Track Your IRA Basis

What’s your definition of basis? When it comes to your taxes, you might think of the amount you paid for an asset, such as your home or a security, less certain adjustments. But you may also have basis in your traditional IRA — and tracking that basis can save you tax dollars.

You get basis in a traditional IRA when you make contributions that are not deductible on your federal income tax return. Later — the save-you-money part — when you take distributions or convert your traditional IRA to a Roth, the basis reduces the amount you report as taxable income.

Does that mean you can withdraw or convert only your basis and owe no tax at all? Unfortunately, no. The reason is a pro-rata rule. It works like this: You figure the taxable portion of distributions by dividing your basis by the total year-end balance of all your IRAs. Each distribution is partly taxable and partly tax-free.

Knowing your basis can help heirs, too. When your beneficiaries inherit your IRA, they also inherit your basis.

Track your nondeductible contributions on IRS Form 8606. The form does not need to be filed every year, so be sure to keep a copy of the latest one.

Contact us if you need help constructing IRA basis from prior years.