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      • May Client Letter-- Worst-Ever Economy Yet Stocks Show Best Monthly Gain Since '87
      • Why Waiting For A Market Rebound Could Cost You
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Should you be considering converting your traditional IRA to a Roth IRA

Should consider converting your traditional IRA to a Roth IRA??
Essentially the concept of a Roth IRA is that you pay taxes on the “acorn” (the initial contribution) instead of the “oak tree” (the potentially large amount in the Roth IRA after many years of tax deferred accumulation). Besides allowing tax-free and penalty-free withdrawals of contributions, the Roth IRA enables most savers to amass a greater nest egg because withdrawals from earnings during retirement are tax-free (as long as you are over 59 1/2 and have had the account for at least five years). The near term trade off is that you will need to pay taxes on the amount of the conversion. How can you determine if this strategy is right for you??? [read full article]

Historically, income limits have taken this option off the table for many taxpayers. In 2010 however, the $100,000 MAGI limit for converting assets from a Traditional IRA to a Roth IRA is eliminated. Although a person who exceeds the MAGI limit will still not be able to contribute to a Roth IRA, in 2010 and future years anyone may convert assets in a Traditional IRA to a Roth IRA, no matter what their income level.

Paying taxes on conversion
The amount converted is generally added to your taxable income for the year of conversion to extent it exceeds any non-deductible contributions in the account. For conversions in the year 2010 only, however, the person converting has the choice of paying 50% of the taxes on the conversion in 2011 and the other 50% in 2012. You have 3 years to pay taxes on Roth conversions done in 2010!

Retirement planning considerations
Generally, the older you are, the less sense it makes to convert a traditional IRA to a Roth. You'll have less time to make up for what you lost in taxes on the conversion.

Estate planning tool
One case in which it makes sense for an older traditional IRA holder to transfer funds to a Roth IRA is when he or she is planning to leave the money to heirs. There are two reasons. First, Roths require no minimum withdrawals during the life of the IRA owner. If the surviving spouse inherits the Roth account, he or she need not take any minimum withdrawals either. With a regular IRA, you must begin taking taxable withdrawals from that account no later than the year after you turn 70 1/2. So you lose out on the chance for that money to continue to compound without paying taxes. That can mean a lot less money for your heirs. Secondly, conversion to a Roth will reduce your taxable estate by the amount of income tax you pay to convert. This can reduce estate taxes for your heirs.

Income tax rates, now and in the future
One case in which converting from a regular tax-deductible IRA to a Roth IRA does not make sense is when you expect to drop into a much lower income tax bracket after you retire (say, from 25% to 15%). Why? You will have to pay income tax on the conversion at your current high rate. Instead, let the money compound in your regular IRA and pay taxes at your lower rate in retirement. However, if your tax rate is only expected to drop a few points after retirement (say, from 28% to 25%), conversion is probably still the a good move.

Market performance impact
Another useful strategy is to separate your converted investments into several different Roth accounts based on asset class, and recharacterize the IRAs that do not perform well. So you can convert, see how the market performs, and potentially “un-do” a conversion if a particular investment pool does not go your way. The deadline for recharacterizing a 2010 Roth conversion is October 15, 2011. If a recharacterization is not done by that date, the taxpayer will be locked into any tax liability from the conversion, including reporting income ratably over 2011 and 2012 if applicable.

Like any investment or tax saving strategy, you should discuss this with your financial planner. If you would like to discuss your specific financial situation to see if a conversion will makes sense for you, do not hesitate to contact me directly.

John A. Davidson, CPA, CFP®
 
 
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- John Davidson, CFP
  • Home
  • Background
    • About Us
    • Q&A
    • Disclosures
    • Privacy Policy
  • Services
    • Planning Process
  • Clients
    • Business Owners
    • Individual Professionals, Families, Retirees
  • Contact Us
    • Newsletter Sign-Up
    • Useful Websites & Quick Hits
  • Account Access
  • News
    • 2021 News Articles >
      • What is it about September?
      • Will Tax Law Changes Increase Your Taxes?
      • Tax Watch: SECURE Act 2.0?
      • The unstoppable bull market?
      • Stocks Cruise at a High Altitude
      • Tax law changes on the horizon – 5 things to consider
      • Not Your Fathers Economic Recovery
      • Are HSAs the New IRAs?
      • REVENGE OF THE NERDS - Internet forums vs. the professionals
      • Protect Your Financial Information
      • 2021 January Market update - A rollercoaster year ends on a high note
      • Avoiding 7 Retirement Traps
    • 2020 News Articles >
      • December Client Letter - Cruising at 30,000 Feet
      • 9 Tax Facts & Tips to Save You Money
      • 9 Smart Planning Moves to Consider
      • November Client Letter - Election 2020
      • 7 Financial Planning Steps for Year End 2020
      • 6 Tips on Filing the FAFSA
      • Circling Back to the SECURE Act!
      • A September Pothole
      • 6 Steps That Put You on the Path to a Successful Retirement
      • Consumer Scams Part 2
      • September 2020 Client Letter
      • Consumer Scams
      • May Client Letter-- Worst-Ever Economy Yet Stocks Show Best Monthly Gain Since '87
      • Why Waiting For A Market Rebound Could Cost You
      • How The Greatest Generation Approached September 11th
      • Laid Off And Near Retirement - What Now?
      • The SECURE Act
      • Market update: When favorable fundamentals collide with uncertainty
    • News - Archives >
      • 2015 - To be happy, be grateful. - It's science!!
      • 2015 - Market Volatility - So Now What?
      • 2015 - Retirement planning: Start early or start late – just start
      • 2015 - Financial Planning Checklist
      • 2014 In Review - A bullish mood and risks that dot the landscape.
      • 2015 - A sneak peek at 2015 – What to keep an eye on
      • 2015 - Getting The Most Out of Financial Aid for College
      • 2014 - Cheaper by the Dozen: 12 smart year end planning moves
      • 2014 - How safe is your personal information?
      • 2014 - Hey, what’s your number?
      • 2014 - What did we do before GPS?
      • 2014 - Changing Jobs Checklist
      • 2013 - US Government Shutdown - What it means
      • 2013 - Investing in College
      • 2012 - Getting (back) on track - The best part of my job…
      • 2011 - The Henny Penny School of Investment Wisdom
      • 2011 - 8 Ways to Help Couples Overcome Money Conflicts
      • 2011 - Intelligent Computer Shopping
      • 2011 - 7 things you and your student should discuss before they head off to college
      • 2011 - 7 mistakes to avoid when exiting your business
      • 2011 - Why you need an Estate Plan even if you don’t live in a mansion
      • 2011 - Celebrating Irish Heritage
      • 2010 - Priorities: Retirement Planning Vs College Savings for Children
      • 2010 - in review, and a look toward 2011
      • 2010 - New Years Resolutions - 2011
      • 2010 - Business Owners – a special case for diversification
      • 2010 - Year End Planning 2010
      • 2010 - Paying for college - Applying for student aid, determining your Expected Family Contribution
      • 2010 - Paying Taxes
      • 2010 - Job-Loss
      • 2010 - Habits
      • 2009 - Shopping
      • 2009 - Gift-Idea
      • 2009 - Thanksgiving
      • 2009 - Q3
      • 2009 - Recovery
      • 2009 - Results
      • 2009 - Digging
      • 2009 - Time
      • 2009 - Considering
      • 2008 - Planning
      • 2008 - Resolutions
    • Life Transitions >
      • Get A Job/Leave Job >
        • 9 Questions to ask your CPA at tax time
        • Getting (back) on track - the best part of my job
        • Changing Jobs Checklist
        • Job Loss
        • Taxes - 7 ideas to ease the burden - 2018
        • Year End Planning Checklist: 12 smart planning moves to consider
      • Marriage/Divorce/Re-Married >
        • 8 Ways to Help Couples Overcome Cash Conflicts
      • Kids (Birth/College/Marriage) >
        • 7 Things you and your student should discuss before they head off the college
        • Getting The Most Out of Financial Aid For College
        • Investing In College
        • Budgeting For Students
        • Save on Textbooks
        • Subsidized vs unsubsidized loans – what’s the difference?
        • 7 Tips for Your College Bound Student
        • “What I did on my Summer Vacation – 2019”
        • Budgeting for College Students - 2018
        • Most Significant FAFSA Changes in over 20 Years!!
        • Direct 529 Plan Changes To Be Implemented
      • Birth/Death >
        • Is a cash windfall in your future?
        • Planning for People with Special Needs
    • Client Letters >
      • 2019 - July Client Letter: Records Are Made To Be Broken
      • 2018 - Summer's Hot Issues
      • 2018 - November Market Update:
      • 2016 - January Client Letter - A volatile year ends with a whimper
      • 2016 - September Letter to Clients: The Ides of September?
      • 2016 - November Letter to Clients: The Final Countdown?
      • 2016 - December Letter to Clients: Near Term Impact of Trump's Victory
      • 2015 - September Client-letter: Looking past scary headlines
      • 2015 - November Client Letter: The Clouds Part
      • 2015 - December Client Letter, A Baker's Dozen: 13 Smart Planning Moves