Converting 401(k) to Roth in a zero-earned-income year. Goal: use up itemized deductions and child tax credit.

[Guest mku]

Hello,

my client and his spouse have no earned income this year, only small amount of investment income, but they have the usual set of itemized deductions that they don't want to waste. Also, this client usually is in a high-income bracket.

My best idea of using their itemized deductions is to have them roll over their 401(k) to an IRA to a Roth IRA before the year-end. The amount of conversion gets taxed but is offset by itemized deductions, personal & dependency exemptions, and the tax is further reduced by the child tax credit (for 3 children).

It sounds like he should be able to roll over about $65k without any net tax cost for either Fed or California.

What I want to doublecheck is that I'm not missing anything here - that there is no disallowance of some kind that I missed based on the fact of NO earned income for either spouse, or child tax credit disallowance based on something in my facts etc. Anything else I missed?

Thank you for your advice,

[Mary Kay Foss]

This should work out as you plan. You need modified AGI less than 100K for the year (the conversion doesn't count towards that amount). The itemized deductions that you want to use are not ones with limitations (medical or miscellaneous deductions) and the income won't be high enough for the 3% limitation on itemized deductions to be a factor.

Also, one of the advantages of the Roth is that you do have time to second guess. If the conversion is done before 12/31/2003, it can be "recharacterized" up until 10/15/2004. If the taxes don't work the way you expect, the conversion can be undone.