Why should I not convert to a Roth IRA?
A Roth can take more income out of your hands in the short term because you're forced to contribute in after-tax dollars. With a traditional IRA or 401(k), by contrast, the income required to contribute the same maximum amount to the account would be lower, because the account draws on pretax income.
Since a Roth conversion increases taxable income in the conversion year, drawbacks can include a higher tax bracket, more taxes on Social Security benefits, higher Medicare premiums, and lower college financial aid.
You can convert a traditional IRA to a Roth no matter your age. But if the conversion boosts your income, it could have taxing consequences. It's not difficult to convert a traditional IRA to a Roth if you mind your taxes.
Roth conversions require you to understand the potential effect it has on your Medicare premiums. When funds are converted, the IRS sees this as income that has come out of the traditional IRA, which can raise your MAGI past a certain level, thereby increasing the premiums you pay for Medicare B and D.
The tax argument for contributing to a Roth can easily turn upside down if you happen to be in your peak earning years. If you're now in one of the higher tax brackets, your tax rate in retirement may have nowhere to go but down.
Earnings can't be withdrawn tax-free until age 59½ and the account is at least 5 years old. Diversification in retirement, so all of your accounts aren't tax-deferred. The maximum contribution is relatively low compared with a 401(k). You'll probably need other accounts to save enough for retirement.
Bottom line. If you want to do a Roth IRA conversion without losing money to income taxes, you should first try to do it by rolling your existing IRA accounts into your employer 401(k) plan, then converting non-deductible IRA contributions going forward.
"The best time to convert is when prices are low," said David Demming, an adviser in Aurora, Ohio. But you often only know that in hindsight. "Look at the dozens of Roth conversions we did for clients in the third quarter of last year - brilliant or lucky, or better yet, smarter!"
Taxes Due: When you convert to a Roth IRA, the converted IRA balance is treated as if it were a distribution to you. This "income" must be included on your tax return in the year of conversion. You would not owe taxes on the after-tax contributions you have made to your existing IRA.
You're never too old to fund a Roth IRA. Opening a later-in-life Roth IRA means you don't have to worry about the early withdrawal penalty on earnings if you're 59½. No matter when you open a Roth IRA, you have to wait five years to withdraw the earnings tax-free.
At what income level does Roth IRA not make sense?
The Roth IRA income limits are less than $161,000 for single tax filers and less than $240,000 for those married filing jointly.
Overall, converting to a Roth IRA might give you greater flexibility in managing RMDs and potentially cut your tax bill in retirement, but be sure to consult a qualified tax advisor and financial planner before making the move, and work with a tax advisor each year if you choose to put into action a multiyear ...
When you convert to a Roth IRA, your taxable income for the year rises. A Roth IRA conversion may not make sense for you if you are in your peak earning years. Recall that when you convert money to a Roth IRA, your taxable income for that year increases, which could bump you into a higher tax bracket.
A Roth conversion could be especially beneficial if you expect to be in a higher tax bracket in retirement. With a Roth conversion, taxes are due on the converted amount in the year of the transaction. There are different ways to cover these taxes, each with its own tax implications.
Roth conversions count as income for Affordable Care Act subsidies, so a large enough transaction could increase the premiums you pay. A conversion allows you to transfer money from a regular IRA or 401(k), which would be taxable in retirement, to a Roth IRA, which would be tax free.
However, not everyone is eligible to contribute to a Roth IRA. In 2023, single filers with adjusted gross incomes (MAGIs) of $153,000 or more cannot contribute to a Roth IRA, while those who are married and file jointly become ineligible once their MAGI reaches $228,000.
With a Roth IRA, you contribute after-tax dollars, your money grows tax-free, and you can generally make tax- and penalty-free withdrawals after age 59½. With a Traditional IRA, you contribute pre- or after-tax dollars, your money grows tax-deferred, and withdrawals are taxed as current income after age 59½.
More In Retirement Plans
You cannot deduct contributions to a Roth IRA. If you satisfy the requirements, qualified distributions are tax-free. You can make contributions to your Roth IRA after you reach age 70 ½. You can leave amounts in your Roth IRA as long as you live.
One key disadvantage: Roth IRA contributions are made with after-tax money, meaning there's no tax deduction in the years you contribute.
Bottom Line. You cannot reinvest required minimum distributions in a Roth IRA. While you can convert any remaining amount from your pre-tax retirement account, the IRS specifically prohibits you from putting RMD funds in a tax-advantaged portfolio.
Can you have too much in a Roth IRA?
Contributing to a Roth IRA can be a great way to save for retirement but putting too much money into your account in any given year can trigger tax penalties. Fortunately, there are several ways to fix the problem and possibly avoid the penalties.
A backdoor Roth can be created by first contributing to a traditional IRA and then immediately converting it to a Roth IRA to avoid paying taxes on any earnings or having earnings that put you over the contribution limit.
However, there are no limits on conversions. A taxpayer with a pre-tax IRA can convert any amount of funds in a year to a Roth IRA. Roth IRAs also are exempt from required minimum distributions (RMDs). These mandatory withdrawals from retirement accounts begin at age 72 and can create a tax burden on affluent retirees.
Many consider the time between retirement and age 72 the “Roth conversion sweet spot.” This is because most people's incomes drop after they retire and stay relatively low until they have to take required minimum distributions (RMDs) at 72.
Market Fluctuations
Given that the money in retirement accounts, including IRAs, is typically invested, the overall value of the account is subject to the whims of the market. That means that if the market experiences a downturn or correction, your Roth IRA balance is likely to decline as well.
