Converting my after-tax SEP IRA to a Roth IRA - tax implications?

This is actually a complex situation that requires careful handling. Since your SEP IRA contributions were never deducted on your tax returns (meaning they were effectively "after-tax" contributions), you've created what's called "basis" in your IRA. When you convert to a Roth, you're typically taxed on any pre-tax contributions and earnings. However, since you have basis in your SEP IRA, you wouldn't be taxed on that portion. The challenge is that the IRS requires you to calculate the taxable portion of a conversion using the "pro-rata" rule, which looks at all your IRA accounts together. First, you should file Form 8606 for the years you made those contributions to establish your basis. Even though it's late, it's important to document that these were after-tax contributions. Without this documentation, the IRS might consider the entire conversion taxable. As for the losses, unfortunately, they don't provide any tax benefit when converting to a Roth. The fact that your account has decreased in value from $60,000 to $38,000 doesn't change how the conversion is taxed - you can't claim those losses.

I had a similar tax situation and found using https://taxr.ai really helpful. My accountant had also missed reporting some retirement account contributions, and I was confused about how to handle the conversion. I uploaded my tax returns and investment statements to taxr.ai, and it analyzed everything and provided a detailed report explaining exactly what forms I needed to file and how the conversion would be taxed based on my specific situation. Their analysis showed I had basis in multiple accounts and explained the pro-rata rule implications for my backdoor Roth conversion. The report even included step-by-step instructions for filing the missing 8606 forms and how to properly report the conversion on my upcoming tax return.

I tried taxr.ai after seeing it mentioned here, and it was actually super helpful! I had a very similar situation with undocumented after-tax contributions to an old retirement account. I wasn't sure how to proceed without triggering an audit. The analysis I got showed exactly which forms I needed to amend and how to document my basis properly. They even identified that I should file my Form 8606 forms before doing the conversion so everything would be properly tracked in the IRS system. I was able to convert my old SEP IRA to a Roth with confidence that I wouldn't be double-taxed. The report I received showed specifically how the pro-rata rule would affect my conversion and calculated the exact taxable amount. Worth every penny for the peace of mind alone.

If you're planning to call the IRS to sort this out (which might be necessary), save yourself the frustration of waiting on hold for hours. I used https://claimyr.com to connect with an IRS agent when I had a similar issue with unreported retirement contributions. You can see how it works at https://youtu.be/_kiP6q8DX5c - basically they wait on hold with the IRS for you and call you when an agent is on the line. I spent weeks trying to get through to the IRS myself about how to properly report previously undocumented IRA contributions, but the wait times were insane. With Claimyr, I got through to an IRS representative in their retirement department who explained exactly how to file the past-due 8606 forms and what documentation I needed for the conversion.

I'm actually coming back to admit I was wrong about Claimyr. After my skeptical comment, I was desperate enough to try it for my SEP IRA issue. Within about 40 minutes (while I was working on other things), I got a call connecting me directly to an IRS retirement specialist. The agent was able to confirm exactly what I needed to do regarding my unreported SEP contributions and explained the correct procedure for documenting my basis before conversion. She told me which forms to file and how to handle the conversion on my taxes given my account had lost value. I spent weeks trying to get through on my own with no success, so this was honestly a game-changer. Sometimes you have to eat your words, and in this case, I'm happy to do so since I finally got my tax situation straightened out.

Just wanted to add something important that hasn't been mentioned yet. When you're dealing with after-tax funds in a SEP IRA that were never reported, you need to be careful about the statute of limitations. Generally, the IRS has 3 years to audit your returns, but this can be extended in certain situations. In your case, since these contributions weren't reported at all, you might want to consult with a tax professional about any potential risks before proceeding with the conversion. Also, make sure you have documentation of those original contributions from 7 years ago - bank statements showing the transfers to the SEP, etc. The more documentation you have to support your claim that these were after-tax contributions, the better off you'll be if there are any questions.

Has anybody considered that the OP could potentially benefit from the losses in the SEP IRA? If the original contributions were $60k and current value is $38k, that's a significant loss. While you can't typically deduct IRA losses, if you liquidate ALL your IRAs (of the same type) and the total distribution is less than your basis, you might be able to claim the loss as a miscellaneous itemized deduction subject to the 2% AGI floor. Though I believe this was suspended under the TCJA until 2026.