So here’s the story: I put money into my SEP IRA about 5-10 years ago, but my CPA never listed it on my tax returns. I missed that detail too. My CPA is now retired.
The SEP funds are after-tax and never got reported to the IRS. Now, I’d like to convert this SEP IRA to a Roth IRA with a backdoor transfer.
My SEP has actually lost value over the years. For example, I originally deposited $50,000, but it’s now worth $30,000.
If I convert the SEP to a Roth, will it be a taxable event, or is it more like a straight conversion?
To get any benefit, you’d need to amend previous tax years to include the SEP deduction, but those years are probably too old to get a refund. Unfortunately, it means you’d likely get taxed twice here because you didn’t catch the mistake on your original returns (an easy mistake to make if you trusted your CPA).
@Marvin2
I think my question might not have been clear. The amounts that went into the SEP were never deducted on taxes, so I already paid tax on the whole amount in the SEP account.
My understanding is that after-tax dollars (from the SEP) going into another after-tax account (Roth) would be tax-free, except for any dividends or growth. Or maybe that doesn’t account for any losses in the SEP.
Taryn said:
Have you been filing Form 8606 with your returns? And do you have any other IRAs?
If your IRAs are all after-tax money, the Roth conversion could be tax-free.
Form 8606 is for traditional IRAs only, if I remember correctly. This isn’t a traditional IRA; it’s a SEP, which works a bit differently.
Plus, you couldn’t do after-tax contributions in a SEP back then (you can do Roth SEP now in 2023).
I’m hoping someone who’s more familiar can confirm. I’ve never had a client who skipped the SEP deduction, so I’m not sure how it’s treated, but I think it’s going to be handled as if everything was pre-tax.
Taryn said:
Have you been filing Form 8606 with your returns? And do you have any other IRAs?
If your IRAs are all after-tax money, the Roth conversion could be tax-free.
Since OP is talking about SEP contributions, it’s unclear if these can be treated the same as regular nondeductible contributions. Section 408(o) isn’t directly related since it refers to standard IRA limits.
Taryn said: @Tatum
Maybe they should first roll the SEP into a regular IRA and report the basis, then convert to Roth next year.
I don’t think that’s allowed. After-tax SEP contributions weren’t permitted back when they contributed, so rolling it over won’t change that. They might need to treat it as pre-tax regardless. But I’m not certain. OP should really get advice from someone familiar with SEP IRAs.
@Azar
That’s a personal choice. If you have a low income now, you might convert it and pay the tax at a lower rate. Another option is to roll it into a 401k if your employer allows it, but that only makes sense if you need or want to do backdoor Roth contributions.