Converting Your IRA to a Roth IRA
One of the most important things to do throughout your career is to plan for retirement. When you set up your retirement account, there are two Individual Retirement Account (IRA) options: a traditional IRA and a Roth IRA. Some people start with traditional IRAs and switch to a Roth account later. Both have advantages and disadvantages, but there are several benefits of a Roth account that may be worth the switch.
Traditional vs. Roth IRAs
A traditional IRA is better suited for people who want tax deductions on their contributions and then pay the tax when they take withdrawals.
The Pros of a Traditional IRA
- No income limits. All income levels are eligible to open a traditional IRA.
- Tax deductions. Traditional IRA contributions are tax-deductible.
- Tax liability. Since income is lower during retirement years, withdrawals may have lower taxes.
The Cons of a Traditional IRA
- Required minimum withdrawals (RMDs). If you fail to begin withdrawals at age 70½, you face a 50% government tax.
- Shorter contribution period. You are unable to make contributions after age 70½.
A Roth IRA is advantageous for people who prefer more flexibility in their contributions and withdrawals.
The Pros of a Roth IRA
- No RMDs. There are no withdrawal requirements, so Roth account funds can continue growing as long as you want.
- Tax-free withdrawals. Unlike traditional IRAs, all withdrawals from a Roth IRA are tax-free.
- Flexible contribution requirements. A Roth IRA allows up to $5,500 in contributions annually for people younger than 50 and $6,500 for those older than 50 years of age, but there are ways to exceed that limit.
The Cons of a Roth IRA
- Some conversions are taxable. When you convert tax-deferred funds, it’s a taxable event, and you may have to pay conversion taxes.
- Income limits. As of 2018, the limit is $135,000 if you are single and $199,000 if you are married and filing jointly.
- Tax brackets. If your tax rate is higher now and you expect it to be lower in the future, it could cost more in taxes to convert.
However, you can avoid these downsides, depending on your financial strategy. You can choose to do a back-door conversion; this is when you make a nondeductible contribution to a traditional IRA account, and then convert to a Roth to reduce the conversion taxes.
Planning can help you avoid the tax bracket issue. If you predict your tax rates will be higher in the future, you can convert to a Roth IRA now. Similarly, if you know future life changes will put you in a lower tax bracket, you can plan to switch to a Roth account later.
It’s important to carefully think about which IRA account will suit you best before making a choice. Although a Roth IRA has some restrictions, there are ways around them that will eventually benefit you in retirement, and you can convert at any time.
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At Macino Financial Services we assist our clients with maximizing their Roth IRA contributions to ensure retirement is relaxing. Give us a call at 419.491.0909 to schedule your complimentary review.
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