I understand that doing a conversion from a 401(k) into a Roth IRA is a taxable event. I'm trying to understand the details of how this is taxed.
Many resources, including this answer and this blog post mention the fact that long-term capital gains are not taxed when you're in the 15% income bracket.
My first question is: the entire 401(k) is not considered long-term capital gains, right? Presumably, your contributions will always be taxed as regular income, and any gains made in the last year would be taxed as short-term capital gains, correct?
To give a more elaborate scenario, consider the following:
- An individual contributes $1k to their 401(k) in January, 2016
- Between January and June of that same year, it gains +$1k
- The individual contributes another $1k to the 401(k) in July 2016
- Between July and December of that same year, the 401(k) grows another $1k
If they do the conversion in the following March while in the 15% tax bracket, and no other change occurs to their balance, would it be taxed like so:
- First $1k conversion taxed as ordinary income, due to it representing the January contribution
- Second $1k conversion tax-free due to long-term gains
- Third $1k conversion taxed as ordinary income, due to it representing the July contribution
- Fourth $1k taxed as short-term gains
Or would the entire thing be taxed at 0%? Or something else entirely?