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Will I Be Double Taxed on My Retirement Savings?

Question: My existing 401(k) balance consists of both before and after-tax contributions and related returns on investment.  Can I rollover/direct transfer the after-tax portion into a Roth IRA in such a way that will not result in any tax liability as those contributions were already taxed? I’m worried that if I leave the after-tax money in my 401(k), then any future earnings on those funds will be taxable when withdrawn during retirement.

T.C.

Springfield, Mo.

Answer: Unfortunately, you can’t move just the after tax dollars into a Roth IRA without incurring a tax bill. But the good news is that you would not be taxed twice on the contributions made with after tax dollars. Contributions made with after tax dollars are not taxed when you take a distribution from your retirement account, according to the Internal Revenue Service. You can rollover the whole account into a traditional IRA, but the portion of your savings made with after-tax dollars should remain tax free when you take distributions. To pull the non-taxable savings from your IRA in a distribution, you need to file Form 8606 in order to calculate how much of your distribution is nontaxable. You will still owe income taxes on contributions made with pre-tax dollars as well as earnings or returns from both.

But if you want to move only part of your retirement savings into a Roth IRA, a percentage of that amount will be taxed. The tax bill on a partial conversion would depend on how much of your savings are currently taxable. Say you have $100,000 in your 401(k) and $90,000 came from pre-tax dollars. Under this scenario, 90% of any amount that you convert into a Roth IRA would be taxed, and 10% would be untaxed, says Ed Slott, IRA expert and founder of IRAhelp.com. You might be better off converting the full amount now, while the lower Bush-era tax rates are still in effect, and pay income taxes on the portion of your savings made with pre-tax dollars, he says.

For future 401(k) contributions, keep in mind that there may better places for your after-tax dollars. If you qualify for a Roth IRA, they can grow tax free and you won’t have to pay taxes on eligible distributions taken in retirement. Also, depending on the kinds of investments you hold, you might be better off in a brokerage account, where your investment gains and/or dividends may be taxed at the currently lower capital gains tax rate.

Correction: In a previous version of this story, we incorrectly stated that you can’t move after-tax dollars into an Roth IRA; Savers can, but will have to pay the tax on a percentage of the amount converted.

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    • If you do not have a reserve cash acunoct with 3 to 6 months worth of living expenses, fund that first.Then, max out all your retirement plans. If your company offers a 401k plan with a roth option, choose that plan first. By the time you are older taxes could be higher and you would be able to pull money out of your roth tax free.Lastly, pay off your debt. I use to advise that one should pay off their debts first, however I find that a person would pay off their debts, save nothing, and then get back into debt. It would take a strong commitment to pay off debt and STAY OUT of debt. If you feel like you will always struggle with debt, then invest first and at least you will have the choice of taking money you saved and paying down your debts versus not having money saved and still having debt.

    • depends on your withholding duirng the entire year. being single with not dependents wont help a lot. but you are save for the first 3 years when start reporting mortgage interest and real estate taxes.

    • If a taxpayer cetovrns his or her IRA and then dies, the amount of conversion income not previously reported, will be included in the decedent’s final tax return. However an exception is made if the Roth IRA is inherited by the spouse. If the spouse so elects, the spouse can continue to report the conversion income on the same schedule as the decedent would have. This election cannot be made or rescinded after the due date of the spouse’s tax return for the year of the decedent’s death. Roth IRA Conversion AdvantagesThe 2010 Roth IRA conversion may prove beneficial for a number of investors. Assuming tax rates do not drop significantly in the future, the conversion makes a lot of sense. The main advantage of the Roth IRA is its very favorable tax treatment when it comes to distributions. These qualified distributions are tax free, of course, but there are some other Roth IRA conversion benefits:There is no Required Minimum Distribution (RMD) during your lifetime.An IRA conversion to Roth IRA will require the payment of any necessary taxes, but will assist in shrinking your taxable estate. This provides you the opportunity to bequeath the select Roth funds tax free to your heirs.You can choose to not pay taxes on the conversion in 2010 and postpone the taxes in equal shares until 2011 and 2012. Normally, you’d be required to pay all taxes in the year of the conversion.Obviously, the primary advantage of the Roth IRA is its tax-free nature. Having investment earnings completely free from taxation is alluring, but the two following Roth IRA rules must be met in order to receive tax-free distributions:1. The withdrawal takes place at least five years after the initial Roth contribution, and2. One of the following applies:a. The Roth IRA owner is 59 bd or olderb. Disability (permanent)c. Death of participantd. First-time home purchase ($10,000 lifetime cap)

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