Is a Roth Conversion a Wise Choice at This Time?

roth ira conversion
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A Roth conversion may be a wise choice during these uncertain times.

Planning for retirement is never easy.

It requires budgeting and sacrifice.

Saving for the future can feel even more daunting with the economic uncertainty of the current pandemic.

According to a recent Jacksonville Business Journal article titled “Covid-19 and the CARES Act enhance the Roth conversion game,” making a Roth conversion from a traditional IRA may prove beneficial.

A Roth conversion can save you money in retirement.
With a Roth conversion, you will pay taxes now on the rollover rather than in the future on the withdrawals.

Why might this be a good idea?

Traditional IRAs and Roth IRAs function differently.

Contributions to a traditional IRA are tax deductible.

This means the growth on the account will be taxed later when the withdrawals are made.

When you make qualified distributions, they are taxed as ordinary income.

At age 72, you must begin taking required minimum distributions from your IRA.

In contrast, Roth IRA contributions are not tax deductible.

This means the contributions can grow tax free within the account and qualified distributions are tax free as well.

Consequently, you are not required to take minimum distributions from your account.

Taking advantage of a Roth conversion can allow greater flexibility regarding when you and your beneficiaries pay taxes on these funds.

If you convert your entire traditional IRA into a Roth, you can pay the taxes this year.

If the amount in your IRA is low and you have a smaller income, this would be a good time for a Roth conversion.

If you are moving larger sums of money, thus could place you in a higher tax bracket.

If this is the case, you could still make a partial Roth conversion to keep you within the appropriate tax bracket.

Paying taxes now on a conversion may be better.

Why?

Because you likely will be in a higher tax bracket the closer you get to retirement.

Converting may also benefit your heirs because the SECURE Act requires an inherited IRA to be drained within ten years of its receipt (with limited exceptions).

This could place your beneficiaries in a higher tax bracket in the future.

So, once again, when converting traditional IRA funds to a Roth IRA, you will need to pay taxes.

Ideally, these taxes would be paid from funds outside of your IRA.

If you must use the IRA to pay taxes, there will be less left in the account to grow for you over the coming years.

If you are planning to take money from your Roth account, you must wait five years from its creation before you can withdraw money free from taxes.

How much of a penalty will you pay if you withdraw funds early?

This depends.

In one instance, those under age 59½ will pay a 10 percent penalty if they remove profits within five years.

Working with an experienced estate planning attorney and financial advisor can help you make the best decision for you retirement goals.

Reference: Jacksonville Business Journal (July 13, 2020) “Covid-19 and the CARES Act enhance the Roth conversion game”

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