Think Carefully Before Converting to a Roth IRA

In the 2017 Tax Cuts and Jobs Act, Congress eliminated the special rule that allows a traditional IRA converted to Roth IRA to be recharacterized back to traditional IRA. The change goes into effect for conversions made on or after January 1, 2018. Note, however, a Roth IRA conversion made in 2017 may still be recharacterized as a contribution to a traditional IRA if the recharacterization is made by October 15, 2018.

The Advantages of Converting

First of all, we should explain what we mean by converting. A Roth conversion means taking all or some part of the balance of an existing traditional IRA and moving it into Roth IRA. Doing this, can hold certain advantages:

A Roth IRA entitles you to take tax-free withdrawals in retirement. With a traditional IRA, you would pay taxes on any earned income from your investments and on any contributions your previously deducted on your taxes.

With a Roth IRA there’s no required minimum distribution (RMD) when you reach 70 ½ years of age. With a traditional IRA, you’d be forced to take a distribution and lose the tax-free growth on that money. With the Roth, your money can stay in the account and keep growing forever.

If you leave your Roth IRA to your heirs, they will have to take an annual RMD, but they will not have to pay any federal income tax on those withdrawals, if the account has been open for five years or more.

Going Forward

Under the new tax laws, Roth conversions are subject to greater market timing risk. They can still make sense, particularly in a down market, for taxpayers who take a longer view. A strategy of regular conversions will iron out market fluctuations over time, and annual conversion amounts can be adjusted according to what makes sense for each tax year.

Now that a conversion cannot be reversed, it is essential to consider carefully whether a Roth IRA conversion is the best strategy for you. Be sure to speak with your tax professional to discuss your situation and strategy for retirement, and the pros and cons of a Roth IRA conversion.