Moving assets from a good old-fashioned IRA into a Roth IRA is called a “Roth Conversion.” The main difference between the two types of IRAs is that one is taxed when funds are distributed (the traditional IRA) and the other is taxed prior to making the contribution (Roth IRA). Your contribution may be tax deductible up front on a traditional IRA contribution, or you can get the benefit of tax-free distributions on a Roth IRA. Both can be terrific savings vehicles.
So why would anyone consider “converting” their IRA? Why pay tax unless I have to? Well, here are four reasons why some investors decide to do it!
- Low Income Year– If you are in a period of lower taxable income this may be a good time to consider a Roth conversion as you’ll pay less tax to accomplish the goal.
- My Nest Egg is Mostly IRA/401k Money – When you turn 72 years old, the IRS wants to take a tax bite from your IRA. They call it a Required Minimum Distribution (RMD) and on large IRA or retirement plan balances it could be a sizeable amount. If you turn 72 this year and have $1,500,000 in IRA/retirement plans your RMD will be $58,594 in taxable income. Prior to turning 72 it can be advantageous to start a plan to whittle down your traditional IRA account balances by converting to a Roth IRA.
- The Golden Window – Typically between retirement and the age of 72 clients “earn” less money. This can be a very attractive period for a Roth conversion since Required Minimum Distributions (RMDs) start at the age of 72 and are fully taxable as income. If clients have a large percentage of their retirement assets in traditional IRAs this can be a good period to convert a portion to a Roth IRA. Your taxable income may be increasing substantially when RMDs kick in so you can accomplish the goal at a lower tax cost now!
- Tax Free… That’s For Me – If you are concerned that tax rates will be trending upward or want a vehicle for your money to grow tax deferred and have distributions be tax free, a Roth IRA may be right for you.
A Roth conversion can be a smart strategy under various circumstances, but the decision isn’t always straight forward. There are pros and cons to be understood, and investors should consider the implications in light of their personal financial situation. At Beacon Pointe, we pride ourselves on being a valued thought partner in navigating these discussions. As always, Beacon Pointe is available to help you address any portfolio related tax concerns. We will work directly with your tax advisor regarding your specific situation. Do not hesitate to call us with any questions or to discuss steps you would like taken in your portfolio.
Important Disclosure: This content is for informational purposes only. Opinions expressed herein are subject to change without notice. Beacon Pointe has exercised all reasonable professional care in preparing this information. Some information may have been obtained from third-party sources we believe to be reliable; however, Beacon Pointe has not independently verified, or attested to, the accuracy or authenticity of the information. Nothing contained herein should be construed or relied upon as investment, legal or tax advice. Only private legal counsel may recommend the application of this general information to any particular situation or prepare an instrument chosen to implement the design discussed herein. An investor should consult with their financial professional before making any investment decisions.
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