According to current federal guidelines, Roth IRA conversions are only available to taxpayers with adjusted gross incomes of less than $100,000. That limit is being repealed in January, for most Americans, but Wisconsin residents will miss out on the opportunity for now, according to Tim Steffen, CFP and CFA at Robert W. Baird & Co.
Wisconsin residents who have already done a Roth conversion and exceed the income requirements could face several penalties, Steffen said. They include:
- A 3.3 percent early distribution penalty for the amount converted for taxpayers younger than 59.5 years old.
- Any amount that is rolled into a Roth IRA may be treated as a contribution and subjected to a $5,000 annual maximum. If the amount exceeds that limit, it may be subject to a 2 percent penalty.
- For 2010 conversions, the amount withdrawn from a traditional IRA will be taxable in Wisconsin for the year, even though federal law allows income to be spread over 2011 and 2012.
The state Department of Revenue has said previously that it will propose updating state tax code to adopt the federal changes. Those proposals have not yet been made, and would require legislative action, which will not occur until January, at the earliest.
“This means that a Wisconsin resident doing a conversion in early 2010 would face uncertainty as to the state tax treatment of the transaction,” Steffen said.
Those who wish to convert a portion of their holdings to a Roth account in anticipation of a law change can do so with little fear of negative consequences, Steffen said, because tax law allows accounts to be “re-characterized.”
“A re-characterization is essentially a way to undo the conversion transaction,” he said. “The converted amount would be rolled back into the traditional IRA and there would be no tax consequences for that year.”
Re-characterizations must be finalized by Oct. 15 of the year after the conversions, allowing Wisconsin residents until Oct. 15, 2011 if the state takes no action.
Baird’s contacts in Madison have told the company there are politicians who want to see state law changed, Steffen said.
“By all means, this is not a sure thing,” he said. “This would require bipartisan support. It’s not a done deal at all.”