Should you “undo“ a 2010 Roth conversion?

Many individuals took advantage of a one-time tax break to convert their regular IRA accounts to Roth IRA accounts during 2010 but pay the tax for one-half of the income on each of their federal income tax returns for 2011 and 2012.  Now the value of the Roth IRA accounts may have declined, so they are paying tax on a value that doesn’t exist anymore.  That tax can be avoided by “undoing” the 2010 conversion, called a “recharacterization”, and returning the funds to a regular IRA no later than October 17, 2011.

“This is a painful process, so you should only do it if there are substantial tax savings,” says Michael Gray, CPA of San Jose, California.  “A written notice and returning the funds to the regular IRA must be done by October 17.  If you have already filed your 2010 federal income tax return, you will also have to file an amended 2010 income tax return, but that can be done after October 17.”

Since federal income tax rates are expected to go up after 2012, you should still consider making another Roth conversion during 2011 and 2012.  You must wait until more than 30 days after making a recharacterization to “undo” the 2010 Roth conversion.  Another risk is the value of your investments could recover before making the new conversion, so you may not get the tax savings you are hoping for.

If you are wondering if you should “undo” a Roth conversion, you should consult with your investment advisor/financial planner and your tax advisor before going ahead.

Contact Information

Michael Gray

CPA

Michael Gray, CPA

(1) 408-918-3161

mgray@taxtrimmmers.com