Question regarding IRA and roth-IRA

[tylerfed]

When I moved abroad I had a 401k that I transferred to my brokerage as an IRA. Well it was actually part a trad 401k and part roth 401k that transferred to trad IRA and roth IRA. Now, because I don't have a US taxable income, my idea was to transfer the trad IRA to the roth IRA and just have to pay the 10% penalty as long as the distribution from the trad IRA keeps me under a taxable income level, so like $13k per yr or whatever it is. Can someone please explain to me why I cannot do this without paying more taxes or penalties?

 

[yannessoh]

@tylerfed First, I don’t think there’s a 10% penatly in this case. That’s only on withdrawals, and you’re not withdrawing, it’s a recharacterization. So, there’s shouldn’t be a penalty.

Second, assuming I understand you correctly, in that you’re planning on having zero income on your tax return, then recharacterize the same amount as the standard deduction, increasing your income up to the SD, and then claiming the SD to then get back down to zero taxes.

I’m not a tax professional, but that’s to the letter of the law perfectly legal. Though it may raise some eyebrows at the IRS, and potentially up your risk of an audit, so make sure your are ducks in a row.

 

[tylerfed]

@yannessoh OK interesting. I did not know about 'recharacterization.' And yes, you understand correctly that I will have zero income on my tax return.

 

[yannessoh]

@tylerfed Again, it wouldn't hurt to ask someone who actually knows what they are talking about. I only know what I've done in my situation, and I use the FTC, rather than the FEIE, so this isn't a viable option for me.

But there are no glaring errors in your logic, from my untrained perspective.

 

[john314159]

@tylerfed I'm a little confused by the way you are wording it. And I'm no expert, but it seems like a smart plan.

 

[tyler112]

@tylerfed Yes, that's just a backdoor Roth conversion/rollover. The amount converted from trad to Roth counts as part of total income; if your AGI is less than standard deduction, then your taxable income is zero.

Ensure that your country of tax residence also defers tax on growth within Roth IRA. This conversion would also count as taxable income in your country of residence, unless treaty relief is provided.

 

[olamide]

@tylerfed You may be able to rollover significantly more than that via FEIE. If eligible, you could exclude up to $120,000 (2023 max exclusion). I suggest speaking with your tax professional before making any big moves, and as someone else mentioned, you should consider/research the tax implications in your new country of residence.