I made a $2000 Roth contribution in January 2001. Just learned our income went up to $158,000 so I guess I'm not eligible. Of course, as usual, I lost money on the $2,000 investment. It's now worth $1500. Am I correct that I need to withdraw the $1500 by the time I file my return (I extended) to avoid a 6% excise tax? Can I deduct the $500 loss on my 2002 return?

If you income is anyway near last year's than the answer is NO.

For more details click on below link:

http://www.benefitslink.com/mbmirror/12458.html

It is not a perfect match for your circumstances but gives you and idea of how difficult taking a loss can become. A 25% loss is not uncommon when you have a very short market snapshot. You can't avoid short term down drafts, but over the long haul if you have a well balanced portfolio you should be fine.

Thanks for your input. James Patrick....so at what level would my income need to be (joint return) to take the $500 loss? Pub 590 says that if the money AND earnings are withdrawn by the due date of the return, AND the income (in this case a loss) is reported, then the excess is treated as not contributed.

Pub 590 also indicates I have another option (I think). Again, assuming our income is below $150,000 next year, it says I can apply the excess contribution in one year to a later year.

I really don't want to take the money out, but I need to do something to avoid the 6% excise tax.

Caught in the phase out....

You have the option to instruct the custodian to convert {correction: recharaterize is the right term} the Roth contribution over to a standard IRA.

If you closed all your Roth accounts, the $500 loss could only be taken if you filed Schedule A and you exceeded the % of income threshold. This loss by itself would not.

If on rechecking your 1040 you find that your income drops below 150k, the problem goes away as you can keep the Roth.

I think John G meant recharacterize (not convert).


Note also that if you leave the contribution in the Roth and reallocate it to another year, you will be assessed the 6% penalty. The only way to avoid the 6% penalty is to remove the excess or recharacterize it to a traditional IRA (you have until October r 15 to recharacterize, given that you filed your return or an extension)

Convert should be recharacterize - yes, got a little sloppy with the language there. Thanks for catching it.

Here is a second reference with some examples that may be more helpful:

http://www.fool.com/taxes/2002/taxes020222.htm