February 3, 2021 at 9:57 pm #14369
Hello- I’ve searched forums but can’t seem to find an example of what I’m looking to verify. I’d like to roll my IRA into my 401k so I can start an annual backdoor roth process without pro-rata tax obligations. The IRA has a cost basis, however. My 401k plan provider said they can take the full amount of the IRA but will need two checks, one for the after-tax basis and one for the earnings. Assuming Schwab cuts the two check, I’m concerned I may be running afoul of IRS rules. Any insight would be appreciated. I did see this on the IRS website: https://www.irs.gov/pub/irs-drop/n-14-54.pdfFebruary 3, 2021 at 9:59 pm #14370
Sorry I meant to link this:February 4, 2021 at 4:52 pm #14376
You are correct to be concerned, since your 401k provider is dead wrong. A 401k plan is not allowed to accept IRA basis, and if an error is made they will have to distribute that basis with allocated earnings back to you. Returning that basis to your IRA is very problematic if more than 60 days has passed since the IRA direct rollover.
Because the 401k cannot accept IRA basis, there is a rule that states that the first dollars rolled into the plan are deemed to be the pre tax balance of all your IRAs. The remaining IRA basis still in your IRA can then be converted to Roth tax free.
Many 401k plans will ask for you to certify that your IRA to 401k rollover does not contain any IRA basis before they will accept any portion of your IRA. Of course, you would need to have tracked your basis correctly and filed Form 8606 to report all non deductible contributions over the years. Line 14 of your last 8606 will show your cumulative basis up to the year of that 8606.
February 9, 2021 at 3:25 pm #14432
- This reply was modified 7 months, 2 weeks ago by Alan S..
Thanks for the reply Alan. Sorry I may not be fully understanding my options. With respect to your statement:
“Because the 401k cannot accept IRA basis, there is a rule that states that the first dollars rolled into the plan are deemed to be the pre tax balance of all your IRAs. The remaining IRA basis still in your IRA can then be converted to Roth tax free.”
Are you suggesting that my only option is to convert to a roth subject to the pro-rata rule prior to rolling the IRA value into my 401k?
Thanks in advanceFebruary 9, 2021 at 7:24 pm #14433
No. It is risky to convert first because if the plan does not accept the rollover or it does not get done for whatever reason, then the conversion will be mostly taxable due to the pro rata calculations of Form 8606. Therefore, the reverse rollover should be completed before converting the remaining IRA basis.
When doing the reverse rollover, funds do not come out of your IRA pro rata with basis. Only the pre tax balance is distributed from the IRA and the plan cannot accept more than your pre tax balance. Therefore, the rollover check should be for your total balance less your basis, which leaves the basis in your IRA. Then when the plan has accepted the rollover and it is deposited in the 401k, you can convert the remaining balance of your IRA to Roth tax free.
To be clear, you could convert your basis first and pay no tax but only if the 401k accepts the rollover. If they don’t you would pay tax on most of the conversion, so it is much safer to complete the 401k rollover first.February 10, 2021 at 1:33 am #14436
Ok I believe I understand now. Provided that my 401k plan provider accepts a check for the pre-tax portion I should be in good shape. ThanksFebruary 10, 2021 at 2:07 am #14437
Following up on your explanation I was able to find this useful article:February 10, 2021 at 2:02 pm #14438
Just reviewed the link. It presumes an actual distribution from the IRA(s) and a 60 day rollover. If you do that, you must be very sure to decline all withholding from the IRA distribution.
It is better to do a direct rollover (IRA check made out to your 401k plan FBO you). That eliminates the withholding risk and having to deposit the check and write your own check. But either way is acceptable and neither counts as a rollover with respect to the one rollover limit per 12 month period.
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