Converting Traditional IRA to Roth IRA – 3 Important Questions


Life changes, especially as you reach retirement. Perhaps you preferred the advantages of a traditional IRA over the Roth IRA when you were younger and raising a family. Now, as retirement is approaching, you see the benefits of a Roth IRA, but is it too late to do anything about it?

When Not to Convert to a Roth IRA

In some cases, converting to a Roth can make sense, but for others, it may be best to stick with your traditional IRA. One thing that can make a difference is a little-known IRS rule that for distributions to be tax-free, they can only be made after a period of time in which you pay taxes on them. You must have the five-year waiting period completed by the time you reach age 59 ½. If the five-year waiting period has not passed, you will have to pay taxes on your distributions just as if they had stayed in a traditional IRA.

When Not to Convert to a Roth IRA

Taxes Might Be Due

Another thing that might make converting to a Roth IRA inadvisable is that it can trigger taxes. In some cases, the IRS will make you pay a lump sum or catch-up taxes to enjoy tax-free distributions. If you believe that your tax bracket will drop after retirement, it might not make sense to take action that will trigger additional taxes when your income is lower.

If you have $300,000 in your IRA, you might have to give up $75,000 of it if you convert it to a Roth. You would not only lose the initial amount of the balance, but you would also lose any earnings in the future. There are some ways to offset the taxes, such as making charitable contributions, but you still will not have the compounded interest from the money. Keep in mind that when you convert to a Roth IRA, you will pay taxes at your current income and not your future income rate after retirement, which means you might pay significantly more.

When Does Conversion Make Sense?

There are times when a Roth conversion makes sense. One of them is if you do not want to start receiving the required distributions that are required by traditional IRAs beginning at age 70 ½ if you reached this age by 2020, or 72 otherwise. If you convert to a Roth IRA, your money can continue to grow tax-free without having to begin withdrawing it. Another scenario where you might consider a Roth conversion is if you plan to pass on your retirement account to your heirs, and you want them to enjoy the tax-free growth.

Another thing to consider in making the conversion is whether you think taxes will increase in response to increased federal debt. If you think you will be paying higher income taxes in the future, you have to consider your overall projected financial picture after retirement. This might be a good move for some, even though they might face some tax consequences when they make the conversion.

If you are above a certain income level, a conversion is not allowed. For instance, if you are single and your income is between $124,000 to $140,000, you might not be able to convert to a Roth IRA. For married couples, the range is from $198,000 to $208,000.

Calculating Your Retirement Savings

Calculating Your Retirement Savings

The first thing you need to do is to do your research and find out if a conversion is allowed for you. The second thing you need to do is to calculate how much your money would grow if you kept it where it is now against the tax burden and any penalties you would have when you made the conversion.

To calculate your retirement savings, online interest calculators are great tools. Start by entering your current savings as the principal. Then enter the interest rate, compound frequency, and how long you plan to keep saving. Enter your contributions and how often you make contributions under payment and payment frequency. This will give you a good idea of how much retirement savings you can expect to have.

It might be best to consult a retirement consultant before you make a move to make sure there are no rules you were unaware of that could affect whether it is worth it.

There are several times when converting to a Roth IRA might not have any advantages. One of them is if you are five years from retirement or less. Converting to a Roth can trigger additional taxes, and this might offset any gains. Your age and what you plan to do with the money in the account are the most significant determining factors on which decision is right for you. The most important thing to remember is to do your research and consider the tax and distribution consequences to your future.