ROTH IRA RECHARACTERIZATION
If you converted a traditional IRA to a Roth IRA in 2010 and now it has fallen in value, all is not lost. You can avoid being taxed on the value of the 2010 conversion.
The law allows you to undo your 2010 Roth conversion as long as the recharacterization is accomplished by Oct 17, 2011, the extended due date of the 2010 returns. This applies regardless of whether or not you extended your return or have already filed.
The reconversion is accomplished by a direct rollover back to a traditional IRA. You will have to notify all the trustees involved that you are recharacterizing a 2010 conversion. An explanation will also have to be attached to your 2010 tax return (either the original filing or an amended return).
If you want to have a Roth IRA, you can then reconvert the IRA to a Roth IRA after waiting 30 days from the recharacterization. This amount will be taxed in the year of the reconversion.
This recharacterization and then reconversion can only be done once per year:
Example: Sally converted her $100,000 IRA (basis $70,000) to a Roth IRA in 2010. It is now worth $80,000. If she does nothing she would either pay tax on the $30,000 in 2010, or she could elect to pay tax on $15,000 in 2011 and 2012.
Now she recharacterizes the Roth IRA back to the traditional IRA on August 15, 2011 so there is no taxable income for 2010.
On September 15, 2011 when the value is $84,000, she can reconvert the IRA to a Roth IRA, and pay the tax on the $14,000 of the Roth conversion in 2011. (The election to spread the income over 2011 and 2012 was only available for the 2010 conversions.)