Is a Roth IRA Conversion Right for You? Five Questions to Ask

Wouldn’t it be great to reduce your tax burden in retirement? One way to achieve this is through a Roth IRA conversion—a tax-advantaged strategy that can help lower taxable income later in retirement. This process involves transferring assets from a traditional IRA or qualified employer-sponsored retirement plan into a Roth IRA. Many investors consider this strategy for several reasons, including:

• Tax-free withdrawals in retirement: Unlike traditional IRAs, Roth IRAs allow for tax-free withdrawals in retirement, providing greater financial flexibility.
• No Required Minimum Distributions (RMDs): Roth IRAs are not subject to RMDs, allowing funds to grow tax-free for as long as you want.
• Potential estate planning benefits: A Roth IRA can help reduce the impact of estate taxes and provide a tax-efficient legacy for heirs.

However, before moving forward with a Roth IRA conversion, it’s important to evaluate whether this strategy aligns with your financial situation. Here are five essential questions to consider before making the switch.

1. Can You Afford to Pay the Taxes?

Traditional IRAs and other qualified retirement plans are tax-deferred, meaning taxes are owed when assets are withdrawn. When converting to a Roth IRA, the account owner must pay income tax on the converted amount upfront. If you don’t have the cash available to cover this tax burden, a Roth IRA conversion may not be the best move.

2. Are You Comfortable Increasing Your Adjusted Gross Income (AGI)?

A Roth IRA conversion increases your taxable income in the year of conversion, potentially pushing you into a higher tax bracket. If you're retired, be aware that Medicare Part B premiums are based on your income from the previous two years—meaning a conversion could result in higher monthly premiums for at least two years.

3. Will You Lose Eligibility for Certain Tax Deductions?

Some tax deductions, such as the child tax credit and student loan interest deduction, are determined by AGI. A Roth IRA conversion could increase your income to a level where you no longer qualify for these deductions. Consider how losing these tax benefits may impact your overall financial picture.

4. Will You Need the Money Within Five Years?

While Roth IRA contributions can be withdrawn tax- and penalty-free at any time, converted funds are subject to a five-year holding period before they can be accessed without penalty. If there’s a chance you’ll need these funds within five years, a conversion may not be the best strategy for you.

5. Does Your Retirement Plan Allow Roth IRA Conversions?

If your retirement savings are held in an employer-sponsored plan, check whether your plan permits Roth IRA conversions. Review your plan documents, consult your HR department, or speak with your retirement plan custodian to confirm your options.

Making the Right Decision for Your Financial Future

A Roth IRA conversion can be a powerful tax-planning tool, but it’s not right for everyone. Consulting with a tax professional is essential to understanding how a conversion may impact your tax situation.

If you're considering this strategy, we’re happy to connect you with knowledgeable tax professionals or review your financial plan to ensure it aligns with your long-term goals. Contact our office today to discuss whether a Roth IRA conversion makes sense for your situation.