How High Earners Can Set Up a Roth IRA

It's simple: First contribute to a traditional IRA, then convert that IRA to a Roth.

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Question: If I earn too much to contribute to a Roth IRA, can I still contribute to a traditional IRA and then immediately convert it to a Roth? Would I have to pay taxes on the conversion?

You have to pay taxes on the conversion, except for any part that’s from nondeductible IRA contributions. If this nondeductible IRA is your only traditional IRA, you’ll have to pay taxes only on any earnings in the account after you made the contribution and before you converted the money to the Roth. The entire conversion would be taxable if all the money in your traditional IRA was from tax-deductible contributions.

The calculation is more complicated if you have other money in IRAs. Your tax liability is based on the ratio of your nondeductible contributions to the total balance of all of your traditional IRAs (but not money already in Roths) when you make the conversion. This includes money in SEP and SIMPLE IRAs, says Jeffrey Levine, director of retirement education for Ed Slott & Co., which provides IRA advice. For example, if you have a total traditional IRA balance of $20,000 and $5,000 is from nondeductible contributions, then one-fourth of your conversion will be tax-free and three-fourths of the conversion will be taxed at your income-tax rate.

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For more information about Roth conversions, see IRS Publication 590-A, Contributions to Individual Retirement Arrangements. Also see Levine’s Definitive Guide to the Back-Door Roth.

Kimberly Lankford
Contributing Editor, Kiplinger's Personal Finance

As the "Ask Kim" columnist for Kiplinger's Personal Finance, Lankford receives hundreds of personal finance questions from readers every month. She is the author of Rescue Your Financial Life (McGraw-Hill, 2003), The Insurance Maze: How You Can Save Money on Insurance -- and Still Get the Coverage You Need (Kaplan, 2006), Kiplinger's Ask Kim for Money Smart Solutions (Kaplan, 2007) and The Kiplinger/BBB Personal Finance Guide for Military Families. She is frequently featured as a financial expert on television and radio, including NBC's Today Show, CNN, CNBC and National Public Radio.