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Author: JAFO31 Big gold star, 5000 posts Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: of 75383  
Subject: Re: 401k distribution Date: 1/9/2004 1:24 PM
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baldguy13: {{{{"So, when you convert a traditional IRA to a Roth IRA, the tax dollars have to come from another source? They can't come out of the traditional IRA? I no longer have the cash laying around to pay the taxes, especially if I'm going to be out of work (company screwed me big time)."}}}}

gogreengo: "The taxes don't HAVE to come from outside the IRA, but it's best if it does. If you use the money from the IRA to pay the taxes on the conversion, you're reducing the amount of money you have invested."

gogreengo is correct that there is no legal requirement that the taxes come from outside the IRA that is being converted.

WHat gggo did point out the opportunity cost issue, gggo did not point out is that if you use funds from within the IRA to pay taxes on the conversion, that will be considered a withdrawal from the IRA, so you will owe income taxes on that amount (or some prorated portion if you have a tax basis in your IRA), and unless you are already retirement aged or can fit the withdrawal into one of the handful of exceptions, it will be an early withdrawalon which you also owe a 10% penalty.

You would have payed the income tax anyway upon conversion, but the 10% early withdrawal penalty on the dollars withdrawn from the IRA to pay the conversion tax is the other primary reason most people suggest using other funds (not inside the IRA) to pay the tax.

Regards, JAFO


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