Backdoor Roth IRA and 401k to IRA conversion in same year

Quick fact check, my understanding is that in any given year where you do a backdoor Roth IRA, you cannot have any funds left in your IRA accounts at year end (or perhaps more specifically, pre-tax funds), otherwise you are subject to pro-rata taxation of the transfer.

I have a colleague who seems to think that as long as you do the backdoor Roth and then convert your 401K to an IRA (employee left job), that you'll be fine, because of the order in which the transactions happen.

What say ye?

I believe the Prorata rules use 12/31 balances of all IRA accounts. See form 8606 Part 1 line 6 and Part II.

Ye say your colleague needs to show some research.

I think your colleague is correct .If at the time you convert your non-deductible IRA to a Roth IRA and the total represents the amount contributed to the non-deductible IRA I believe you are OK .If after the conversion ,in the same year on a different transaction , you covert your 401 K to an IRA that amount would not be included in the calculation . The key is that the 401 K conversion to the Roth took place after the conversion of the non-deductible IRA to Roth IRA (different transaction)

The Tax Book states it as follows :"The tax paid on the conversion is based on the fair market value of the IRA immediately prior to the conversion

When I have handled this situation in the past I found the worksheet essentially looks forward in time. This is because it uses the IRA balance at year end to determine the pro-rated basis in the conversion. It took me by surprise the first time I saw it.

CreditMyDebit is correct and lucyko is mistaken.

(d) Tax treatment of distributions
(1) In general
Except as otherwise provided in this subsection, any amount paid or distributed out of an individual retirement plan shall be included in gross income by the payee or distributee, as the case may be, in the manner provided under section 72.

(2) Special rules for applying section 72
For purposes of applying section 72 to any amount described in paragraph (1)—
(A) all individual retirement plans shall be treated as 1 contract,
(B) all distributions during any taxable year shall be treated as 1 distribution, and
(C) the value of the contract, income on the contract, and investment in the contract shall be computed as of the close of the calendar year in which the taxable year begins.
For purposes of subparagraph (C), the value of the contract shall be increased by the amount of any distributions during the calendar year.

(emphasis added)

See also IRC 408A(d)(3).

So the Roth conversion is treated as happening at 11:59pm on December 31, regardless of when during the year it actually happened.

Your citation deals with DISTRIBUTIONS from retirement accounts which is not the topic at hand .We are discussing non-deductible contributions to a IRA which is in the same year is converted to a Roth IRA (Backdoor Roth ) .

I believe Neil and Lucyko are correct . If you take Adament's example and track the entries thru the 8606 form you will come to the same conclusion that the conversion is non taxable

But lucky, the other part of the fact pattern is that additionally there will be IRA monies left that are pre-tax.

The broker emailed me and asked if they could deposit the check into the IRS account in the following year, so that there's typically not a 12/31 balance in the IRA account.

My only hesitation is that they will have a 1099R with a rollover code and no correlating 5498 in the same tax year.

Any thoughts there? In any event, substance over form IMO, but I've never run across this fact pattern before.

@lucyko, Neill's example says there -is- a tax liability.

Your citation deals with DISTRIBUTIONS from retirement accounts which is not the topic at hand .[...] converted to a Roth IRA (Backdoor Roth ) .

A Roth conversion is a distribution from a Traditional IRA and is taxed the same way, except no penalty if under age 59.5.

Your citation deals with DISTRIBUTIONS from retirement accounts which is not the topic at hand .We are discussing non-deductible contributions to a IRA which is in the same year is converted to a Roth IRA (Backdoor Roth ) .

I believe Neil and Lucyko are correct . If you take Adament's example and track the entries thru the 8606 form you will come to the same conclusion that the conversion is non taxable

A Roth conversion is a distribution from a Traditional IRA and is taxed the same way, except no penalty if under age 59.5.

Exactly, which is why I mentioned (even though I didn't quote) 408A(d)(3), which says that a conversion (the Code still calls it a "rollover") is taxable the same way as a distribution, except for the 72(t) penalty.

I've also done as you suggested and filled out a Form 8606 using the following facts:

1. Taxpayer has no money in any traditional IRA.
2. Taxpayer makes a non-deductible 5,500 IRA contribution.
3. Taxpayer makes a Roth IRA conversion of the 5,500.
4. Taxpayer rolls over 250,000 from a 401(k) to an IRA.

I get the following entries on Form 8606:

Lines 1, 3, and 5: 5,500
Line 6: 250,000
Line 8: 5,500
Line 9: 255,500
Line 10: 0.02153
Line 11: 118
Line 13: 118
Line 14: 5,382
Lines 15a, 15b, 15c: 0
Line 16: 5,500
Line 17: 118
Line 18 (Taxable amount): 5,382.