Roth IRA Conversion: A Year-End Tax Move to Consider?

Many of us tend to think of April 15 (or October 15) as the all-important tax deadline each year. Indeed, Tax Day is a significant annual rite. As the year draws to a close, however, we remember that December 31 is also an important date for tax planning.

Year-end tax moves might include a host of to-do items, depending on someone’s situation. One such move that must be done by December 31 is a Roth IRA conversion.

What is a Roth IRA conversion?

A Roth conversion is when someone moves a balance from a traditional IRA into a Roth IRA. It is a strategy whereby an account owner chooses to pay Uncle Sam now on the previously untaxed traditional IRA, which allows the money to flow into a Roth IRA for future tax-free withdrawals.

A traditional IRA generally provides a tax deduction in the year contributions are made, but taxes are due upon withdrawal. Contributions into a Roth IRA do not provide a tax deduction, but the account is not taxed when withdrawals are made in retirement. Also, Roth IRAs do not have required minimum distributions like traditional IRAs, meaning the account owner does not have to begin withdrawing money at age 70.5 if they do not want or need.

A Roth conversion could be done for all or just part of a traditional IRA balance. Sometimes they are spread out across multiple years to be most tax efficient. For example, someone could convert part of their traditional IRA to a Roth IRA in late 2018 and the rest in early 2019.

Why consider a Roth conversion?

The individual income tax rates have changed beginning in 2018 under the Tax Cuts & Jobs Act. Many Americans will find themselves paying federal income taxes at a lower rate than last year. This might be a good reason to do a Roth conversion. All else being equal, the extra income triggered by the conversion might be taxable at a lower rate.

Roth conversions are not for everyone. The best candidates for the Roth conversion strategy are people who believe that their tax rates during retirement will be the same or higher than their current tax rates. It does not work as well for people who anticipate paying a lower tax rate during retirement.

The above points are simply highlights to consider. We encourage you to speak with your tax adviser or CPA before making decisions about your individual situation.

Whether it is about an IRA or something else, our team looks forward to answering questions and to helping you plan as the year winds down.

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