including Roth IRA conversions. Under this rule you must consider all IRAs including SEP and SIMPLE IRAs. You first add up all the non deductible amounts in all IRAs and then divide that amount by the total amount in all IRAs. That will give you a percentage that will determine the taxable and the non taxable amount applied to your total conversion amount. You can take the amount you want to convert from any one of your IRAs but you must use the pro-rata rule. All of this is explained on IRS Form 8606 and its instructions which you should have been filing with your return in each year you made an after-tax contribution to your IRA.


I recently started earning too much to contribute to a Roth IRA, so last year, I contributed (for 2009) post-tax to a traditional and converted on the same day in March of 2010 (since the MAGI limit was lifted for conversions) - earning 2 taxable cents prior to the conversion.

I now again have no money in a Traditional IRA.

I plan on doing the same thing this year, but also found out that my current employer allows after-tax 401k contributions (and their gains) to be withdrawn.

Can I roll-over my after-tax 401k contributions and gains each year into a Roth IRA and only pay tax on the gains (and since it is a rollover, would I avoid the 10% penalty for being young) and concurrently contribute to a Traditional IRA and convert to a Roth, or is there a limit on conversions/rollovers into the same account per year?


Ryan Rule

You should consult with your plan administrator to examine what they will or will not allow. They should be able to indicate when you can withdraw funds and the amount of after-tax contributions they will accept. If the plan allows you to withdraw you could entertain converting it to a Roth IRA. The once per year rule will not apply to this transaction. What you do on the plan side will have no effect on what you do on the IRA side. There is no limit on the number of conversions you can do in a year. Roth conversions are an exception to the 10% early distribution penalty.

By IRA Technical Consultant Marvin Rotenberg and Jared Trexler
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