Roth IRA Recharacterization: 11 Things You Need to Know at Tax Time

What is a recharacterization of a rollover or a conversion?

Roth IRA RecharacterizationA recharacterization allows you to “undo” or “reverse” a rollover or conversion to a Roth IRA. You generally tell the trustee of the financial institution holding your Roth IRA to transfer the amount to a traditional IRA (in a trustee-to-trustee or within the same trustee). If you do this by the due date for your tax return (including extensions), you can treat the contribution as made to the traditional IRA for that year (effectively ignoring the Roth IRA contribution).

1.  It is not too late to recharacterize a Roth IRA conversion done in 2016.

2.  Only funds actually distributed from an IRA or employer plan in 2016 will count as a 2016 Roth conversion.

3.  A recharacterization of a 2016 Roth IRA conversion can be done up to October 16th, 2017 even if you have already filed your 2016 income tax return.

4.  You can recharacterize for any reason. No one, including the IRS (except maybe your financial advisor), will ask you why you did a recharacterization.

5.  You can do either full or partial recharacterizations depending on your tax situation and the investment. Some investments will not allow a partial recharacterization.

6.  A recharacterization undoes the Roth IRA conversion and wipes out the income tax due on the conversion. The amount converted and later recharacterized is treated as though it never left the IRA. The income or loss on the converted amount goes back to the IRA along with the converted amount and is also treated as though it occurred in the IRA.

7.  The recharacterized funds can go back to the original IRA or any other IRA you may have, including a new IRA. A recharacterization of employer plan funds converted to a Roth IRA must go to a traditional IRA; they cannot go back to an employer plan.

8.  If you have already filed your tax return, you must file an amended return to get back the income tax paid on the conversion. You have up to three years to file the amended return (but you do not have three years to do the recharacterization).

9.  If you convert and recharacterize in the same tax year, you still have to tell the IRS about the transactions. You will have to include a note on your tax return. The instructions for this can be found beginning on page 3 of the instructions for Form 8606, available on the IRS website at www.irs.gov, under Forms and Publications.

10.  If your conversion was pro-rata, partially taxable and partially after-tax funds, the recharacterization will also be pro-rata. You will need to file an amended Form 8606 to account for the after-tax funds coming back into the IRA.

11.  Yes, you can reconvert those recharacterized funds, but there is a waiting period. You must wait more than 30 days or until the next year whichever is later to reconvert. If you converted and recharacterized in 2016, you can now reconvert at any time. If you converted in 2016 and recharacterize in 2017, you must wait more than 30 days before you reconvert. 

By Beverly DeVeny
Copyright 2017 Ed Slott, LLC