The Lowdown on Roth IRA Conversions

You're also able to withdraw the $5,000 from your traditional IRA yourself, and send a check to the new custodian of your Roth. Big caveat, though: You have just 60 days to complete the transaction, otherwise you'll owe a 10% penalty plus income tax on the amount you withdrew.

Remember, to convert even a small amount of a traditional IRA, your modified adjusted gross income can't exceed $100,000 (regardless of whether you're married or single; married couples filing separately may not convert).

For more information, check out IRS Publication 590, "Individual Retirement Arrangements."

Roths are great, assuming the bull can be roused from the dead. I know you may not take this question seriously, but here goes: If by some small, minuscule chance we go Japanese and the bear prevails for a decade or two, is a loss on a Roth deductible (capital loss?), seeing that the gains are not taxable?

RP Koscinski

Generally, because IRAs are tax-advantaged, investors are not able to claim any losses incurred inside of an IRA. The same goes for a Roth, although there's a minuscule loophole that -- while completely legitimate -- is probably only useful to a small number of investors.

The problem is twofold. First, you must liquidate all of your Roth IRA accounts to claim a loss. If you close out all of your Roth IRA accounts, and the total distribution is less than your total contributions, you might be able to claim the loss.

Now comes the second sticking point: The loss is only deductible as a miscellaneous itemized deduction -- not as a regular capital loss. Regular capital losses (those that occur in taxable accounts) can be used to offset any taxable gains. And if the losses exceed the gains, you can offset up to $3,000 in ordinary income, saving any excess to deduct in future years. Not so with losses from a liquidated Roth, though. Because they're only deductible as a miscellaneous itemized deduction, the losses must exceed 2% of your adjusted gross income (AGI) before they can be deducted. So if your AGI is $100,000 and you've lost $7,000 in your Roth, only $5,000 of that loss is deductible. (Two percent of $100,000 is $2,000, so only the losses that exceed $2,000 are deductible, in this example.)

In order to more easily reach the 2% threshold, you can bunch your Roth losses with other miscellaneous itemized deductions, such as any unreimbursed business and travel expenses; professional association and union dues; cost of looking for a new job; work uniforms; tax advice and preparation fees and some legal fees. For more on miscellaneous itemized deductions, see Tax Time -- What You Can and Can't Deduct.

Keep in mind, though, that once you close your Roth to claim the loss deduction, you can't put the remaining money back into a Roth (or any other sort of IRA). You can, of course, open a new Roth account, but your contribution will be limited to the $3,000 annual contribution limit ($3,500 if you're 50 years of age or older). But you're still essentially forgoing the future benefit of a Roth for a deduction today. The further you are from retirement, the less sense this makes -- unless, of course, you really are expecting a 20-year bear market. I'm not.