What counts as a contribution to roth IRA?

PNW_bo

I plan on retiring early and potentially pulling contributions from my roth IRA before the 59 1/2 year mark, since those can be distributed without the penalty. Besides the obvious contributions (directly adding cash from personal funds), does anything else count as a contribution? For example, when rolling over from roth 401k? Or converting from traditional IRA? Also, any tips for keeping track of contributions/withdrawls?

AlexO

PNW_bo,

That is a great question!

There are certain rules regarding conversions and rollover contributions to the Roth IRA. First, for the Roth 401(k) rollover to Roth IRA, the funds will retain their character. Meaning, the contributions made to the Roth 401(k) will be considered contributions made to the Roth IRA and earnings will be considered earnings on contributions.

When you take a distribution that isn't considered a qualified distribution, the ordering rules for that distribution are as follows:

1. Regular contributions
2. Conversions and rollover contributions, on a first-in, first-out basis
   1. Taxable portion of the conversion/contribution
   2. Nontaxable portion
3. Earnings on contributions

Publication 590-B gives some good examples. See page 34:

https://www.irs.gov/pub/irs-pdf/p590b.pdf

When you take a distribution that is not considered qualified from your Roth IRA, Form 8606 will be prepared with your tax return. Form 8606 will list your prior-year contributions and the withdrawal amount, making it easy to keep track of that year's contribution/withdrawal. If you place funds into the Roth IRA in later years without withdrawing funds in the same year, a simple Excel/Google spreadsheet may be helpful to keep track of total contributions.

PNW_bo

Thank you very much for this answer! A follow-up question to #2: what would be some examples of a taxable portion of a rollover contribution? For example, If I rolled over $10k from a roth 401k with $6k being contribution and $4k being earnings. If I distribute $5k from that conversion, would I be taking from the 4K portion first (and needing to pay tax on it?) and then the final $1k from the nontaxable portion?

MatthewD

Hi,

Generally the IRS uses a pro rata rule in situations like this which is then reported on Form 8606. Which means that your basis in your example is 60%, the nontaxable portion, regardless of how much your rollover is. In your example, the 60/40 would apply, so $3,000 may not be taxable out of the $5,000.

Our software will apply this rule as long as you correctly fill out the page on Basis.

PNW_bo

thank you for the answer! I hadn't realized that distributions would apply the pro rata rule in a roth 401k rollover (I thought that was more for when you used after-tax contributions to a traditional IRA and converted that to roth and 5k withdrawn). Continuing with the example above (10k roth 401k [6k contribution, 4k earnings] rolled over to roth IRA), would the 10% tax penalty apply to any portion of the distribution (assuming distribution was done prior to age 59 1/2)?

MatthewD

Hi PNW.

Let me back up. I must have missed something. The pro rata rule wouldn't apply. If it is a Roth 401(k) rollover to a Roth IRA, then you shouldn't have any issue or penalties involved. I would recommend you do a direct rollover from one account to the next.

PNW_bo

Thanks for clarifying! Sorry to say I still have some confusion from AlexO's earlier post above where he grouped rollover and conversions together in the order of how distributions are counted. And this may just be a question that needs a more direct consult, but does it mean if I converted from a Trad IRA AND then rolled over a roth 401k that my distributions would first need to be taxed (since I converted before the rollover) until they use up the Trad IRA conversion amount, and then not be taxed for the contribution portion of the roth 401k rollover?

Before starting this thread, I was envisioning that when I start withdrawing money from my roth IRA, that I'd be able to first withdraw all already-taxed contributions first (eg. regular contributions, roth 401k contributions that had been rolled over, and trad IRA contributions that have been converted [since I believe I'm taxed on the taxable portion when doing the conversion]). And then any additional withdraw would count as a distribution on earnings which would incur a 10% penalty. Is that not the right way to think about it? Any chance you could share an example that shows how these different pieces fit (or if you know of a good article that breaks it down)?

KristineS

Hi PNW_bo,

Here's an article in our Community from one of our Pros on the pro-rata rule that may give a bit more context to the whole of your question.

The IRS has ordering rules as AlexO mentioned above. Contributions first, converted amounts/rollover contributions next (if held under 5 years the 10% penalty happens), and earnings last. Earnings are the last to be taken out, and they may be subject to taxes and penalties if withdrawn before you reach 59½ and have been held in your account less than 5 years.