Roth Conversion Basics
What is a roth conversion?
A taxable distribution from a non-Roth IRA (traditional, rollover, SEP or SIMPLE, or from a non-Roth employer-sponsored plan (401(K), 403(b)(7)) that is rolled over to a Roth IRA as a direct transfer or within 60 days from the date the distribution is received by the client (indirect rollover).
How are conversions taxed? and By when does an individual need to do their conversion if they want it to count for the current year?
They are taxed as income and added to the clients taxable income for the year. For a contribution to count for the current year, they need to do their conversion by Dec 31 of that year.
Where are the taxes taken from in a Roth conversion?
The settlement fund.
What is pro rata?
When clients have both pre-tax and after-tax assets in their non-Roth IRA(s) those assets are comingled, and subsequent distributions (including conversions) are subject to the pro-rata rule. Pro-rata is a term used to describe the taxability of IRA distributions that include both pre-tax dollars (deductible contributions, pre-tax rollovers, growth) and after-tax dollars (nondeductible, after-tax rollovers).
What process do we go through if a client wants to withhold taxes?
Intelledox
What is the annual conversion limit?
None, there is no limit to how much can be converted.
What box will the conversion be reported in on the 5498?
Form 5498, box 3 shows conversion. If that information is missing (due to mid-air) the clients may have it under box 2 (rollover) instead.
When is the gross up used and when is it not?
Gross up is used when converting securities but not used when converting from settlement.
Can a client have one Traditional IRA containing pre tax and another Traditional IRA containing post tax dollars? Why or why not?
No, because of aggregate - The IRS combines all of your IRAs together and treats them like one account when determining taxes (you are your ssn). This is across ALL institutions and pre-tax IRA's. The funds are considered COMINGLED and cannot be separated for tax purposes
What trade date will a client receive if they go through the modernized process and submit prior to 4 pm EST? What about after 4 pm EST?
If the client submits in modern prior to 4 pm EST (market close), they will receive the current day trade date. If it is after 4 pm EST, then they will receive a trade date of the following day?
What are some long-term benefits clients are typically seeking when they complete a Roth conversion?
Clients may complete a Roth Conversion if they are expecting higher future taxes, want tax-free retirement income, no/lower RMDs, tax free inheritance, etc.
What code will a client receive if the conversion is completed within Vanguard and they are under 59.5? What code if it is done as a rollover and they are under 59.5?
They will receive code 2 for a same trustee to trustee transfer and will get code 1 for a rollover conversion.
A client wants to make sure only $33,500 leaves his IRA for tax purposes but wants to withhold 15% for federal and 3% for state. What amount should be entered on the form to achieve this? What amount should be in settlement fund?
$27,470.00 is what should be put on the form and $6,030.00 is needed in the settlement fund.
What is a backdoor Roth?
A backdoor Roth IRA is a strategy used by high income individuals that are unable to contribute directly to a Roth IRA due to MAGI restrictions. This involves a multi-step process. The first step is making a nondeductible contribution to a Traditional IRA. The second step is to do a Roth IRA conversion into the Roth IRA.
What price does a client get if they submit their conversion at 11 am EST through modern? What price would they get if they submit it at 11 am EST as dollars through intelledox?
If a client submits their conversion at 11 am EST through modern they will receive that days closing price. If they submit it at 11 am EST through intelledox as dollars, they will receive the prior days closing price.
What three things will we preface before each conversion?
1. IRREVERSABLE: once this transaction is submitted it cannot be canceled or recharacterized
2. TAXABLE EVENT: the conversion is reportable as income and fully taxable in the calendar year in which it is completed.
3. RMD- if client is RMD age, make sure it is taken (at all firms) before proceeding with conversion
What tax forms will a client receive for a conversion and what do they report?
1099-R for money leaving the pre tax IRA
5498 for money being converted to the Roth
8606 if they need to report pro rata
What is the formula to calculate the gross up?
conversion amount/(1 - withholding amount)
What is a mega backdoor?
A mega backdoor Roth IRA conversion takes advantage of the IRS's total 401(k) contribution limit. While your regular 401(k) contributions are capped at $24,500 in 2026 ($32,500 if you’re 50 or older), the IRS allows total annual contributions—including employee deferrals, employer matches, and after-tax contributions—of up to $72,000 total ($80,000 if 50 or older).
This creates a "mega" opportunity because if your 401(k) plan allows it, you can make large after-tax contributions through payroll deductions that far exceed the $7,500 IRA limit. To take advantage of this strategy, your plan must allow after-tax contributions and conversions. Check with your plan administrator.
If a client accidentally rolls over their employer plan to their Roth instead of their Traditional IRA, how can we help them? What if Vanguard made this error?
If it is client error, we should tell them conversions cannot be recharacterized or cancelled and they should speak with their tax professional. if it is due to Vanguard error then we can submit a CMS case after verifying the Vanguard error occurred.
What is a mid-air conversion? and how do we process them at Vanguard?
It's a direct rollover from a 401(k) to a Roth IRA. Vanguard does not like to do mid-air conversions as the client would need to self report the conversion on their taxes so instead Vanguard prefers the client rolls over to a pre tax IRA first and then do the conversion so they receive proper tax coding/ tax forms.
What are some potential downsides to withholding taxes?
If the client is under 59.5 then the amount withheld may have an additional 10% early distribution penalty tax. Withholding taxes reduces the amount of money that can go in to the Roth.
A client wants to make sure $50,000 is converted from their settlement fund but also wants to withhold 12% for federal taxes and 6% for state tax- what number will we put on the form to accomplish this?
$60,975.61
What form needs to be filed when making a non deductible contribution? Who provides it? How many times does the client have to file it if they make the contribution and conversion in the same year?
They would need to file form 8606 provided by the IRS, tax pro or tax system the client uses. Should the client make the non deductible contribution and conversion in the same year, they only need to file one FORM.
Why must a client at RMD age take their RMD prior to doing their conversion? and What happens if they end up doing the conversion before processing their RMD/ what implications arise?
In any year for which an RMD is required (including the calendar year in which the individual attains RMD age), the first dollars distributed are treated as the RMD until an amount equal to the RMD amount has been distributed. This is true, even if the IRA owner defers their first RMD until April 1st of the following year. If an individual converts to a Roth IRA prior to satisfying their RMD, the amount of the RMD would be considered a contribution to the Roth IRA and not a conversion. If they are not eligible to make a Roth IRA contribution, it must be removed as an excess contribution from the Roth IRA.