Why You Should Consider a Roth IRA Conversion

Investors who have accumulated assets in a Traditional Individual Retirement Account (IRA) or other tax-deferred vehicles such as a SEP IRA, Traditional 401(k) or 403(b), could be eligible to convert part or all of those assets to a Roth IRA. A Roth conversion can be an especially helpful planning tool for those whose income has exceeded the limits for making regular contributions to a Roth IRA or Roth 401(k).

This strategy is sometimes referred to as a “backdoor Roth IRA.” While you owe taxes on the money you convert, you will be able to take tax-free withdrawals from the Roth IRA in the future. Be aware that withdrawing converted funds within five years of the conversion will trigger a 10% penalty.

By converting tax-deferred monies to a Roth IRA, you can potentially reduce your future tax burden. There is no income limit on a Roth IRA conversion, unlike making a direct contribution into a Roth IRA where there are annual income limits set by the Internal Revenue Service (IRS).

A Roth IRA conversion can offer several advantages including tax-free withdrawals, tax diversification, and there are no required minimum distributions (RMDs). However, it’s important to understand the tax implications and if it’s the right choice for you.

Taking these considerations into account can help you make an informed decision about whether converting to a Roth IRA is the right move for you. It’s important to consider your personal financial situation and consult with a Jemma Financial Advisor and your tax professional before making any decisions.

Three Factors Before Making a Conversion to a Roth IRA

1. Tax Liability: Ensure you have enough cash to cover the tax liability from the conversion. You will owe taxes on any money in the Traditional IRA—contributions you made to the account as well as the tax-deferred earnings built up over the years. The converted money will be taxed as income in the year of the conversion. Partial Roth conversions, where you execute the conversion over several years, can be particularly helpful as you can potentially reduce the amount of tax owed versus converting the entire amount all at once.
2. Tax Rates: Ideally, investors would pay taxes when the applicable tax rate is lowest. Before converting your pre-tax money into a Roth IRA, consider your expected tax rate in retirement compared to your current tax rate and any implications of a conversion. A year in which you have little to no earned income could be an ideal time to execute a Roth conversion.
3. Time Horizon: A conversion can be more beneficial when you have many years before retiring, as it allows your investments to grow tax free for a longer period. Doing a conversion can also be a helpful estate-planning tool for your children and grandchildren. With a Roth IRA, they will inherit a tax-free retirement account with no mandatory distribution timelines.

Conversion Process

Converting a Traditional IRA to a Roth IRA is a straightforward process. Anyone can convert some or all of a pre-tax account(s) to a Roth IRA regardless of their age or income level. While there are several potential transfer methods, a Jemma Financial Advisor can recommend the best option for you and guide you through the process. Call 855.662.2121 or click here for more information.