A Roth Conversion strategy may be a very helpful way to generate a tax-efficient legacy for your heirs, while reducing the overall cost.
conversions
Roth Conversion and the Pro-Rata Rule
I received the following question from a reader. It’s a unique situation that you may find interesting, so I thought I’d share the interaction with you: Here’s my situation, this year I started with the following: (A) Rollover IRA (from rollover funds several years ago with no new funds added since. $157K was rolled over in 2020, but account is now valued at ~$146K). (B) Roth IRA (that was opened years ago with minimal amount, but no new funds added in the past decade due to income limitation). (C) Non-deductible (separate) traditional IRA account opened in 2016 with contributions deposited in each year, but have only been depositing NON-DEDUCTIBLE dollars (a total of $23K invested). However, the account was only worth ~$17K/$18K at the time I went to convert). In early 2022, after making the 2022 contributions, I converted the entire value of the non-deductible traditional IRA account to a […]
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Be Careful When Converting
When converting from a 401(k), traditional IRA, 403(b), SIMPLE IRA, SEP or 457(b) to a Roth IRA there are some important tax considerations to keep in mind. First, converting from a tax deferred plan to a tax free plan it’s not always the best idea. Generally, it’s going to make sense to convert if the tax payer believes that he or she will be in a higher income tax bracket in retirement. For example, John, age 28 has a 401(k) and recently left his employer. He’s currently in the 15% bracket but expects to be in the 28% bracket or higher in retirement. It may make sense for John to convert his 401(k) to his Roth IRA. This makes sense for John because when he converts from a pre-tax, employer sponsored plan like the 401(k) it’s money that has not yet been taxed. If he converts while in the 15% […]
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State Income Tax and Retirement Income
On only a few rare occasions does it make sense to defer money to your 401(k) or other employer sponsored plan instead of a Roth IRA. Those occasions include when your gross income excludes you from contributing directly to a Roth IRA (you can still convert), you are currently at a very high tax rate or the case of when you live in a state where retirement income is excluded from state taxation. Here in Illinois, the current law exempts retirement income from being taxed at the state level. What this means, is that any contributions to a 401(k), 403(b), SEP, SIMPLE and 457 avoid state income taxation. Qualified distributions at retirement are only taxed at the federal level, and then only as income. If you contribute directly to a Roth IRA that money is after-tax money going in. After-tax in this case meaning it’s been already taxed at the […]
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Ideal Roth Conversion Candidate – Low or No Tax
One of the planning options that most all folks have available to them is the Roth IRA Conversion. For the uninitiated, a Roth IRA Conversion is a transaction where you move money from a Traditional IRA or a Qualified Retirement Plan (QRP) such as a 401(k) into a Roth IRA. With this transaction, if any of the funds in the original account was pre-tax, that amount would be included in income as potentially taxable in the year of the Conversion. As you might expect, making a decision like this can result in a considerable tax impact, depending on the individual circumstances. A Roth IRA Conversion may make a great deal of sense for one individual, while another may decide that the Conversion cost is too great for the result. Detailed below is one specific circumstance that indicates a Roth IRA Conversion is a good move – although each individual needs […]
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