Why an IRA Conversion Is Even More Attractive Now

Converting a traditional IRA to a Roth IRA can help you shelter future retirement savings from Uncle Sam. Here's why that option is even more attractive now than it was in the past.

Why an IRA Conversion Is Even More Attractive Now Photo by goodluz / Shutterstock.com

Many taxpayers will pay a lower income tax rate for 2018 and in future years due to the federal tax code overhaul adopted in December 2017.

These lower tax rates mean savers might find it even more attractive to reduce future taxes on their retirement funds by converting a traditional IRA to a Roth IRA, as Morningstar recently pointed out.

The upsides of a Roth IRA conversion

When you convert a traditional individual retirement account (IRA) to a Roth IRA, you pay income taxes on the converted funds. Now that tax rates are lower, there is a good chance you will pay less in taxes on such a conversion than you would have in the past.

For example, if your tax rate fell from 25 percent last year to 22 percent this year, the conversion effectively will be cheaper for you in 2018 than it would have been in 2017.

Why would you convert in the first place? Because although a conversion forces you to pay taxes now, moving the money into a Roth IRA allows you to avoid paying taxes on any future withdrawals, provided you follow IRS rules.

One of the key differences between Roth IRAs and traditional IRAs is that Roth earnings both grow tax-free and are withdrawn tax-free. So, in effect, once money goes into a Roth IRA, it never is taxed again

Another advantage of Roth accounts is that they are not subject to required minimum distributions, or RMDs. With some types of retirement accounts — including traditional IRAs — the IRS requires you to withdraw at least a minimum amount of money each year once you turn 70½.

Morningstar notes that the fact that Roth IRAs are not subject to RMD rules means conversions can be an especially good deal for retirees who have yet to turn 70½:

“The post-retirement, pre-RMD years are a particularly good time for retirees to take a look at IRA conversions, in that they have more control over their incomes — and in turn their tax bills [in] those years.”

The downsides of a Roth IRA conversion

However, remember that everyone’s situation is different, and it would be foolish to make decisions about converting your IRA simply based on reading a single article online.

In addition, Morningstar advises working with a tax adviser or tax-savvy financial adviser on a conversion to avoid inadvertently pushing yourself into a higher tax bracket.

Also, keep in mind that you can no longer “undo” a traditional-to-Roth IRA conversion if you change your mind later. The recent tax code overhaul repealed the ability for taxpayers to do this.

To learn more about IRAs, check out:

Have you ever converted an IRA or considered it? Share your thoughts below or on Facebook.

Karla Bowsher
Karla Bowsher
I’m a freelance journalist and former newspaper reporter who has covered both personal and public finance. I've worked for a top 50 major metro daily and a community newspaper as well as ... More

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