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I am thinking out loud here and am posting on the off chance that someone familiar with how the MO income splitting for married couples works could let me know if my thinking is way off base.

In Tax Year 2006 (yes, I try to think ahead), it is likely my wife will not have any earned income. In MO, if a couple files MFJ, deductions are apportioned to each spouse according to percentage of overall income and then tax is figured separately for each spouse. Tax brackets increase 1% for each $1,500 of income, topping out at 6% (so 1% for the first $1,500, 2% for the second $1,500, and so on to a top rate of 6% on all income above $7,500). Clearly, it would be advantageous to shift income from the working spouse to the non-working spouse, at least until both spouses are in the 6% bracket. Since there are unlimited gifts between spouses, we are already preparing to put as much of our income-producing assets as possible in her name.

Now, we will also be within the range to make deductible Traditional IRA contributions. I know we can contribute to her Traditional IRA in the form of a spousal contribution. I am thinking that since she will have no earned income, my income must be the source of the contribution. If we then immediately roll that over to a Roth, I am thinking that that will be counted as her income since it is her IRA that is being rolled-over.

The effect as I see it (excepting more stringent limitations on penalty-free withdrawls which is not an issue to us) would essentially be the same as if we made a spousal Roth contribution directly, except that the $4,000 would be counted as her income rather than mine for MO income tax purposes.

Does anyone (especially anyone familiar with MO state income tax) see any flaws in my thinking here?

Yes, it is flawed. If you convert the Traditional IRA contributions to a Roth IRA, the contribution is not deductible and the conversion is not reported. In other words, it appears on your Federal return exactly as if you made the contribution directly to the Roth IRA. See the instructions for Form 1040, line 15 and Form 8606.


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