Roth Conversion: What It Is and Why It May Be Right for You

Do you own one of the more than 25 million individual retirement accounts in the United States? Since its inception in 1974, the IRA has become a popular savings vehicle for retirement, largely due to its flexibility and substantial tax advantages.1
 
Originally, there was only one type of IRA available - the traditional IRA. Traditional IRAs offer potential tax deductions for upfront contributions, assuming you meet income limitations. They also offer tax-deferred growth as long as the funds stay inside the account. However, all distributions from a traditional IRA are taxable.

While traditional IRAs can be effective retirement savings vehicles, an alternative variation - the Roth IRA - has grown more popular in recent years. In fact, in 2013, contributions to Roth IRAs exceeded traditional IRA contributions by more than $1 billion.1
 
If you have a traditional IRA, but would rather have a Roth, you can make a switch using a strategy called Roth conversion. A Roth conversion is simply the process of transitioning traditional IRA funds into a Roth IRA. It can usually be completed by simply filling out paperwork with your IRA administrator or financial professional.
 
A Roth conversion isn’t for everyone, but it could be an effective strategy for many retirees. Below are a few reasons why you may want to consider a Roth conversion. Be sure to examine your needs and goals carefully before starting the process.

Tax-Free Income
Both traditional IRAs and Roth IRAs offer tax-deferred growth as long as the funds stay inside the account. As mentioned, traditional IRAs may give you upfront deductions for contributions, but all distributions are taxable.
 
A Roth IRA operates differently. There are no deductions for contributions, but all distributions from the Roth IRA are tax-free. The only stipulations are that the account must be open for at least five years before you begin distributions and you must be either disabled or age 59 ½ or older.
 
That means that a Roth conversion could help you create a tax-free income stream in retirement, which may put more net cash in your pocket and help you live a more stable and comfortable lifestyle. You do have to pay taxes on the converted amount when you do the conversion. However, that cost may be worth it if it creates tax-free income in the future.

Tax-Free Death Benefit
The Roth IRA doesn’t only provide tax-free retirement income, it also generates a tax-free death benefit for your loved ones. Upon your death, your designated beneficiaries can file a benefit claim with the Roth IRA administrator. They can then choose from several different options, including a lump-sum payout or a lifetime income stream.
 
These benefit options are tax-free to your beneficiaries. The gift of a tax-free lump sum or lifetime income stream could be an impactful legacy for you to leave to your loved ones.

No Required Distributions
In a traditional IRA, you are required to start taking distributions at age 70 ½. These required minimum distributions (RMD) usually increase as a percentage of your account balance as you age. The starting distribution at 70 ½ may be small, but by your late 90s, they could equal a significant portion of your IRA balance. The RMDs may make it difficult for you to leave a sizable legacy to your loved ones.
 
Roth IRAs don’t have required minimum distributions. You can leave your funds inside the Roth as long as you like, allowing your assets to continue to grow on a tax-deferred basis. That makes a Roth an effective tool for legacy distribution or for funding costs that may arise in the final years of your life, such as long-term care expenses.
 
Curious about whether a Roth conversion may be right for you? Let’s talk about it. Contact us today at Carstens Financial Group. We can help you analyze your needs and goals and develop a strategy. Let’s connect soon and start the conversation.


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1http://money.usnews.com/money/blogs/planning-to-retire/2015/05/29/5-surprising-facts-about-iras

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16291 - 2016/12/19