401k Plans and Roth IRA Conversions

By Jason Watson, CPA
Posted Saturday, November 5, 2023

Let’s lay some groundwork first. On your individual tax return, you have three basic IRA options-

• Traditional IRA, deductible

• Traditional IRA, non-deductible

• Roth IRA, not deducted

You probably knew this already, however, we want to focus on the traditional IRA that is non-deductible due to income limits. At some point in household income, a Roth IRA is unavailable. Bummer. Yet at another point, a deductible traditional IRA is unavailable leaving the non-deductible IRA contribution. Super bummer.

No biggie, right? You simply do a Roth conversion of the non-deductible traditional IRA. Not so fast. There is a little-known problem called aggregation where you must ratably convert both the deducted and non-deducted IRA pools simultaneously should you do any conversion.

For example, you have $90,000 in deducted IRA funds and $10,000 in non-deducted IRA funds for a total of $100,000. If you want to convert $10,000 into a Roth IRA, you will be converting $9,000 from the deducted IRA pool and $1,000 from the non-deducted IRA pool. The $9,000 will be a taxable event.

The solution is to roll your deducted traditional IRA funds into your 401k plan leaving your non-deducted IRA funds naked. Then in turn you convert these remaining funds into a Roth IRA.