A Roth conversion can create a larger tax bill today in exchange for potentially greater flexibility in the future. Whether that tradeoff is worthwhile cannot usually be determined by looking at a single tax year.
A conversion moves money from a traditional retirement account into a Roth account. The taxable portion of the amount converted is generally included in income for the year of the conversion. Future qualified Roth distributions may be received tax-free, and Roth IRAs are not subject to required minimum distributions during the original owner’s lifetime.
That basic description makes the decision sound straightforward:
In practice, the analysis is more complicated.
A conversion can affect federal and state income taxes, Medicare premiums, Social Security taxation, health-insurance subsidies, investment strategy, cash reserves, future required distributions, the surviving spouse, and the taxes ultimately paid by beneficiaries.
The appropriate question is therefore not simply:
How much tax would this conversion create this year?
A more useful question is:
How could a conversion made today affect the household’s taxes, cash flow, flexibility, and estate over the next several decades?
A Roth conversion generally involves moving assets from a traditional IRA, SEP IRA, SIMPLE IRA, or eligible employer retirement plan into a Roth IRA or another permitted Roth account.
There is no income limit preventing a taxpayer from converting eligible traditional retirement assets to a Roth IRA, although income limits still apply to direct Roth IRA contributions.
The portion of the conversion representing previously untaxed contributions and investment earnings is generally taxable as ordinary income in the year of conversion.
For example, suppose an investor converts $100,000 from a traditional IRA consisting entirely of deductible contributions and tax-deferred growth. The investor would generally add $100,000 to taxable income for that year.
No cash is necessarily received from the transaction. The assets simply move from one type of retirement account to another. The resulting tax must therefore be paid using withholding, estimated payments, money outside the retirement account, or a portion of the converted assets.
A conversion is also generally irrevocable. Roth conversions completed after 2017 cannot be recharacterized back into traditional IRAs if the tax cost, market performance, or personal circumstances turn out differently than expected.
That makes advance planning particularly important.
A one-year projection can estimate the immediate tax cost of a conversion. It may show how the conversion affects taxable income, deductions, credits, and the taxpayer’s current marginal rate.
That information is necessary, but it is not sufficient.
A conversion may appear expensive when compared only with taking no action this year. However, taking no action may allow a large traditional retirement account to continue growing until required distributions begin.
Conversely, a conversion may appear attractive because the taxpayer currently occupies a relatively low tax bracket. But the conversion may also increase Medicare premiums, reduce a health-insurance tax credit, create state tax, or require the investor to use money that is needed for other goals.
A multiyear analysis compares several possible futures rather than comparing a conversion with no tax at all.
The real alternatives may be:
The best answer depends on the full retirement and estate plan.
A multiyear analysis begins by identifying how taxable income may change over time.
Important events may include:
Many retirees experience a temporary period of lower taxable income after they stop working but before Social Security and required minimum distributions begin.
This period is sometimes called a retirement tax-planning window.
For example, an individual may retire at age 62, delay Social Security until age 70, and not begin required distributions until age 73 or 75, depending on the applicable rules and date of birth. That may create several years in which taxable income can be recognized more deliberately.
A conversion that looks expensive while the individual is still earning a salary may become more attractive after employment income ends.
Waiting too long, however, may allow the traditional account to grow and may shorten the number of years available to complete conversions gradually.
A Roth conversion is frequently described as a comparison between the taxpayer’s current tax rate and expected future tax rate.
That is a useful starting point, but the analysis should be more precise.
The relevant comparison is generally between:
Federal income-tax brackets are progressive. A conversion may be taxed across more than one bracket rather than at one single rate. Current federal law continues to use seven individual income-tax rates, with bracket amounts adjusted periodically.
A conversion strategy may intentionally “fill” part of a targeted bracket each year.
However, reaching the top of a tax bracket should not automatically end the analysis. Additional income may affect other calculations that cause the effective cost of the conversion to exceed the stated federal bracket.
The analysis should also consider:
The tax bracket is important, but it is only one part of the conversion’s true cost.
Traditional retirement accounts generally cannot remain tax-deferred indefinitely.
Under current rules, an individual’s applicable required-minimum-distribution age is generally 73 or 75, depending on date of birth. The required amount is generally based on the previous year-end account balance and an IRS life-expectancy factor. Roth IRAs are not subject to lifetime RMDs for the original owner.
Large traditional account balances can eventually produce substantial required distributions.
Those distributions may:
A Roth conversion reduces the traditional account balance used to calculate future RMDs. It also moves future investment growth into an account that does not require lifetime distributions for the original owner.
The analysis should not simply compare the conversion amount with next year’s estimated RMD. It should project how the account might grow and how required distributions may develop over the investor’s expected lifetime.
A series of moderate conversions may materially change the long-term distribution pattern even when no single conversion appears dramatic.
The years between retirement and required distributions may be particularly valuable.
During this period, the retiree may have:
A one-year approach may recommend minimizing taxable income during these years.
A multiyear approach may reach the opposite conclusion.
Recognizing additional income voluntarily can sometimes reduce the amount that must be recognized involuntarily later.
For example, an investor might complete annual conversions during a seven-year period rather than leaving the full traditional IRA untouched. Each conversion creates a current tax cost, but the strategy may reduce future RMDs and build a source of tax-free retirement income.
The objective is not necessarily to eliminate the traditional IRA.
Maintaining both traditional and Roth assets may provide greater flexibility than converting everything or converting nothing.
Roth conversions can affect the taxation of Social Security benefits.
A taxpayer’s benefits may become taxable when one-half of Social Security benefits plus other income—including tax-exempt interest—exceeds the applicable base amount. Depending on the household’s income, up to 85% of Social Security benefits may be included in taxable income.
A conversion completed after Social Security begins may therefore have two effects:
This can produce an effective marginal tax cost greater than the taxpayer’s stated bracket.
That does not necessarily mean the conversion should be avoided. The current cost may still be justified if it reduces future RMDs or provides other long-term benefits.
However, the interaction should be calculated rather than overlooked.
Completing conversions before Social Security begins may sometimes reduce this issue, which is another reason the timing should be evaluated across several years.
A Roth conversion can also affect Medicare Part B and Part D premiums.
Medicare income-related monthly adjustment amounts, commonly called IRMAA, are based on modified adjusted gross income reported on an earlier tax return—generally the return from two years before the premium year. Higher income may therefore produce higher Medicare premiums two years after the conversion.
For example, a conversion completed in 2026 may influence Medicare premiums assessed in 2028.
This delayed effect is easy to miss when reviewing only the current tax return.
A multiyear analysis should estimate:
IRMAA should not be treated as an absolute ceiling.
Crossing a premium threshold may still be worthwhile when the conversion creates larger long-term benefits. The additional Medicare cost should simply be included in the comparison.
Individuals whose income declined because of certain life-changing events may be able to request that Social Security reconsider an IRMAA determination using more recent income information. However, a voluntary Roth conversion itself does not necessarily qualify as a life-changing event.
Retirees who purchase coverage through the Health Insurance Marketplace before age 65 may have another important consideration.
Eligibility for premium tax credits and other Marketplace savings is based on household modified adjusted gross income. Taxable retirement distributions and Roth conversions increase adjusted gross income and may change the amount of assistance for which the household qualifies.
A conversion may therefore produce costs beyond ordinary income tax.
If advance premium tax credits were based on a lower income estimate, a large year-end conversion could also affect the amount reconciled on the household’s federal tax return.
For some early retirees, waiting until Medicare begins may reduce this concern. For others, waiting may sacrifice valuable low-income conversion years.
The appropriate strategy requires comparing both periods.
A Roth conversion analysis should not assume both spouses will remain alive and filing jointly throughout retirement.
After the death of one spouse, the survivor may experience:
This is sometimes described as the “survivor’s penalty” or “widow’s penalty.”
A couple may be comfortable taking RMDs while filing jointly, but the surviving spouse may later report a similar amount of retirement income under less favorable single-filer thresholds.
Partial Roth conversions completed during the spouses’ joint lifetimes may reduce the survivor’s future taxable distributions and provide access to tax-free funds.
This does not mean every married couple should convert aggressively. It means that the surviving spouse’s projected income and tax filing status should be part of the analysis.
The federal tax result is only part of the decision.
A conversion may be taxable by the taxpayer’s current state of residence. State rates, deductions, retirement-income exclusions, and treatment of Roth accounts vary.
Future residency may materially change the analysis.
For example:
Converting before moving is not automatically better or worse.
The analysis should compare the state tax paid at conversion with the state tax that may apply to future traditional-account distributions.
Residency must be genuine and should not be changed solely through paperwork. Taxpayers considering a move should coordinate the timing with their tax and legal professionals.
A conversion is often more attractive when the resulting tax can be paid using assets outside the retirement account.
Suppose an investor converts $100,000 but uses $25,000 of the IRA to pay the tax. Only $75,000 remains invested in the Roth account.
If the investor is younger than 59½, the amount withheld from the retirement account may also be treated as an early distribution and could be subject to an additional tax unless an exception applies. Traditional IRA distributions before age 59½ are generally subject to a 10% additional tax unless an exception is available.
Using outside cash allows the full conversion amount to remain in the Roth account.
However, paying taxes from outside funds is not automatically appropriate if doing so would:
The analysis should examine both sides of the transaction: the retirement assets converted and the nonretirement assets used to pay the tax.
Because a conversion increases taxable income, the household may need to adjust withholding or estimated tax payments.
The conversion itself does not guarantee that sufficient tax will be withheld.
Planning options may include:
The investor should distinguish between the amount converted and the amount available to remain invested after any withholding.
Tax-payment planning should occur before year-end, particularly when the conversion amount may change based on investment performance, business income, capital gains, or other taxable events.
Not every dollar in a traditional IRA is necessarily taxable.
An investor may have made nondeductible traditional IRA contributions in prior years. Those contributions create after-tax basis, which is generally tracked on Form 8606.
The tax calculation generally does not allow the investor to select only the after-tax dollars for conversion while leaving all pretax funds behind. When basis exists, Form 8606 generally considers the taxpayer’s traditional, SEP, and SIMPLE IRA balances together when calculating the taxable and nontaxable portions.
This is often called the pro rata rule.
For example, if 10% of the taxpayer’s aggregated applicable IRA balance represents after-tax basis, approximately 10% of a conversion may be nontaxable and the remaining portion taxable, subject to the detailed calculation.
Prior Forms 8606 should be reviewed before completing the conversion.
Missing or inaccurate basis records can cause the taxpayer to pay tax twice on previously taxed contributions or incorrectly report too little taxable income.
The phrase “five-year rule” can refer to more than one Roth rule.
One rule helps determine whether Roth IRA earnings are part of a qualified distribution. Another can apply to converted amounts withdrawn by an individual who has not reached age 59½.
Each conversion may have its own five-year period for purposes of the additional tax that can apply when converted taxable amounts are withdrawn early. Roth IRA distribution ordering rules also affect which dollars are treated as distributed first.
These rules are less likely to be a concern when the converted assets are intended to remain invested for retirement and the account owner is already older than 59½.
They may be important when:
A conversion should not leave the household without adequate accessible liquidity.
A market decline may create an opportunity to convert a larger number of shares at a lower account value.
If an investment later recovers inside the Roth account, that future growth may potentially be distributed tax-free when the requirements for qualified distributions are met.
This does not mean investors should attempt to time the market perfectly.
A sound strategy may identify an annual conversion target and adjust the amount when:
Because conversions can no longer be reversed through recharacterization, the investor should be comfortable with both the tax cost and the investment being moved.
Investors who expect to make substantial charitable gifts from retirement accounts may not want to convert every traditional IRA dollar.
IRA owners who meet the applicable age requirement may be able to make qualified charitable distributions directly from eligible IRAs to qualifying charities. A qualifying distribution may count toward an RMD while generally being excluded from gross income, subject to statutory requirements and annual limits.
Roth conversions are generally less compelling for amounts likely to be transferred directly to charity because a charity may be able to receive traditional retirement assets without the same income-tax cost that would apply to an individual beneficiary.
A coordinated strategy might therefore:
The appropriate structure depends on the investor’s charitable intentions and estate plan.
Many non-spouse beneficiaries who inherit retirement accounts are generally required to distribute the account by the end of a ten-year period, although detailed rules and exceptions apply.
Inherited Roth accounts are also subject to beneficiary distribution requirements, but withdrawals are generally tax-free when the applicable Roth requirements have been satisfied.
This can make Roth assets attractive for certain beneficiaries, particularly when:
However, converting solely for heirs may not be worthwhile if:
A multiyear analysis can compare the projected taxes paid by the owner with those potentially paid by the beneficiaries.
A Roth conversion plan should not be placed on autopilot.
Each year may bring changes in:
The annual conversion amount may therefore increase, decrease, or fall to zero.
One practical approach is to prepare an initial projection early in the year and refine it later when more information is available.
A final year-end analysis can incorporate actual income, realized gains, deductions, withholding, and estimated payments.
The goal is not to convert the same amount every year. It is to make a deliberate annual decision within a longer-term framework.
Consider a married couple who retire at age 63.
They have:
A one-year projection shows that converting $150,000 would create a significant federal and state tax bill.
Compared with converting nothing, the transaction appears expensive.
The couple may therefore conclude that they should leave the traditional accounts untouched.
A longer projection estimates what could happen if the couple completes no conversions:
The analysis then models partial conversions over the years between retirement and required distributions.
The strategy might involve:
The conversions increase taxes during the early retirement years.
However, they may also:
The best strategy cannot be identified by comparing only the current year’s tax bills.
A useful analysis should generally consider:
The analysis should compare multiple scenarios rather than presenting one predetermined answer.
Roth conversion planning does not mean:
A conversion can be valuable without being maximized.
It can also be reasonable to complete no conversion in a particular year.
The objective is not to move the largest possible amount into a Roth account. It is to improve the household’s long-term financial position.
Roth conversions connect investment management, tax planning, retirement income, healthcare costs, and estate planning.
A conversion may require investments to be transferred or sold. It may affect capital-gain planning, estimated taxes, Medicare premiums, health-insurance credits, charitable giving, and the amount available for future withdrawals.
These decisions should be evaluated together.
At Foothills Investments, Roth conversion planning is considered within the context of the client’s broader financial life.
The analysis may include current and projected taxes, investment allocation, retirement spending, Social Security, required distributions, healthcare premiums, charitable goals, the surviving spouse, and intended beneficiaries.
The objective is not simply to reduce taxes this year.
It is to help clients determine whether paying tax voluntarily today may create greater flexibility, improve future cash flow, and reduce the household’s expected long-term tax exposure.
A Roth conversion should not be evaluated as an isolated transaction.
Its value depends on what may happen before and after the conversion—including retirement, Social Security, required distributions, Medicare, changes in filing status, and the eventual transfer of assets.
Schedule a discovery meeting with Foothills Investments to discuss whether a multiyear Roth conversion analysis may fit within your retirement and investment strategy.
This material is provided for general educational purposes only and should not be considered individualized investment, tax, accounting, insurance, Medicare, estate-planning, or legal advice. Tax laws, retirement rules, healthcare provisions, and individual circumstances are complex and subject to change.
Consult the appropriate professionals before completing a Roth conversion or implementing another retirement strategy.
Any examples are hypothetical, are provided solely for illustrative purposes, and do not represent any particular client or guarantee a specific tax, investment, or financial result. Future investment returns, tax rates, laws, and personal circumstances cannot be predicted with certainty.
Foothills Investments, LLC is a Colorado-registered investment adviser. Registration does not imply a particular level of skill or training. Investing involves risk, including the possible loss of principal. Past performance does not guarantee future results.
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