Roth IRA Conversion Frequently Asked Questions
California conforms to several recent federal law changes in the area of traditional and Roth IRAs. Each of these changes became effective January 1, 2010. One significant change now allows taxpayers using the married filing separate filing status to convert from a traditional IRA to a Roth IRA. Additionally, the limitation prohibiting Roth conversion to those reporting a modified adjusted gross income of $100,000 or more has been eliminated.
Lastly, a number of issues have arisen as a result of the change allowing taxpayers to make a Roth IRA conversion in 2010 and defer the recognition of income to 2011 and 2012. Below are answers to some of the most frequently asked questions.
Does California conform to this change?
Yes, California pre-conforms to many of the deferred compensation provisions of the Internal Revenue Code under Revenue and Taxation Code (R&TC) section 17501. Consequently, the change in federal law allowing taxpayers to report the taxable portion of their 2010 Roth IRA rollover ratably during 2011 and 2012 is applicable for California purposes.
Must a taxpayer make a separate California election or do conversions have to be treated the same for California purposes as for federal?
Under IRC section 408A(d)(3)(A)(iii), a taxpayer must elect out of deferring the income to 2011 and 2012. Any election for federal purposes will apply for California purposes. But, if a taxpayer elects out of the deferral for federal purposes, California will allow a separate election to not opt out of the deferral for California purposes and vice versa.
If a nonresident taxpayer who was not subject to California taxes in 2010 makes the election for federal purposes and moves into California during 2011 or 2012, is he or she bound by this election for California purposes?
Yes, under R&TC section 17024.5(e)(3)(B)(i), if a taxpayer made a valid federal election prior to becoming a California taxpayer, that taxpayer is deemed to have made the same election for California purposes unless a separate election is expressly authorized by statute. The R&TC does not provide for a separate election for purposes of Roth IRA conversions in these circumstances.
If a taxpayer chooses to defer to 2011 and 2012 and the taxpayer leaves California in one of those years how is the conversion treated for California purposes? Similarly, how is the conversion treated if a nonresident moves into California?
In Legal Ruling 98-3, Taxation of IRA Distributions Rolled Over to a Roth IRA Followed by a Change of Residence Status, we provided guidance as to the tax treatment of California residents who converted a traditional IRA to Roth IRA in 1998 and then change residence during the ratable period between 1999 and 2001, as well as the tax treatment of non California residents who converted an IRA to Roth IRA in 1998 and then become California residents in the period between 1999 and 2001. The analysis in this ruling remains applicable to the new deferral rule allowing taxpayers to report the income from the conversion of a traditional IRA ratably over the two years following the conversion.
Outbound taxpayers must include in gross income only those portions of the taxable distribution reportable under the two year rule before they became nonresidents. Under R&TC section 17952.5 the gross income of a nonresident does not include qualified retirement income including income from an IRA, received on or after January 1, 1996. R&TC 17952.5 prevents the imposition of California tax on the portions of the IRA distribution recognized after an individual becomes a nonresident.
California will allow for the proration of the taxpayer's income from the conversion based upon the number of days a taxpayer is within California during the two years of the proration. An individual who makes a rollover contribution from an IRA to a Roth IRA before January 1, 2011 and changes residency in 2011, must include in California adjusted gross income one half of the taxable portion of the distribution multiplied by a fraction, the denominator of which is the total number of days in the taxable year and the numerator of which is the number of days in the year in which the individual is a California resident.
If the taxpayer changes residency during the second year, the amount included in California adjusted gross income for the year of the change in residency is one half of the taxable distribution multiplied by a fraction, the denominator of which is the total number of days in the taxable year and the numerator of which is the number of days in the year in which the individual is a California resident.