Roth conversions are a popular tool for retirees and people in their late 50’s and early 60’s. They allow you to change some of your traditional retirement accounts into Roth IRAs. The advantage of this is that your contributions grow tax-free. 

However, before you pull the trigger on this important financial decision, it is crucial to understand how it can impact your tax bill. In order to help you determine whether or not this could be a wise move for your unique situation, we are evaluating some of the pros and cons.

Let’s explore the following:

• The possible upsides of a Roth conversion
• Can you reverse a Roth conversion of an IRA?
• Why funding a conversion from your IRA Is bad
• When converting a traditional IRA can be ideal

Should You Convert Your Traditional IRA?

If you are thinking of converting a traditional IRA into a Roth IRA, make sure to consider all of the following factors:

• How much tax will you pay, as a result?
• Can it be undone?
• How will you pay taxes on my conversion?

While these questions may seem straightforward, the answer to them depends entirely upon your personal situation and goals. For example, if one of your goals is to reduce your income tax liability, then paying taxes at the time of the conversion is ideal. Meanwhile, if another goal is increasing your retirement savings (via future growth), waiting until later in life might be better. 

Is It Reversible?

Can you undo a Roth conversion, if you change your mind?

No, we consider it permanent. Please see this link.

When Should You Consider Converting?

If converting your traditional IRA to a Roth sounds right for your situation, the decision should still depend on several factors. Generally speaking, you should consider converting when:

• You are in a low tax bracket or expect to be in a higher bracket in the future.
• You have a large amount of money in your traditional IRA and want to pay taxes on it sooner rather than later (which can help reduce your long-term tax bill).

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How To Pay Taxes on Your Roth Conversion

There are two main ways to pay taxes on Roth IRA conversions: as you go, or all at once. Which method you choose can have a significant impact on the amount of money you ultimately pay in taxes, overall.

If you choose to pay as you go, then each year when April 15 rolls around, some of your income tax bill will be based on the amount you converted during previous years. This works best if your income is relatively steady from year to year. On the other hand, if this is not the case—or if there has been an increase or decrease in income from one year to another (such as when someone retires)—things could get complicated.

It also bears mentioning that a Roth conversion may not be wisest if you cannot pay for it from other income (or out of a different account from your IRA): Paying the conversion cost out of your retirement savings will diminish your potential future income as a retiree. 

How Much Can You Convert?

If you have a traditional retirement account, you can convert up to its full balance. In other words, if you have $100,000 in your IRA and wish to convert that into a Roth account, you can do so without restriction.

While there are no limits on how much you can convert in your Roth IRA, it’s important to consider how it impacts your marginal tax bracket and Medicare premiums. Roth Conversions are powerful tools for reducing future taxes, but it takes a skilled professional to ensure you are doing it properly.

Knowledge Is Key

Learning what you can beforehand is essential to making a wise decision as to whether or not to convert a traditional IRA into a Roth. At the very least, try to find out:

• How much you can convert. Unlike Roth IRA limits, Roth conversions have no limits on how much you can convert. It comes down to the tax efficiency of the conversion and that is where a financial planner can help zero in on the proper amount for your tax situation.

• When to convert. if it makes sense for your particular situation and you are 59½ years of age or older, sooner may be better than later especially if you believe tax rates will increase in the future and/or if your RMD is beginning soon (which will increase your taxable income).

• How much the taxes on the conversion will cost you. The importance of this one almost goes without saying. Once you have made the decision and taken all other necessary steps (such as transferring funds from another account), contact your financial planner so that they can calculate exactly how much you will owe. 
  
  

Next Steps

By now, you should have a good sense of the pros and cons of making a Roth conversion. For instance, if you are in a high-income bracket, it could prove beneficial. It can also prove beneficial if you expect your income to drop over time (perhaps after retirement). Unfortunately, the biggest downside might be the fact that you will need to be prepared for the (possibly significant) tax hit associated with converting.

If you are still on the line, we believe the best way to decide is to hire a financial planner and review your savings and assets together. If you do not have one yet, it is never too late to start. TrustCore Financial Services, LLC is ready to help you discover your financial possibilities.

Some of our clients might say we are the best certified financial planner Brentwood, TN, has. Contact us to schedule your complimentary appointment today. 

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