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Retirement Plans: Evaluating the New Roth IRA Conversion Opportunity

by Christine S. Fahlund

Retirement Plans: Evaluating The New Roth IRA Conversion Opportunity Splash image

Starting in 2010, investors have the option of converting all or part of their money in a traditional IRA (Individual Retirement Account) into a Roth IRA regardless of how much they earn.

Until now, such conversions could be done only by those with modified adjusted gross incomes of $100,000 or less. This change is especially timely, given the growing number of Baby Boomers retiring in the near future and likely rolling over their nest eggs from their 401(k) accounts into IRAs.

Whether you are years from retirement or even approaching retirement, you may find it worthwhile to consider a Roth IRA conversion—either for yourself or to potentially leave tax-free assets to heirs.

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Christine S. Fahlund , Ph.D. and CFP, is a senior financial planner and vice president of T. Rowe Price Group, an investment management firm based in Baltimore, Maryland.


Discussion

Fred from California posted over 3 years ago:

The article does not discuss converting 401k plan rollovers into Roth IRAs. I understand T.Rowe Price, Fidelity, Merrill Lynch, etc, are all permitting clients to roll the after-tax contributions from 401k plans into Roth IRAs. Is this correct? In other words, say a retired person had $100 in a 401k plan, which included $20 which was contributed from after tax wages that were previously taxed. The cost basis would be 20% in this example. Can the retiree roll the $80 into a regular IRA and also roll the $20 (after tax portion) into a Roth IRA without incurring any taxable income. Or will the IRS tax 80% of the $20 rolled into the Roth?


Marie from New York posted over 3 years ago:

My understanding is that you must report the $20 and state that 80% is pretax and 20% is after tax, but that there IS a way around this. I don't know what it is, but am always advised to talk with a tax specialist.


Bruce from New York posted over 3 years ago:

In January 2010 I opened a new Traditional IRA. I funded it with $6,000 for 2009 and $6,000 for 2010 (I am of age.) The next day I converted to a Roth IRA. The converted balance was $12,000.03. I assumed I would only have to pay tax on the $.03 gain. However, in completing my 2010 tax return using Turbotax, I am taxed on the full $12,000.03. This can't be correct, can it? The $12,000 contribution was not made as a deductible contribution. It seems as though I will be double taxed on the $12,000. Is this correct, or is Turbotax missing something?


Bryan from California posted over 2 years ago:

What is the process to convert a solid six figure 401k to a Roth IRA? Am I correct in assuming that the 401k must be first converted to a traditional IRA and then to a Roth? Can this be done while still employed, or does one have to retire first?


Leonard from New York posted over 2 years ago:

What about your RMD's? Being over 70 1/2, I have to take required minimum distributions (RMD) but find that I don't need it all for the year. Can I take the unused part and convert that to a Rith or are RMD's prohibited from being transferred?


Leonard from New York posted over 2 years ago:

That's Roth of course, not Rith.


Ronald from Massachusetts posted over 2 years ago:

Hi Leonard From NY
You ask about RMD conversions to a Roth. When you are over 70.5,you can only make a Roth conversion AFTER you take out the required MRD for the year from your traditional IRA. You will be taxed on the MRD plus the ROTH conversion.

I do this because filling a married return and with standard dedctions, personal exemptions, and over 65 breaks means I can have an income of over 90K and still be in the 15% tax bracket. the money I put in the ROTH will go to the Kids who are in a higher tax bracket so I use the converted money as an estate planning tool. Remember I said you must take your whole MRD for the year FIRST before you can convert to a ROTH!


Don from California posted over 2 years ago:

I (age 79) convered $105,000 as part of my IRA last year (2010). The value has been reduced now to $97,000. Do I have until October 1 (?) of 2011 to change back to all IRA if I have some $8-10,000 in less $$ values come October? I have no intention on drawing from this Roth anytime in the future.


Marty from New York posted over 2 years ago:

You also have to trust that the government - you know those people in washington that keep running out of money - is not going to change its mind in the future and tax you anyway.


C from Virginia posted over 2 years ago:

If your IRA is all stock, do you have to sell your positions and transfer cash or can you transfer the stock with the tax basis being the value of the stock on the day of transfer?

All stock bought with untaxed income.


Charles from Illinois posted over 2 years ago:

C - Check with your broker. You may be able to move the assets over without selling your positions. -Charles Rotblut


Paul from California posted over 2 years ago:

Bruce, I just noticed your question. In case you never fixed that...the $20k non-deductible contribution to a traditional IRA becomes the cost basis that should have rolled into the calculation of the taxable portion of the Roth IRA. You should have entered the Traditional IRA first as non-deductible, the taxable income would have been $0.30.

TurboTax isn't very helpful on this, so you should print out the page and work it by hand to see how it flows.

Ron, My understanding is that you have until October IF you did not already file your tax returns are still on the automatic extension. I think if you already filed, you are out of luck.


Robert from Virginia posted over 2 years ago:

Bruce -- old post, but if still a concern:
You aren't double taxed, because the IRA contributions of $6,000 and $6,000 were deducted from your earned income for the referable years -- so you are only taxed once for those amounts as a result of the conversion.


James from Texas posted over 2 years ago:

I converted a mutual fund from my IRA to my Roth IRA last year. Since then it has dropped in value by 25%. So I want to recharacterize this mutual fund. But I have been told I will still owe tax since the IRS only looks at the dollar amount and this fund has dropped in value more than the whole Roth IRA. So don't count on a recharacterization to get out of paying tax on the original conversion.


Jim from Florida posted over 2 years ago:

Fidelity allowes you to roll over your 401k positions to a Roth in cash or stocks. That goes for your MRD's also. You will have to call Fidelity if you want to do a stock to stock move for your MRD.


Trust from Washington posted over 2 years ago:

Bruce: I believe TurboTax may have an error in this type of transaction. See their discussion at:

http://turbotax.intuit.com/support/iq/Retirement-Plan---Social-Security/Federal-2010--Customers-with-a-recharacterized-Roth-conversion-may-have-incorrect-tax-return/SLN49280.html


Terry from Kansas posted about 1 year ago:

Is it safe to say the greatest potential benefit of Roth conversion is to minimize tax liability for heirs?

With regard to potential benefits for investors with longer investment horizons, theres no argument with the math of compounding. Then again, how many young investors will choose a deferred benefit over current tax savings, especially if they have expenses to meet?

With regard to "avoiding higher tax rates in retirement", the only scenario where tax rates go up is if retiree income significantly increases. What group of retirees expect to be in that situation?


Marty from California posted about 1 year ago:

Terence- Future MRDs from a tax-deferred account will increase your taxable income potentially pushing you into a higher tax bracket. Lowering the balance in the tax-deferred account through a Roth conversion will reduce the future MRD. The age 70 MRD (taxable income) on a tax-deferred IRA $1MM balance is $36,496.35. And **percentage-wise** the MRD mostly increases thereafter. Check out the Fidelity.com MRD calculator.


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