Taxing Definitions

Definitions — Retirement and other “R” words

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Recharacterize, rollover, Roth—individual retirement account rules contain plenty of words starting with the letter “r”, at least one of which changed under the new tax law. R U ready to test your knowledge?


In information letter 2017-0030, a surviving spouse wanted to know whether a transfer would be an eligible rollover distribution. The surviving spouse wanted to transfer money from the deceased spouse’s qualified retirement plan account to an individual retirement account established as an inherited IRA for the benefit of the surviving spouse.

What word in the question led to the IRS saying the transfer would not be an eligible rollover distribution?

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In information letter 2016-0049, a taxpayer wanted to know why he could not roll over just the after-tax dollars in his traditional individual retirement account into a Roth IRA.

The taxpayer pointed out that in 2014, the IRS issued Notice 2014-54, which describes how an individual can roll over the after-tax dollars contained in a 401(k) plan distribution to one retirement account and the pre-tax dollars to another.

The taxpayer asked why the same rules do not apply to a distribution from an IRA.

Do you know?

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In the past, a taxpayer could convert a traditional IRA to a Roth (and pay the tax on the conversion), then later “recharacterize,” or undo, the transaction up to October 15 of the following year.

The new tax law that was passed in December 2017 amended the internal revenue code (specifically section 408A(d)(6)(B)(iii)) to no longer allow recharacterizations of Roth IRA contributions, as well as amounts rolled over to a Roth from other retirement accounts.

The tax bill states the change is effective for tax year beginning after December 31, 2017.

The question: Does the December 31, 2017 effective date apply to the tax year when the recharacterization was made, or the tax year when the unwinding of that recharacterization occurs?

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Note: Taxing Lessons provides a summarized version of sometimes lengthy IRS guidance. The full guidance may include facts and issues not presented here. Please use the link provided in the post to read the entire relevant documents.

This information should not be considered legal, investment, or tax advice. Taxing Lessons and Top Drawer Ink Corp. do not provide legal, investment, or tax advice. Always consult your legal, investment, and/or tax advisor regarding your personal situation.


The word is “inherited.”

In this letter, the surviving spouse wanted to put the money in an “inherited” IRA. A transfer to an “inherited” IRA by a surviving spouse is not an eligible rollover distribution.

Here’s the explanation from the information letter.

Section 402(c)(4) of the internal revenue code defines an eligible rollover distribution as any distribution to an employee of all or any portion of the benefit to the credit of the employee in a qualified retirement plan. Certain kinds of distributions, not relevant here, are excluded. Distributions that are eligible rollover distributions can be rolled over or transferred to another qualified plan or IRA tax free.

Under Section 402(c)(11) of the internal revenue code, an individual who is a designated beneficiary of a deceased employee who was a plan participant and who is not the surviving spouse of the employee must be offered the opportunity to transfer to an IRA the deceased employee’s benefits under the plan. If a transfer meets the conditions in section 402(c)(11), the transfer is treated as an eligible rollover distribution. Section 401(a)(9)(E) defines a designated beneficiary as “any individual designated as a beneficiary by the employee.”

Section 402(c)(11) applies only to a beneficiary who is an individual designated by the deceased employee (a designated beneficiary) and who is not the employee’s surviving spouse.

Accordingly, section 402(c)(11) does not apply to a beneficiary of a surviving spouse or other designated beneficiary. Thus, a transfer to an inherited IRA for the benefit of a beneficiary of the surviving spouse would not be an eligible rollover distribution because the beneficiary is not a designated beneficiary of the deceased employee.

The internal revenue code section that governs 401(k) plans states that the dollars in a distribution that are rolled over are treated as consisting first of pre-tax dollars. The IRS published Notice 2014-54 to clarify the treatment of funds that individuals roll over from a 401(k) plan to different retirement accounts at the same time as one distribution.

If an individual rolls over all the pre-tax dollars in one distribution, then, because of the rule in the last sentence of section 402(c)(2) (the “pre-tax-first rule”), that individual can roll over any after-tax dollars separately.

The rules for distributions from traditional IRAs are in section 408(d) of the internal revenue code. Under section 408(d), no “pre-tax-first” rule exists for traditional IRA distributions rolled over to IRAs, so the rules in Notice 2014-54 could not be extended to distributions from traditional IRAs.

If an individual’s traditional IRAs, when combined, contain both aftertax and pre-tax dollars, the rules treat any distribution as consisting of a proportionate share of each. Individuals can roll over (“convert”) any such distribution (except for any part that is a required minimum distribution because the IRA owner is 70½ or older) to a Roth IRA, but the pre-tax dollars in the conversion must be included in gross income.

Per IRS FAQs updated January 23, 2018, a Roth IRA conversion made in 2017 may be recharacterized as a contribution to a traditional IRA if the recharacterization is made by October 15, 2018.

A Roth IRA conversion made on or after January 1, 2018, cannot be recharacterized.

Editorial note: Recharacterization can no longer be used to unwind a Roth conversion, but is still permitted with respect to other contributions. For example, an individual may make a contribution for a year to a Roth IRA and, before the due date for the individual’s income tax return for that year, recharacterize it as a contribution to a traditional IRA. In addition, an individual may still make a contribution to a traditional IRA and convert the traditional IRA to a Roth IRA, though the conversion can no longer be undone.