In a year when markets tumbled around the globe, and some indexes experienced the first “correction” — losing more than 10% since recent peak — in four years, investors may have seen some losses. But if the loss in value affected a Roth IRA conversion, there is still time to “undo” that action.
The deadline to reverse — or recharacterize — a Roth IRA conversion that was completed in this tax year is October 15, 2015.
Tax benefits of recharacterization
The provision for recharacterization allows investors to mitigate the tax liability and avoid paying too much in taxes for an asset that has lost value. Consider this example: If a taxpayer converted a traditional IRA valued at $100,000 during 2015 that is now worth only $80,000, he/she would still have to report the taxable income of $100,000.
A recharacterization may help investors avoid the additional tax liability associated with higher income. When a traditional IRA is converted to a Roth, income is generated. Investors may choose to recharacterize so the additional income does not move them into a different marginal tax bracket.
Investors do not have to reverse the entire account. They may choose to reverse only a portion of the account and leave the rest of the assets in the Roth IRA.
Recharacterization options
A recharacterization does not have to be the final action taken on that account. Investors can reconvert in the future. But there are time limits. Consult an advisor or review Putnam’s investor education piece, “Converting a Traditional IRA to a Roth IRA,” for more information.
The process can be complex and the implications for taxable income vary depending on the individual’s financial situation. It is important to review the strategy with a financial advisor or tax professional to determine if a recharacterization will be beneficial.
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