The Ultimate Roth IRA Conversion Guide – Making the Most of Your Retirement Savings

Roth IRA Conversion Guide 2023

Consider switching your retirement fund to a Roth IRA. It’s simple to understand why the Roth IRA is so well-liked.

Although there is no initial tax benefit because contributions to a Roth IRA are made with already-taxed income, the money in a Roth grows tax-free over time.

Unlike regular IRAs, Roth IRAs don’t need Minimum Distributions (RMDs) at age 72, so you can continue to let your money grow until you’re ready to use it.

You won’t have to pay income taxes on the money you withdraw from a Roth IRA when you do so. Remember that before you contributed, you already paid income taxes?

These are the primary advantages of a Roth IRA that distinguish it from a standard IRA; however, there are many more. Given everything above, it makes sense why so many individuals attempt to convert their regular IRA into a Roth IRA at some time in their careers.

But is converting to a Roth IRA a wise move? Over time, this conversion is likely profitable, but you should examine the benefits and drawbacks before making a choice.

At what point would you like to convert to a Roth IRA?

In many circumstances, but only sometimes, converting an existing traditional IRA or another retirement account to a Roth IRA makes sense. The worth of this investing technique ultimately depends on your particular circumstances, salary, tax bracket, and the initial financial goal you’re attempting to achieve.

The most crucial thing is that you will have to pay income taxes on the converted amounts when you convert another retirement plan to a Roth IRA.

The rule for Roth IRA conversions: You MUST have cash on hand to cover the conversion’s income tax.

Paying these taxes now could save you money on future taxes, but that depends much on your current tax situation and potential future tax circumstances.

Roth IRA Conversion Guide 2023

The key circumstances in which switching to a Roth IRA can be advantageous include:

You’ll pay more in taxes than you do today. Converting a regular IRA to a Roth IRA can make sense if you are in a particularly low tax band this year or anticipate being in a much higher tax bracket in retirement. You can avoid paying income taxes at a higher tax rate after you reach retirement and start drawing distributions from your Roth IRA by paying taxes on the converted money now while in a lower tax bracket. (Unsure of your upcoming tax brackets? To get an idea of your future taxable income, rates, expenses, and more use the NewRetirement Planner. With the help of this specific tool, you can plan on your own.)

Before performing Roth conversions, pay lifetime taxes

You have monetary losses that can reduce the conversion’s tax liability. You must pay income taxes on the monies transferred when you convert another retirement plan into a Roth IRA. Working on a Roth IRA conversion during a year in which you have particular losses that can be applied to reduce your new tax obligation may be advantageous.

At age 72, you shouldn’t start taking distributions. Converting to a Roth IRA makes sense if you don’t want to be required to start taking RMDs from your account at age 72. RMDs are not necessary for this account type at any age. (The NewRetirement Planner can be used to assist you in determining your income requirements. Examine your taxable income for each subsequent year to see whether you will require it to pay for necessary expenses.)

You’re relocating to a state where income taxes are higher. Imagine that you are about to relocate from California, a state with income taxes as high as 12.3%, to Tennessee, with no income taxes. Before you move and start taking distributions, it makes sense to convert other retirement funds to a Roth IRA.

You wish to give your heirs a tax-free inheritance. It may make sense to convert to a Roth IRA if you have excess retirement money and are concerned that your heirs may owe taxes on any inheritance. The beneficiaries of your Roth IRA must make annual RMDs. Still, as long as the account has been open for at least five years, they won’t be subject to federal income tax on any distributions, according to Vanguard.

There may be other situations in which it makes sense to convert another retirement account into a Roth IRA; these are a few examples. Also, consider that it may be a good idea to consult a tax professional or financial Planner with experience in taxes before you make any major decisions or start a conversion.

Make sure to incorporate the conversion, at the very least, into a thorough written retirement plan. You can test out various conversion tactics in the context of your overall financial circumstances using the NewRetirement Planner. Analyze the impact of the conversion on your cash flow, longevity, net worth, and tax liability.

When would it not be a good idea to switch to a Roth IRA?

There are many situations where it makes no sense to convert a Roth IRA since doing so has immediate tax repercussions.

  • A Roth IRA conversion may conflict with a person’s long-term objectives in various circumstances. Here are several situations where converting to a Roth IRA can be an expensive waste of time:
  • In retirement, your income will be incredibly meager. A Roth IRA conversion might not make financial sense if you have good cause to expect that your income tax band will be significantly lower in retirement. You can avoid paying taxes now at a higher rate for the conversion and instead pay income taxes on your distributions at a lower rate in retirement by choosing not to convert another retirement plan to a Roth IRA.
  • You need more funds to pay for the conversion. Because you must pay income taxes now on the funds you convert from another retirement account to a Roth IRA, this course of action is unwise in years when you need more extra cash to pay additional taxes.
  • You might require the funds sooner as opposed to later. There is a five-year waiting period for withdrawals on funds that were a part of a Roth IRA conversion. If you opted to accept distributions within five years after the conversion, you would be subject to a penalty on that money.
  • Again, these are a few situations where you should give some serious thought before switching to a Roth IRA from another retirement plan. There are many additional circumstances where this course of action wouldn’t be prudent, so you should consult with a tax expert before making any decisions.

Or, before performing a conversion, be certain that you have a complete understanding of your future income, expenses, and savings status. You can thoroughly understand every area of your financial future using the NewRetirement Planner.

Rules for Roth IRA Conversion You Should Know

Although there are income restrictions for Roth IRA contributions, the same restrictions do not apply to Roth IRA conversions. In light of this, the following crucial Roth IRA conversion regulations are ones you should discover and comprehend:

What are accounts convertible?

You can convert other accounts to a Roth IRA, albeit the most popular conversion is from a regular IRA. Conversion to a Roth IRA is possible for any QRP funds that qualify for rollover.

Rule of 60-Day Rollover

Suppose you want to roll over the money from your traditional IRA directly into a Roth IRA account. In that case, you can do so within 60 days after the distribution by directly delivering the money (a personal check made out to you). If you don’t, the conversion won’t happen, the IRS 10% early distribution tax penalty will be applied, and the distribution amount (less nondeductible contributions) will be subject to tax in the year it is received.

Rule on Trustee-to-Trustee Transfers

This method eliminates the risk that the money in your traditional IRA account will be subject to taxes, making it not just the simplest option to complete the transfer. Simply instructing your conventional IRA trustee to transfer funds to your Roth IRA trustee should ensure a smooth transaction.

Transfer by the same trustee

Because the funds remain within the same organization, this is much simpler than a trustee-to-trustee transfer. Establish a Roth IRA account with the trustee currently managing your traditional IRA and instruct them to transfer the funds there.

Additional Information to Consider

It should be noted that if you don’t adhere to the guidelines described above and your funds aren’t put into a Roth IRA account within 60 days, you may be liable for an early distribution penalty of 10% and income taxes on the converted funds if you’re under the age of 59 1/2.

Additionally, regardless of which rules you adhere to, as mentioned earlier, you will still be required to pay income taxes on converted sums. When you submit your income taxes for the year of the conversion, you will need to declare the conversion to the IRA on Form 8606.

How Does the Backdoor Roth IRA Work and What Is It?

The Backdoor Roth IRA provides a workaround if your salary is too high to contribute directly to a Roth IRA. Since traditional IRAs don’t restrict who can contribute based on income, this technique advises consumers to invest in one. A Roth IRA conversion occurs, enabling those high-income participants to benefit from tax-free growth and future distributions without paying income taxes.

In the same circumstances when a Roth IRA conversion makes sense, a backdoor Roth IRA may as well. By paying more in taxes now, in the year you make the conversion, this investing strategy aims to save you money on taxes down the road.

The major drawback of a Backdoor Roth IRA is a hefty tax charge; you’re trying to reduce your future tax obligations. Although that is an admirable objective, the Backdoor Roth IRA only makes sense when genuine tax savings can be gained.

IRA Simulation in Your Plan

Are you considering a Roth IRA but need to know if it’s your choice? Put it into your strategy as a model.

The most potent and complete modeling tool available online is the NewRetirement Planner. It is for those who desire clarity on their decisions now and their future financial security. It enables individuals to find, create, and manage unique routes to a bright future. The main goal of the tool is to assist you in making wise financial decisions, such as whether or not to perform a Roth conversion.

In the NewRetirement Planner, you can model conversions in one of two ways:

Individual Model Conversions

You can attempt simulating a conversation you believe will be favorable once you have built up all components of your plan (a complete inventory of your current and prospective income, expenses, and savings).

  • The account from which the funds will be withdrawn, the amount you intend to convert, the age at which you want to perform the conversion, and your anticipated rate of return on the converted funds can all be specified under Money Flows.
  • After saving, you can quickly determine whether the conversion changed your out-of-savings age, estate value, or lifetime tax due.
  • Additionally, you can examine charts to determine your tax obligation in the conversion year, the effect on RMD revenue, and more.
  • after conducting Roth conversions, lifetime tax
  • Make use of the Roth Conversion Explorer.
  • Within the NewRetirement Planner, there is a modeling tool called the Roth Conversion Explorer.

Start using this tool if you need help determining whether or when to convert to a Roth account. It will study every component of your plan and test hundreds of different scenarios to produce a conversion strategy that could raise the value of your estate at longevity.

The Closing Date for Converting a Roth IRA

The tax-filing deadline for the year the conversion is made is the cutoff date for converting money from a traditional IRA to a Roth IRA. Usually, this occurs on April 15 of the following year. If you converted in 2022, you have until April 15, 2023, to declare the conversion on your tax return.

It’s also crucial to remember that there is a deadline for recharacterizing a Roth conversion, which is October 15 of the year following the conversion, as I have explained. It means that if you converted a conventional IRA to a Roth IRA in 2022, you would have until October 15, 20223. You may reverse the change by recharacterizing it as a traditional IRA.

How to Change an IRA to a Roth IRA in Steps

Here are the procedures you should follow if you decide that converting your IRA to a Roth might be smart.

Open a Roth IRA first.

Make sure to open a Roth IRA with a reputable brokerage company first. Because TD Ameritrade charges nothing per trade and nothing annually, it is one of the best Roth IRA providers. But it would be best if you also looked into major providers of Roth IRAs, including Vanguard, Betterment, Ally, and M1 Finance.

Each transaction costs nothing.

Mutual fund for $49.99

yearly: $0

Lowest: $0

2. Move current IRA assets to a Roth IRA

The next step is to start a Roth IRA conversion with your traditional IRA provider or QPR. Remember that you have 60 days to deposit the monies into your Roth IRA account if you decide to accept the funds in a check. You can also use the same brokerage account or a trustee-to-trustee transfer to shift the money, which is frequently simpler because the transfer should be handled on your behalf.

3. Make the conversion tax deductible.

The main disadvantage of a Roth conversion is that you must pay taxes on the amount converted within the current tax year. The tax hit might be significant depending on your income tax rate and the amount you are converting. It would be best if you aimed to schedule your conversion for a year when your tax rate is lower or when you have other losses you can utilize to offset the increased taxes the conversion will impose.

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401(k) or IRA Conversion to a Roth IRA After 60

After age 60, converting an IRA to a Roth is still feasible, but it must be done correctly to avoid paying taxes on the conversion. To determine if this conversion makes sense for your particular case, you should first speak with a tax expert or financial counselor.

Once you have chosen to move forward, you must file the necessary documentation with your IRA custodian to request the transfer of funds from your conventional IRA account into your Roth IRA account.

Depending on your age and other circumstances, you might also be required to pay taxes on all or a portion of the funds moved from the traditional IRA. Once the conversion is complete and you reach the age of 59 1/2 and have owned the account for at least five years, you will be able to withdraw money from it tax-free.

Examples of Roth IRA conversions

Using examples to illustrate concepts while working with numbers is always good. Here are two real-world instances that show how the Roth IRA conversion functions in practical situations.

Parker has $310,000 in SEP IRAs, Traditional IRAs, and Roth IRAs. Let’s compare each party’s pre- and post-tax contributions:

SEP IRA: Comprised solely of donations made before taxes. The total value is $80,000, with $12,000 in pre-tax contributions.

Traditional IRA: Composed solely of donations made after taxes. With an after-tax contribution of $40,000, the total value is $200,000.

Naturally, all Roth IRA contributions are made after taxes. With contributions totaling $7,000, the overall value is $30,000.

Parker wants to roll over to the Roth IRA with only half of the money in his SEP and Traditional IRA. In 2023, how much more will be deducted from his taxable income?

Here, the pro-rata rule of the IRS is applicable. Based on the data above, we have made a total of $40,000 in after-tax contributions to non-Roth IRAs. $280,000 is the full non-Roth IRA balance. $140,000 is the entire amount that has to be converted.

14.29% of the conversion will not be subject to income tax; the remaining portion will. Here is how to compute that:

Calculate the non-taxable percentage of all non-Roth IRAs in step 1: Total contributions after taxes / Total Non-Roth IRA Balance = Non-Taxable Percentage.

$40,000 / $280,000 = 14.29%

Step 2: Convert the outcome of Step 1 into dollars to determine the non-taxable amount:

14.29% x $140,000 = $20,000

Step 3: Determine the sum that will be added to your taxable income 

$140,000 – $20,000 = $120,000

In this case, Parker will be required to pay an ordinary income tax of $120,000. He will owe $26,400 in income taxes, or $120,000 divided by.22 if he is in the 22% income tax rate.

Bentley, over 50, is in the process of switching employment. He transferred his prior 401(k) into two other IRAs because his employer had been acquired several times.

One IRA has a balance of $115,000, and the other has $225,000. He’s thinking about making $7,000 in nondeductible IRA contributions, instantly converting to a Roth IRA in 2023 because he’s never had one.

Rollover IRAs: Composed entirely of donations made before taxes. With pre-tax contributions of $150,000, the total value is $340,000.

Old 401(k): Also, only pre-tax contributions are accepted—$ 140,000 in total value after pre-tax contributions of $80,000.

Current 401(k): Plans to contribute the maximum amount for the remainder of his working years.

Nondeductible IRA Consists only of contributions made after taxes. After-tax contributions will total $7,000, and we’ll assume no growth.

What would the tax implications be for Bentley in 2023 based on the facts above?

I threw in a curveball there. Did you catch that? I’m sorry; I didn’t want to trick anyone; I was checking to see if you noticed. Old 401(k)s and current 401(k)s are not considered while converting. Keep this in mind if you have an old 401(k) and intend to convert a sizable IRA amount (k). Your tax liability will be as little as possible if you leave it in the 401(k).

Let’s check the taxable outcome for Bentley in 2023 using the procedures from above:

  • Step 1: $7,000/ $346,000 = 2.02%
  • Step 2: 2.02 X $7,000 = $141
  • Step 3: $7,000 – $141 = $6,859

Bentley’s $7,000 Traditional IRA contribution/Roth IRA conversion will result in a taxed income of $6,859 for 2023, assuming no investment gains. As you can see, starting the process requires caution.

Bentley would need to review the guidelines for recharacterizing his Roth IRA to avoid paying those taxes if he had completed this conversion without realizing the tax requirement.

While examples are helpful, what is best for you?

It’s time to try simulating Roth conversion as a part of your financial future using these examples. You can test out several scenarios with the NewRetirement Planner to see how they affect your finances.

Converting a Roth IRA: A Summary

A Roth IRA conversion may be justified if you meet certain requirements and are okay with paying more taxes than usual during the conversion year.

Before making a decision, you should assess the advantages and disadvantages of the transfer, and you should set aside some time to consult with a specialist who can help you understand the tax repercussions.

When you are older and could use some tax-free income, converting your Roth IRA can help you save money on taxes. However, it would be best if you didn’t do this hastily. Make sure your decision is well-informed by doing as much research as possible regarding Roth IRA conversions and alternate strategies for increasing your retirement savings.

FAQs on Conversions to Roth IRAs

What advantages do Roth IRA conversions offer?

The key advantage of switching to a Roth IRA is the tax-free growth and tax-free withdrawals of the account’s funds. A Roth IRA also does not have mandatory minimum distributions, which can give retirement planning greater freedom.

Is there a minimum age requirement to switch to a Roth IRA?

No minimum age is required to convert to a Roth IRA, but taxes must be paid.

Is the amount I can convert to a Roth IRA subject to a cap?

You can convert an unlimited amount of money to a Roth IRA; however, you will be required to pay income tax on the amount you convert.

If I switch to a Roth IRA, will I be penalized?

A 10% penalty will be applied if you take funds from a traditional IRA before retirement while under 59 1/2. The penalty is not incurred when converting to a Roth IRA.

My 401(k) can I convert to a Roth IRA?

You can convert your 401(k) to a Roth IRA, but you’ll need to take specific steps and pay taxes on the amount you convert.

Is there a cutoff date for Roth IRA conversions?

You can transfer money from a regular IRA to a Roth IRA at any time; there is no deadline for doing so. However, you must include the conversion in your tax return for the year it was made. Remember that the taxes on the conversion will be required for that year regardless of when it is completed.


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