Roth IRA Conversion Tips

September 16, 2009

The Roth IRA conversion rules are changing in 2010, here are a few things to consider if you’ve been thinking about converting your traditional IRA to a Roth IRA.

Roth IRA Conversion Limits

The current IRS rules only allow you to convert your traditional IRA to a Roth IRA if your modified adjusted gross income is $100,000 or under. Next year that income limitation will be removed so you can convert to a Roth IRA regardless of your income in 2010.

IRA Conversion Taxes

Converting from a traditional IRA to a Roth doesn’t allow you to skip out on the taxes you owe.  You still have to pay income tax on the amount you convert into your Roth IRA.

However, if you convert your traditional IRA in 2010 you can delay reporting of the income over a two year schedule.  The rules allow you to defer 50% of the income to 2011 and the other 50% until 2012.

If you don’t have the money to pay the taxes you’ll owe, it’s probably not worth it to convert your traditional IRA to a Roth IRA until you have the funds. If you pay the taxes with funds from your IRA you’ll be missing out on the tax-free growth of the funds you withdraw.  In addition if you’re under 59 1/2 you’ll proably also have to pay a penalty.

Retirement Tax Brackets

If you think your tax bracket will be lower in retirement than it is now then the taxes you would pay when converting to a Roth IRA next year could be higher than what you would pay when widthdrawing from a traditional IRA if you decided not to convert it.

Of course no one knows for sure what their income will be in retirement so this decision has to be made based on assumptions about your financial situation in the future.

Ben

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Ben

Ben Edwards, the founder of Money Smart Life, saved up enough to buy a Nintendo back when he was 12 years old. When he used the money to buy shares of Wal-Mart stock instead, he knew he wasn’t like the other kids… His addiction to personal finance has paid off for his family and now he’s helping you to afford the life that you want. Check him out on the web at Google Plus, Twitter and Facebook.


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Comments

2 Responses to Roth IRA Conversion Tips

  • Britt

    The 2010 Roth IRA conversion rule change also effectively eliminates the income limits on making a Roth IRA contribution.

    For instance, someone who earns too much to contribute to a Roth IRA or make deductible contributions to a Traditional IRA can still make non-deductible (after-tax) contributions to a Traditional IRA.

    With the elimination of the $100,000 limit on Roth IRA conversions in 2010, the Traditional IRA can then be immediately converted to a Roth IRA, effectively eliminating the income limits restricting who can and cannot contribute to a Roth IRA.

  • David@DINKS Finance

    “However, if you convert your traditional IRA in 2010 you can delay reporting of the income over a two year schedule. The rules allow you to defer 50% of the income to 2011 and the other 50% until 2012.”

    Nice, this is definitely something people should keep in mind when debating whether to switch over or not.

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