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How to Undo a Roth IRA Contribution

If your income exceeds the limits for contributions, you can avoid a penalty if you take the money out of the Roth before you file your tax return.

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I contributed $5,500 to my Roth IRA in 2014, but then I got a raise and my household income ended up over the limit at the end of the year. What can I do so I don't get penalized?

See Also: 6 Savvy Moves to Stretch Your Retirement Savings

If you make Roth contributions during a year when your income exceeds the limits, you usually have to pay a 6% penalty on the contributions. But you can avoid the penalty if you take the contribution (and any earnings on the contribution) out of the Roth before the tax-filing deadline of April 15, 2015 (or October 15, 2015, if you file an extension). Your earnings will be considered taxable income for the year you made the contribution. You were eligible to contribute to a Roth IRA in 2014 if your modified adjusted gross income was less than $181,000 if you were married filing jointly (you could make a partial contribution if joint income was less than $191,000). The limit for single filers was $114,000 ($129,000 for a partial contribution).

Instead of withdrawing the money and paying taxes on the earnings, however, you can ask your IRA administrator to switch your 2014 Roth contributions (plus all of the earnings on that money) to a traditional IRA before the tax-filing deadline. If you made contributions to the Roth in earlier years, the administrator should calculate how much of the earnings in the account should be attributed to the 2014 contribution. You can keep the money you contributed in previous years in the account.

Because there is no income limit for converting money from a traditional IRA to a Roth, you could take the nondeductible contribution you put in the traditional IRA and transfer it back into a Roth IRA. If that nondeductible contribution is the only money you have in any traditional IRA, you'd owe taxes only on any earnings between the time of the contribution and the conversion. However, you may have a bigger tax bill than expected if you have any pretax money in a traditional IRA. In that case, your tax liability for the conversion is based on the ratio of any nondeductible contributions to the total balance in all of your traditional IRAs (see Smart Ways for High Earners to Contribute to Roth IRAs).

For more information about the benefits of a Roth, see Why You Need a Roth IRA.

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