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Feeling Tax Nimble?

Feeling Tax Nimble? - 7 Reasons to consider a Roth Conversion

Benjamin Franklin said that “nothing can be certain except death and taxes” - but even taxes have changed dramatically over time.

Roth IRAs have the potential to grow and be distributed income tax free. While some investors are prevented from making Roth contributions because of their income – everyone is eligible to convert to a Roth IRA. A Roth Conversion is a qualified transfer of all, or part, of your Traditional IRA to a Roth IRA. The conversion amount is treated as taxable income during the year the conversion takes place.

A Roth conversion turns off the accumulation of taxes by transferring retirement funds from a traditional IRA or 401k into a Roth Account. The conversion is a taxable transfer from a pre-tax retirement account at current income tax rates to a Roth IRA. Roth Conversions allow for nimble tax planning given the uncertainties of the future.

Below are 7 reasons to consider a ROTH CONVERSIONS:

You cannot keep retirement funds in your pre-tax account indefinitely. A RMD is calculated for IRA account owners currently 72 years or older, forcing them to recognize income each year.

Generally, you must start taking withdraws from your IRA, Simple IRA, SEP IRA, or retirement plans at age 72. Roth accounts do not require withdrawals until after the death of the owner. Prior to 2019 the age to take mandatory distributions was 70 1/2 years, since then the age of distributions has changed to 72, and to 73 for those born after 1950.

Standard deductions increased again in 2023 (See Chart). For a married couple both over the age of 65, the standard deduction is $30,700.

Because Roth IRAs grow tax free, the earlier you convert your assets the bigger the impact. For example, a $50,000 conversion that grows at 7% could be worth $200,000 all income tax free in 20 years. Even someone who is already retired can receive the benefit of a Roth conversion. Consider a 65-year-old retiree who expects to live 20+ more years, if you spend the Roth conversion last in retirement, the conversion amount could possibly double twice before you spend it.

In 2017, congress passed the Tax Cuts and Jobs Act (TCJA). This legislation reduced taxes for many people and corporations. However, without further legislative action, the tax cuts are set to expire at the end of 2025 and 2026 tax rates and tax brackets will be higher for most households.

In 2013, just ten years ago, a married couple earning $75,000 would pay two times as much in taxes, compared to 12% today.

Taxable income limits for single filers are lower than for married filers. A surviving spouse living on the same income will pay more in taxes. Roth conversions reduce the taxable IRA balance and grows tax free to reduce taxes in the future, especially for the surviving spouse.

A conversion now gives you more bang for your buck as you recognize taxes on shares priced lower after a market trough. The lower priced shares are added to your Roth IRA where the recovery allows you to not pay taxes on the gains.

Non spouse beneficiaries of IRA accounts are now required to liquidate the balance within 10 years of the death of the owner. This could cause a large tax burden on the person inheriting the account as the distributions will be added to their taxable income. Roth accounts are inherited by beneficiaries income tax free.

If you do not have a Traditional IRA to convert and your income prevents you from making ROTH IRA contributions you can participate by contributing to an IRA with nondeductible contributions. Make sure to file the IRS Form 8606 proving the after-tax nature of the nondeductible contribution. Once you make your nondeductible contribution, you can immediately convert your Traditional IRA to a Roth IRA with little or no tax consequence.

For the tax nimble, paying taxes today on a Roth Conversion when share prices and taxes are lower, opportunistically locks in tax free growth before federal and state taxes go up.

Before taking action contact us to be sure this opportunity is a fit for you.


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