Roth conversions cause "underestimated tax penalty"!

[Guest Shar]

We converted our IRA's to ROTH IRA's on 12/31/98. Preparing our taxes now, with TurboTax, we are being told that we have a FINE for not paying quarterly taxes...and that we have to pay quarterly taxes next year...! This is ONLY because of the Roth monies...we actually OVERPAID our taxes...we were going to get back a few thousand...except for the ROTH's. IS THIS RIGHT? ARE YOU FINED LIKE YOU DIDN'T TAKE OUT ENOUGH TAXES OR IS THERE AN EXEMPTION OF SOME KIND?

[Guest banderson4]

No, you will not owe a tax penalty for this year. You just have to fill out a Form 2210, and check box 1b indicating that you are using the "annualized income installment method". Then you will show one quarter of the Roth conversion (assuming that you indicate on line 17 of Form 8606 that you will spread the taxable amount of the conversion over 4 years) as income received in the period 9/1/98 - 12/31/98.

Then for the next 3 years you will have to make quarterly payments (unless you increase your withholdings from other income to cover it). To calculate what you owe for each year assume that the income attributable to the Roth conversion for each year is received uniformly over the year.

[Guest banderson4]

The last sentence of my prior message should have said "To calculate what you owe for each quarter, assume that the income attributable to the Roth conversion for each year is received uniformly over the year.

[Guest Rick H]

I made a large Roth conversion during the last quarter of 1998. I calculated the taxes owed due to the conversion, and paid them prior to the quarterly estimated tax deadline.

I later prepared and submitted my personal tax return for 1998, and was expecting a refund.

Nevertheless, IRS issued a penalty for underpayment of taxes, and withheld that amount from my 1998 tax refund. This penalty was apparently due to the large "lump" in my estimated tax payments which occurred in the fourth quarter.

Now I am in the position of having to convince IRS that no penalty is owed, and each representative I have talked with has offered different solutions. Representative One suggested I send a letter explaining the amount and timing of the Roth conversion, and that taxes were paid in a sufficient and timely manner. Such a letter would allow IRS to abate the penalty. So I wrote the letter and after six weeks with no reply, I called IRS to find out what was going on.

Representative Two said he would have removed the penalty on the spot. However, since I had written that letter, he didn't want to upset the applecart, so he said "You'll have to wait for IRS to reply to your letter." So I waited, and sure enough, after a couple more weeks, IRS sent a letter declining to abate the penalty. However, the letter suggested I complete Form 2210 to compute my version of payments and penalty.

I contacted IRS Representative Three for yet another suggestion, and she said "Form 2210 is very confusing, but give it a try."

So that's what I will do. Unless someone has a better idea, besides letting them just keep the penalty!

[BPickerCPA]

The best (and probably only successful thing you can do) is to file form 2210 using the exception based upon your taxable income at various points in the year. You should read the instructions before you prepare and file the form.

If this does not work, you should then write to the local problem resolution office.