A few years ago I contributed $5.5k into a Trad IRA account. One morning I felt like gambling and bought $5.5K worth of DBX stock, as a result I currently have an unrealized loss of about $2.5K (short term since I’ve held it for under a year so far). My question is does it make sense to sell the stock in 2018 and maybe do a roth conversion (not sure I’d be able to pull conversion in time). Could I also claim this loss on my taxes since it’s under $3k?
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Gains and losses in qualified retirement accounts have no tax consequences other than there is more/less money for you to take out of the IRA to be taxed upon.
Roth conversion is a totally different question. Do the conversion if you think that tax rates are lower in this tax year than in the future when you take the money out.
My assumption was that this was a traditional IRA with only pre-tax funding.
I see this requires itemizing the return, do not plan on doing that so no gain in realizing the losses in 2018.
Now I’m back to thinking if I should convert that account to a Roth IRA account. What’s the process of a roth conversion, does it just re-characterizes the type of account or does it sell the stock, opens new account, closes old one and buys the stock again?
hmmm, seems like I would gain the most (from a tax perspective) if I want for a year where I do itemize my return, then sell then do a roth conversion (if that makes sense at the time).
Is your traditional IRA 100% pre-tax? Do your losses exceed 2% of your AGI? Although I am not familiar with deducting an IRA loss as described in the article, it seems like there are many reasons it doesn’t apply to you anyway.
As for the actual Roth conversion, that may depend on your custodian. Vanguard, for example, allows you to transfer from an IRA to Roth account both with them without liquidating assets.
But I’ll say again, notwithstanding something I may be missing in that article (and I don’t think so since it talks about only post-tax funding), gains and losses in qualified retirement accounts are not tax events now or ever.
I don’t think you’re understanding this at all.
When you made the $5500 contribution you most likely deducted that $5500 from your taxes.
Therefore, your tax basis in the IRA is zero and whatever money you ever remove from the IRA will be taxable income.
If you convert the IRA to a Roth IRA you will not have a tax loss to write-off and will instead have taxable income of approximately $3000.
Pretty much the opposite of what you want to accomplish.
As StatGren said, the Roth conversion is mostly to do with your tax rate now and tax rate in retirement.
In general, if you are towards the beginning of a career / income growth situation and expect your income and therefore tax rate to go up over time, the Roth conversion probably makes sense. This will be your lowest tax rate time of your life. (This may be the case with more of us with the recent tax cut).
If you are towards the end of your income growth, then a Roth conversion probably doesn’t provide a lot of benefit, since your future taxes will likely be about equal to your current taxes.
Everyone mentioning the current tax bracket vs. future tax bracket is absolutely correct, but this question has a multiple part answer.
Even if OP’s current tax bracket is say 22% and let’s say his future tax bracket is 30% for the sake of argument, 30% of $3000 (after $2500 loss) is still less than 20% of $5000. In this specific instance, 22% of $3000 is a lot less than 30% of $5000 or $5500 or $7500, which is likely to be the value of the account in the future if no conversion is done now.
The “deduction” which isn’t technically a deduction, is that he’s paying tax on a $3000 conversion rather than on a $5500 conversion.
If you’re planning to do a roth conversion on a TIRA with no tax basis, it’s better to do it when the market is down and you have losses within the account.
That’s a good point and I know exactly what you are saying, but let’s not get the OP thinking again that losses in a qualified retirement accounts are tax events. Perhaps a better way to make the point you are making is to say that when one does a Roth conversion, it isn’t past losses on those investments that make them good for converting, but their upside potential.
Let’s give OP the benefit of the doubt and hope that he’s following along.
Clearly there’s no taxable event within the TIRA account, ever. Only upon distribution or conversion is there any reported income. I guess the best way I’d prefer to make my earlier point is that the “deduction” OP was asking about is already baked into the conversion, if he proceeds with the conversion.
It’s not ONLY the upside potentional as you mention. That loss very much factors into the conversion. The advantage is that he took a $5500 deduction in a previous tax year upon making the TIRA contribution. Now he can convert to Roth by paying taxes on the current value of $3000 rather than on the original $5500.
On the other hand, if he’d originally put that $5500 directly into Roth instead of traditional, he’d have paid taxes on the full $5500 contribution, and he’d be stuck with $3000 in the account right now, assuming he invested in the same position(s).
If he does the conversion now, it’s like getting a free $2500 deduction for no reason other than timing the contribution and conversion based on market conditions.
It’s was post tax when contribution was made, but as Treffen mentions I did deduct the $5.5k from my taxes that year, which I guess makes it pre-tax. Losses do not exceed 2% of AGI.
I expect my tax rate to keep increasing with time which makes the conversion look attractive. Another way of looking at what DTASFAB mentions is when I contributed the $5.5k I took a deduction of $5.5k now if I convert I’ll pay income tax only on $3k.
But it seems like everyone is ignoring the article that scripta links to. Or maybe it applies but since my basis is $0 as Treffon mentions, and since $3k > $0 so no deduction.
“You may deduct your traditional IRA losses only if the total balance that you withdraw is less than the after-tax amounts (basis amounts) in your traditional IRAs.”
Just about the only people who have a tax basis in their IRA are the ones who had too much income to qualify for either an IRA deduction or a Roth IRA and decided to go ahead and make a non deductible (after tax) IRA contribution, which to many of us didn’t seem like a very good idea.
I wouldn’t do the conversion now and pay the tax. I’d just keep the possibility in mind and if you ever have a year when you’d fall into a zero tax bracket, do some converting then, tax free.
You are correct that your IRA money is pre-tax, and therefore the article doesn’t apply to you. Also, your losses don’t exceed 2% AGI so even if you had post-tax money, it doesn’t apply to you. That’s why we’re ignoring it for the sake of the questions you have asked.
There are a lot of factors in deciding whether to do a conversion to Roth or not. Tax rate is one of them, but also avoidance of RMDs at age 70, the impact on the residual money to your heirs, whether you’re within two years of Medicare and need to think about IRMAA, etc. Fortunately, there is a ton of advice out there on the subject.
Converting from a pretax tira to Roth allows you to take a deduction for your losses. It isn’t technical or theoretical. You deduct the 5.5k then report income of 3k. You lost 2.5k and you get to deduct that loss by taking a net deduction of 2.5k.
As for deducting losses on non-deductible contributions, I’m not familiar with that, but if it is truly an itemized deduction subject to the 2% AGI limit under S 67, then the deduction is suspended for the next 6 or 7 years anyway.
The net effect is as you describe, Full_Disclosure, but there’s no tax law that would describe it as you have. You aren’t deducting a loss that occurred in the TIRA. There’s no line item on any tax form for such a thing. What has happened is, as I said in my first post …
Specifically in the OP’s question, this is even clearer as the $5.5K deduction was taken years ago. Now, if he converts the remaining $3K to Roth, then he will pay tax on that. He’s just “lucky” enough to have less money now to pay taxes on at conversion. There’s no deduction of anything in this tax year.
I disagree with your rebuttal to my post, but not to confuse OP, we (and everyone else posting in the thread) agrees with the mechanics.
I agree, there’s no deduction in the current tax year. But the effect of the way it works is that you take the benefit of your losses when you convert. The fact that the deduction was accelerated in a previous year, doesn’t mean you aren’t getting a deduction for your losses. I do agree that there’s no tax line item for losses on a pre-tax tira conversion.
If a company expenses a 100k capital asset in Y1, then 2 years later sells it for 40k, they report 40k of income (broad strokes purposes) in Y3. Did they get to deduct the $60k loss? Yes, they did, even though $60k isn’t going to show up on a line item on either of the returns.