Should I Convert to a Roth IRA?

I am 55 years old and plan on retiring in 7 years. My wife and I both work and have saved religiously in our IRAs. Together we have a little more than $500,000 in those plans. I understand that since all the money invested in those plans were pre-tax dollars and the earnings have never been taxed that every penny we take out of the plans will be taxable to us.

I was reading an article about Roth IRAs and it said that money taken out of this type of IRA is tax free. It also said that I could convert my regular IRA to a Roth IRA pay the tax now and then have tax free distributions forever. Is that true and do you think it is a good idea?

Joe

Dear Joe,

Thanks for the great question and congratulations on your savings and investment history. Yes it is true. Once you have qualified, that is, have had a Roth IRA for 5 years and reached the age of 59 ½ the distributions from the Roth are federally tax free. And yes it is true you can convert, at any time, traditional IRAs to Roth IRAs pay the tax and proceed on your merry way of no federal taxes after that.

However, most individuals are surprised at how low their federal taxes are at retirement. Think about your prospective sources of income at retirement. If you have any kind of state sponsored or private company pension plan those payments are taxable. Unfortunately not many people have these. Social Security payments under current law all you to exclude 100%, 50% or 15% of them from taxes depending on your retirement income. If you don’t have rental income or significant interest or dividend income, the chances are that your income tax rate will be lower at retirement then it is now.

You probably don’t want to convert your IRAs now. It may be better to wait until your rate drops. Of course, no one knows for sure what rates will be in seven or eight years so that is an unknown.

Joe, in general, Roth Conversions are a great deal for your beneficiaries. If you want to help out your children or your grandchildren consider converting part of your IRA later in life. Don’t do it all at once but in smaller amounts like $5,000 or $10,000 a year so as to manage your tax brackets.

If you don’t use all the money and they inherit both regular IRAs and Roth IRAs, the distributions from the regular IRAs will be taxable to them, but the distributions from the Roth IRA will be tax free to them. The only catch is you must pay the taxes at conversion. Thanks for the good question.

Paul D. Reasoner CFP, CIMA

These are the opinions of Paul Reasoner and not necessarily those of Cambridge, are for informational purposes only, and should not be construed or acted upon as individualized investment advice.

Compass Wealth Advisors, LLC is an advisor owned independent Registered Investment Advisory Firm. Registered Representative. Securities offered through Cambridge Investment Research, Inc., a Broker/Dealer, FINRA/SIPC. Cambridge and Compass Wealth Advisors, LLC are not affiliated.