John R. Bullis: Do a Roth IRA conversion while stocks are down

Suppose you have a traditional IRA but want to convert part of it to a Roth IRA. You could do that to benefit your designated beneficiaries. After your death, if they inherit a Roth IRA, they can receive withdrawals that are tax free!

Yes, you do owe a tax on the value converted from your regular or traditional IRA, but that is not treated as a gift for form 709, U.S. Gift Tax Return. It will be a benefit to your heirs since you pay the income tax on the value converted. They inherit the full amount, including earnings, without an income tax liability.

If you convert some stocks that are priced lower than you expect they will be in the future, the lower value helps reduce your tax to do the conversion. An example might be oil companies stock that has reduced values with the low price on crude oil, etc.

A conversion to Roth IRA has a “do over” feature. Say you now convert $10,000 of current stock value from traditional IRA to a Roth IRA. If the price continues to go down even more, you have until Oct. 15, 2017 to cancel the transaction (conversion).

Of course we hope the values will come back and the $10,000 of stock today becomes more like $13,000 or so in the near future (and continues to increase as oil prices rise to what most people view as normal). The increase in value in a Roth IRA is not going to be subject to income tax for you or for your heirs.

Some folks have done more than one Roth IRA conversion. You might do one for the oil stocks, another one for bonds and yet another one for other stocks. You can select one or all of them to be canceled by Oct. 15 of the following year. If one of them has gone down in value significantly, maybe that could be canceled. The other two that have gone up in value could be left as taxable conversions, but you would be taxed only on the value on the date of conversion.

The tax laws don’t very often give an option to cancel a transaction, but the conversion to a Roth IRA allows a change of mind. The option is not forever. It must be canceled, the technical word is recharacterized, before Oct. 15 of the following year. A 2016 conversion would be reported on your 2016 U.S. Individual Income Tax Return that would be filed (with extensions) as late as Oct. 15, 2017.

A Roth IRA conversion is not just for the heirs. If you have a low income for some reason in 2016 (business loss, retired, etc.), maybe it would be a benefit for you to do at least a Roth conversion of some amount. You might select the amount that does not end up being taxed at your normal high tax bracket.

Maybe a meeting with your stockbroker, or a review of your holdings is in order?

Did you hear? “Whether the glass is half empty or half full depends on whether you are drinking or pouring.” — Anthony Boxer

John Bullis is a certified public accountant, personal financial specialist and certified senior adviser who has served Carson City for 45 years. He is founder emeritus of Bullis and Company CPAs.