Converting past Traditional IRA to Roth IRA question

Hoping I can get some help here by someone. In 2006 we (my wife and I) put 8K into our traditional IRAs as we do every year and took the deduction on our 2006 1040 form. In January of this year, I was notified by the IRS that we did not qualify fot that deduction as we had sold stock that year and our income was too high. So we wrote a check to the IRS for those 'back taxes' that we owed them ($2,140) - no problem.

Now my question: As this 8K has now been taxed I'd like to transfer it to my Roth IRA that I haven't fed for about 10 years. How complicated is this? How about the gains made within my traditional IRA since putting it in there in 2006 - will I need to calculate and pay taxes on that amount as well as the taxes that I have now already paid on the 8K?? or do I simply move the 8K from my traditional over to my Roth - end of story?

funny thing is, the IRS letter (about my 2006 return) came a few days after we submitted our funds for our 2008 IRA contribution (you guessed it.. into our traditional IRA's) now that I understand the income limits, I realized we will not qualify for the tax deduction this year as well (working lots of OT this year).

So, for this year, once again, I want to transfer my 2008 IRA funds over to my Roth (from my traditional). A bit easier on this one however as I have not taken the tax deduction yet.

Please advise.. much appreciated..

Bjk7799,

Yes, there are some different Gotchas no matter how we try to save for our retirement.

For 2008, if you have already made your contribution, you could contact your IRA custodian and tell him you need to make that a ROTH IRA contribution. That would eliminate any issues for 2008, that is assuming you otherwise qualify for a ROTH IRA contribution.

Because you did not mention 2007, It is assummed here that there were no issues with a dedcutable contribution to your IRAs.

For 2006, keep the IRS letter with your IRA paperwork. This will help you establish your basis in the IRA. You should also complete a copy of form 8606 Part I, and submit that to the IRS. Each distributon from your TIRA will consist of both Pre-tax and Post tax money. Your $8,000 is now your basis in your TIRA.

You now have a Traditional IRA with Pre-tax and Post tax money. The IRS looks at all of your TIRAs as one TIRA. Without converting youre entire TIRA to a ROTH in one step, you must convert a ratio of Pre-tax money and Post tax money. Example: Your TIRA value is $100,000. We know $8,000 is Post tax money as you have just paid the tax on that $8,000. You want to convert $10,000 to your ROTH IRA (or 10% of your TIRA balance). That $10,000 will consist of $9,200 Pre-tax money $800 Post tax money.
You will need to complete Part II of that Form 8606 for this Conversion.

Because it is unlikely that you will have any great future benefit from the this TIRA to RIRA conversion, you may not want to do that. Instead make some or all of your future IRA contributions to your ROTH IRA.

[QUOTE],
Because it is unlikely that you will have any great future benefit from the this TIRA to RIRA conversion, you may not want to do that. QUOTE]

But wouldn't it benefit me to let these funds ($8,0000) compound tax free? Wouldn't the growth be taxed if left in theTIRA? Say.. if the $8k grew to $10K then I would be taxed on the $2K in the TIRA while the same $2K would not be taxed in a Roth??

Clyde, thanks for the education by the way..

Clyde,
.. in reading your response again, it sounds as though these monies are now co-mingled and cannot be seperated once merged. If I understood you correctly, any transfers from the TIRA to the ROTH would be at the same ratio that my post-tax and pre-tax funds are at this time within the "pot". Is this correct? If so, I can't 'cut' my (now post-tax) funds from my pre-tax. Is this right?

Thanks again..

Bjk7799,

Your second assumption is correct.