Roth IRA: Income exceeds $160,000 after making monthly contributions t

[Guest jcreupke]

My wife and I have each been contributing $166.66 per month to a Roth IRA during 2000. Due to a large unexpected bonus I received at year-end, our AGI was in excess of $160,000. Do we need to have our two Roths converted into traditional IRAs for 2000 and if so is the normal deadline 4/15/01. Also, since I contributed over $15,000 into my 401(k)plan in 2000, does that have an affect on the above course of action?

[Michael Devault]

Since you have made an excessive contribution to a Roth IRA, you have two courses of action that you must take in order to avoid a 6% excise tax. One is to simply withdraw the excess contribution and earnings. The other is to recharacterize the Roth to a traditional IRA, as you suggested.

Your 401(k) contributions have no effect on correcting excessive contributions to a Roth IRA. However, you mentioned that you contributed over $15,000 last year. The elective deferral limit was $10,500. Is it possible that you also over contributed to your 401(k)?

Good luck!

[John G]

Congratulations on the bonus. You sometimes can negotiate with a company when the bonus is paid out, something to think about for next year.

[alanm]

If you were a participant in a 401k and had joint adjusted gross income above 62,000 you cannot have a regular IRA contribution, so don't use the recharacterization option. Your wife, if not a participant in a 401k, could have a regular IRA, but I believe it must come from earned income. Whether you could contribute for her out of your earned income I am not sure. Check with a CPA.

[Michael Devault]

The last post by alanm needs a bit of clarification on a point I failed to mention in my previous post:

You may contribute to a traditional IRA, regardless of the amount of income. However, at the income levels described, the contribution will not be deductible.

Because contributions to a Roth IRA are not deductible, either, this may not be an issue. However, there are certainly better options than a non-deductible traditional IRA.

With a non-deductible IRA, you basically have a tax deferred account upon which there is an annual contribution limit of $2,000. It also comes with a lifetime of tax reporting.

Maybe a better alternative would be a tax deferred annuity. No limit on contributions, no reporting and no mandatory distribution at age 70-1/2.

Sorry for not elaborating on this earlier. Thanks to alanm for the reminder.

[John G]

Alternatively, you could buy and hold a stock and have no or minimal annual tax issues (typically just dividends) and obtain long term treatment of the capital gains and stepped up basis if passed on as part of an inheritance. Another option would be to buy a tax managed mutual fund (like the Schwab 1000) which would give you diversification, minimal annual tax impacts and could be collateral for a loan. A broad based index fund that is not tax managed would come close to the second choice.