The new tax law eliminated the ability to recharacterize Roth IRA conversions. However, the IRS subsequently announced that any Roth IRA conversions completed in 2017 could still be recharacterized under the “old” rules. But there are only a few days left. To recharacterize, the client must transfer the converted amount, plus the net income or loss attributable, by Oct. 15. Any assets that are recharacterized can be later reconverted back to a Roth IRA. However, you have to wait more than 30 days after the recharacterization to reconvert the recharacterized assets.
With the deadline just days away, make sure every client who converted in 2017 is notified, so they don’t ask you later “Why didn’t you tell me?”
Not all 2017 Roth conversions should be undone, but they should be evaluated before the clock runs out.
This is not to say that 2017 Roth conversions should all be undone, but they should be evaluated before the clock runs out. Most clients have made money so they probably shouldn’t undo those tax-free gains, but you should ask anyway.
Now is the time to review the recharacterization rules and determine which of your clients could benefit from this last go-round. There are several reasons why a client might want to reverse a 2017 Roth IRA conversion, such as: 1) the value of the investments in the converted Roth IRA has decreased since the date of the conversion; 2) the client does not have enough cash to pay the taxes resulting from the conversion; 3) the client earned more taxable income than originally anticipated and/or the additional income from the Roth IRA conversion bumped the client into a higher federal income tax bracket
To implement this, the client (with your help) must notify the Roth IRA custodian by Oct. 15 with this info:
- Type and amount of the contribution to be recharacterized
- The date and year on which the contribution was made to the Roth IRA
- A request that the Roth IRA custodian complete a trustee-to-trustee transfer of the amount (plus the net income allocable) to the sponsor of a traditional IRA
- The identity of the sponsors of the Roth IRA and the traditional IRA
- Any other information necessary to complete the transfer
By making the election and completing the recharacterization, the Roth conversion income will be removed from 2017 taxable income. By recharacterizing, and then later reconverting, the client can end up with a Roth IRA at a lower tax cost.
Recharacterization isn’t an all-or-nothing decision. In fact, many taxpayers have used partial recharacterizations to pinpoint the exact amount to convert to fill up a tax bracket.
This is your last hurrah with a tax strategy that was unfairly demonized by various lawmakers on Capitol Hill during the tax reform debates. They called it an unfair tax avoidance tactic that was open to abuse and encouraged speculative investing. However, in reality, a recharacterization allows taxpayers to maximize tax brackets and tax spending while effectively planning for retirement. Don’t let this planning opportunity pass by you… and your clients!
