Should I do a Roth Conversion

Should I Do a Roth Conversion?

As a local fiduciary financial advisor, it is a question I get a lot.

What is a Roth Conversion?

For many people, their retirement savings are pre-tax dollars in a 401k or 403b retirement plan that was attached to their job. The key point is that the money is pre-tax, meaning the IRS has not yet received their taxes on that money yet. When an individual pulls out money after age 59.5 (avoids the early penalty), that money is counted as income and taxed at the person’s marginal income tax rate.

A Roth account holds funds that have already been taxed. Assuming specific conditions are met, that money may come out of the account tax-free.

A Roth conversion means you take pre-tax money and convert it to after-tax money directly in a Roth account.

Should you care?

One of the primary reasons for doing a Roth conversion is the idea that you pay taxes at a lower rate now so that you don’t endure higher taxes later. But this is not the case in many situations. Taxes may or may not be higher in the future, based on your income, life circumstance, changes in tax code, etc.

One of the best times to do a Roth conversion can be in retirement and before RMD (Required Minimum Distribution) age. The reason is that your income may be lower than it will be in the future when you have to take funds out of your pre-tax account (RMD) and if you haven’t yet started claiming Social Security, your income may be higher still. One of my favorite spots to do a Roth conversion is in the 12% or lower tax bracket, especially if your future income will push you to 22% or higher.

A Roth conversion is not something to be done lightly. Make sure you understand the specific tax implications and $ cost (now and in the future) before you do a conversion. You should seek the guidance of a trained financial advisor before making the decision. One of the unintended consequences of doing a Roth conversion is potential increased Medicare premiums as the conversion increases your Modified Adjusted Gross Income and can put you into a higher Medicare premium bracket.

In Summary – Roth conversions can be a smart financial move for your future, but it is not for everyone and determining if it is right for you is very specific to you, your circumstances, your financial picture, and other key elements.