Sometimes part of the money you have in a traditional IRA isn’t subject to income taxes when you take it out. Normally, the money in your traditional IRA is taxable when withdrawn. The non-taxable part, if any, is what the Internal Revenue Service calls your IRA basis. Correctly calculating and tracking IRA basis insures you won’t get stuck paying taxes on them that you don’t really owe.
In order to calculate your IRA basis, you must subtract all nondeductible contributions you have withdrawn from the sum total of your nondeductible contributions to date.
The Basics of an IRA Basis
You only have an IRA basis when you make nondeductible contributions to a traditional IRA. You can usually deduct your IRA contributions up to the $5,500 annual limit, or $6,500 when you turn 50. However, the amount of the deduction may be reduced if you or your spouse have a retirement plan at work. You can still make contributions. You just can’t take them as a deduction on your tax return. The total of all nondeductible contributions in your IRA is your IRA basis.
Understanding Nondeductible Contributions
When you or your spouse are covered by a work-related retirement plan such as a 401(k) and you make more than the annual IRS limit, the deduction for IRA contributions is “phased out.” Suppose you file as single taxpayer, for 2018 your phase-out range is $120,000 to $134,999. If your adjusted gross income is equal to or greater than $135,000, your allowed deduction is zero. Any contributions were nondeductible and added to your IRA basis.
Tracking Your Basis
Since you don’t get a tax break for nondeductible contributions, you have already paid income taxes on the money when you added it to your IRA. You should file IRS Form 8086 each year you add to your IRA basis so the IRS has a record of your nondeductible contributions. That way, you won’t risk having to pay income taxes a second time on your IRA basis when you eventually withdraw the funds.
To calculate your IRA basis at any point in time, add up all nondeductible contributions you have made to date and subtract any nondeductible contributions you have withdrawn.
Withdrawing IRA Basis
When you withdraw money from your traditional IRA as a distribution or by rolling it over into a Roth IRA, you can’t take out only your IRA basis. Instead, the percentage of your IRA balance that is your basis determines the percentage of the withdrawal that counts as basis dollars. For example, if 20 percent of the money in your IRA is considered IRA basis dollars, 20 percent of any withdrawal counts as basis money. This part of the withdrawal is not taxable. You only have to pay income taxes on the part that does not count as IRA basis.
Roth IRA Contributions
The term basis is sometimes used to refer to the amount of contributed funds in a Roth IRA. Roth contributions are not tax deductible, so you've already paid taxes on the money. For this reason, you can look at your Roth contributions as your IRA basis because contributed funds are not taxed when withdrawn.
However, unlike traditional IRA basis dollars, you may withdraw Roth contributions if you wish at any time. You can leave earnings in the account so you incur no tax liability for the withdrawal. Calculating a Roth basis is simple. Add up all of the contributions you have made to date and subtract any contributed funds you have withdrawn in the past.