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3 Ways of Dealing Without Recharacterization

deal by D.C.AttyWith the new conversion opportunity made available by the passage of the Small Business Jobs Act of 2010 (see New Opportunities to Roth), there is one factor that is not available that you normally have when doing Roth conversions: recharacterization.

If you recall, the primary reason that you would want to recharacterize is if you converted funds and then, by the time you pay the tax, the holdings that you converted have dropped in value.  So, instead of paying tax on something that is much less in value than previously, for a Roth IRA conversion you can recharacterize the conversion up to October 15 of the following year (see Help Mr. Wizard – I didn’t wanna do a Roth Conversion for more details on recharacterization)

But there are ways to reduce the risk associated with your Deemed Roth Account Conversion (since you are not eligible to recharacterize the conversion).

For one thing, you could use dollar-cost averaging to spread the risk of market fluctuations over several points in time through the year.  Simply split your intended conversion amount into four amounts, and convert one of those amounts each quarter, for example.  This way if the market drops through the year, you’re converting funds at the lower values.

Another option would be to spread the date-specific risk over several years, by converting smaller amounts each year.  This would also reduce the risk of adverse market results, and spread out the tax over several years (if possible).

Yet another choice could be to convert only those assets that have very low volatility, such as bonds.  The probability of a major drop in value is much lower for these assets, so your need for a recharacterization would be far less likely.

There are many other, more complicated ways to reduce your risk against such a situation, but these are a few that are easily implemented.  Hopefully this will help you in your process of converting retirement plan assets to Roth.

Photo by D.C.Atty
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One Comment

  1. [...] This post was mentioned on Twitter by Jim Blankenship, IRA Owner's Manual. IRA Owner's Manual said: The recent change to Roth 401(k) rules has some challenges – no recharacterization. Here's how to deal with it: http://su.pr/981a1u [...]

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