I can't make a Roth contribution this year, so I put $5,500 in a non-deductible IRA and converted it to a Roth, at which time it gained 14 cents in interest. I know I have to file Forms 8606 and 1040. My first question is does the 14 cents get reported since it rounds down? Second, how do I report it on my 1040? Which portion would I report on line 15a, and which on 15b? Do I need to report it anywhere else? Would the 14 cents get represented on Form 8606 or can I keep it at $5,500?
Page 12 of IRS Publication 17, Your Federal Income Tax, says the following:
“You can round off cents to whole dollars on your return and schedules. If you do round to whole dollars, you must round all amounts. To round, drop amounts under 50 cents and increase amounts from 50 to 99 cents to the next dollar. For example, $1.39 becomes $1 and $2.50 becomes $3.
“If you have to add two or more amounts to figure the amount to enter on a line, include cents when adding the amounts and round off only the total.”
Since the 14 cents “disappears” through rounding, report $5,500 on line 15a and “0” on line 15b of Form 1040; on Form 8606 put $5,500 on line 1 (I am referring to the 2016 forms).
Be careful using this strategy. The IRS is challenging the “Backdoor Roth IRA contribution” under the step transaction doctrine. The step transaction doctrine is a judicial doctrine that combines a series of formally separate steps into a single integrated step. That could lead to the conclusion that you have made a disqualified Roth IRA contribution, and could subject you to additional tax and penalties. Some tax preparers suggest that you wait a month or even longer to complete the conversion process.
You also need to be careful if you have other, traditional (meaning tax-deductible) IRAs in existence. If so, then a nondeductible IRA contribution will spread over the entire balance of all the IRAs you have. For instance, if you have $94,500 of traditional IRA balances and make a nondeductible IRA contribution of $5,500, which is then immediately converted to a Roth IRA, you will owe tax on $5,197.50 ($5,500/$100,000 x $5,500). Not the intended result!
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Answered by: James D. Adelsperger, CPA, is senior wealth adviser with Domani Wealth in Lancaster, Pa.