Finance & Enjoyment Blog

When it comes to IRA to Roth conversions, estimated tax should be the number one factor in your decision. Future tax rates are the key in determining whether a Roth conversion is worth it. In other words, would you rather take the tax hit now or later?

To compare the types of retirement accounts, a normal IRA is not included in normal income at the time you contribute money to the plan and is only taxed at the time of distribution whereas a Roth IRA is taxed as normal income when the contribution is made, but the distributions are taken tax-free. When converting from an IRA to a Roth, the conversion amount is taxed at normal rates with no additional penalties. Thus, if you expect your tax rate to be higher when you retire, it's generally a good idea to convert to a Roth while your tax rate is lower than what you expect in the future.

Also, it's important to keep in mind a few other items when converting to a Roth account. If you have different asset classifications and one drops in value, you can convert it back to a normal IRA withing ten months of the end of the tax year. The additional income from the conversion can also affect your Medicare premiums. If you are single and have over $85,000, or married filing jointly and $170,000, you will receive a surcharge on Medicare Part B & D premiums. Lastly, converting after 2012 can trigger a 3.8% tax on unearned income. These three things as well as your estimated future tax rate are the what you should keep in mind when deciding whether or not to convert your traditional IRA into a Roth IRA.

Posted in Retirement and Exit Strategies »

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