IRA Basis

An IRA basis is the total amount of after-tax dollars a taxpayer has contributed to any IRA, tracked on Form 8606 to ensure that withdrawals do not incur tax twice on the same dollars. When a contribution is made with post-tax income (either a nondeductible IRA or a spousal IRA that is not deductible), that amount becomes basis, and future withdrawals of basis are tax-free.

Why after-tax contributions need tracking

The core problem is that the IRS wants to tax each dollar exactly once. A taxpayer who contributes $10,000 of pre-tax income to a traditional IRA defers tax until withdrawal, at which point the full amount is taxable. But a taxpayer who contributes $10,000 of after-tax income (money that has already been taxed at ordinary rates) should not owe tax again on that same $10,000 when they withdraw it.

Without a mechanism to track this distinction, the IRS would tax the full withdrawal, effectively taxing the after-tax contribution twice: once at the time of contribution and again at withdrawal. To prevent this injustice, the IRS created the concept of basis—a running tally of after-tax dollars in the account—and requires Form 8606 to document it.

Basis accumulates with each nondeductible contribution

Every year a taxpayer makes a nondeductible IRA contribution, that amount is added to their cumulative basis. Over time, the basis grows. Someone who contributes $7,000 nondeductible in year 1, $7,000 nondeductible in year 2, and $7,000 nondeductible in year 3 has a basis of $21,000 across all their IRAs.

Basis is calculated across all IRAs combined. If someone has a traditional IRA, a Roth IRA, and a SEP IRA, the basis calculation includes nondeductible contributions to any of them. The purpose is to prevent someone from hiding after-tax dollars in one account while claiming basis was only in another.

A spousal IRA funded by a working spouse using after-tax dollars also generates basis. The non-working spouse must track contributions to their own spousal IRA separately, filing their own Form 8606 if any of their spousal contributions were nondeductible.

Form 8606 must be filed every year

The IRS requires Form 8606 to be filed with the tax return for any year in which:

• A nondeductible IRA contribution is made
• An IRA is converted to a Roth
• Any withdrawal from a traditional, SEP, or SIMPLE IRA is taken when the taxpayer owns nondeductible basis
• A required minimum distribution is taken from an IRA when nondeductible basis exists

Many taxpayers file Form 8606 only in the year they withdraw money, then stop. But the IRS rule is stricter: the form must be filed every year an IRA with nondeductible basis exists, even if no withdrawal occurs that year. Missing a filing can trigger penalties and create confusion about the actual basis balance.

How basis reduces the taxable portion of withdrawals

When someone withdraws from a traditional IRA and has accumulated basis, the withdrawal is allocated proportionally between tax-free and taxable portions. The pro-rata rule applies: the percentage of the withdrawal that is tax-free equals the percentage of total basis in all IRAs.

Here is a concrete example. A taxpayer has:

• $80,000 in a traditional IRA (all pre-tax contributions)
• $20,000 in a traditional IRA (all after-tax / nondeductible contributions, so $20,000 basis)
• Total: $100,000, of which $20,000 is basis

If the taxpayer withdraws $20,000, the pro-rata rule says: $20,000 is tax-free (the basis portion) and $0 is taxable. But if the taxpayer withdraws $50,000, the rule allocates it: $10,000 is tax-free (20% of $50,000) and $40,000 is taxable (80% of $50,000). The withdrawal is allocated across the whole pool, not taken from a single account.

The pro-rata rule and Roth conversions

The pro-rata rule creates a significant planning constraint for Roth conversions. A taxpayer who has $100,000 in a traditional IRA (pre-tax) and makes a $10,000 nondeductible IRA contribution, intending to convert just the nondeductible portion to a Roth IRA, will trigger tax on most of the conversion.

The conversion itself is a withdrawal in the eyes of the IRS. Converting $10,000 out of a $110,000 total (10,000 pre-tax + $10,000 nondeductible) triggers the pro-rata rule: 91% of the conversion ($9,091) is treated as pre-tax and is taxable; only 9% ($909) is treated as after-tax and is tax-free.

This is why the backdoor Roth strategy requires paying off or rolling pre-tax IRA balances into a 401(k) before attempting the conversion. With zero pre-tax IRA balances, a nondeductible contribution can be converted to a Roth with minimal tax.

Basis survives death and transfers

When a taxpayer dies and leaves an IRA to an inherited IRA beneficiary, the basis carries forward. If the original owner had $30,000 in nondeductible contributions, the beneficiary’s inherited account includes that $30,000 basis.

The beneficiary must file their own Form 8606 to report the inherited basis, and any withdrawals are calculated using the inherited basis figure. This prevents the beneficiary from accidentally paying tax twice on the after-tax portion.

If an IRA is transferred to a former spouse as part of a divorce settlement, the basis is also transferred. The ex-spouse becomes responsible for tracking it on future Form 8606 filings. Divorce decrees sometimes specify how basis is allocated between the two parties’ accounts if the split is uneven.

Common mistakes in basis calculation

The most frequent error is failing to file Form 8606 at all, especially in years when contributions are made but no withdrawal occurs. Years later, when the taxpayer finally withdraws, they have no documentation of the basis accumulation and face IRS scrutiny.

A second mistake is including Roth IRA contributions in the basis calculation. Roth contributions are always after-tax by design and do not generate Form 8606 basis; they are not tracked on Form 8606 at all. The confusion arises because Roth contributions are after-tax, but they are not the same as nondeductible IRA contributions, which are what Form 8606 tracks.

A third error is forgetting about basis entirely after a Roth conversion. A taxpayer who converts an IRA (mixing pre-tax and nondeductible portions) must still track the basis of the remaining IRA, if any. And if they later convert additional dollars from another traditional IRA, they must recalculate the basis proportion across all their IRAs.

Importance of recordkeeping

Because basis calculations span many years and sometimes multiple accounts and institutions, meticulous recordkeeping is essential. A simple spreadsheet noting the date, amount, account type, and whether each contribution was deductible or nondeductible will prevent downstream headaches.

Upon retirement or before large withdrawals, consulting a tax professional to calculate and verify basis is often worthwhile. An error in basis can result in paying tax on dollars that should have been tax-free, and correcting the mistake retroactively can be costly.

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