The information on this site does not modify any insurance policy terms in any way. A Roth IRA is the best retirement account around, according to many experts, and it offers huge benefits such as tax-free income and the ability to leave tax-free money to heirs. Plus, because of its tax-free status, a Roth IRA gives you flexibility when it comes to taking retirement income. But what if you have another retirement plan? The good news is that you can convert plans such as a k or traditional IRA to a Roth IRA and take advantage of its range of benefits, and now may be a great time to do so.
With a Roth IRA you can save for retirement on a tax-advantaged basis, giving you some attractive incentives to prepare for your golden years. Tax-free withdrawals are the biggest perk but the Roth IRA offers others. You can pass down a Roth IRA, and heirs will receive some significant tax advantages, too.
You can invest in a Roth IRA at any age as long as you have enough earned income to cover the contribution. The Roth IRA also offers a lot of flexibility. There are no required minimum distributions , as you have with a traditional IRA.
If you take earnings out early, you can be hit with taxes and a 10 percent bonus penalty, however. But some situations allow you to take penalty-free withdrawals. The withdrawal rules for a Roth conversion work somewhat differently, however. Moreover, if you make multiple Roth conversions, each is subject to its own five-year rule. Within a couple weeks — and often sooner — the conversion to the Roth IRA will be made.
A Roth IRA conversion can be a good option for many individuals, and here are some of the most common situations where it would make sense. The reason for why you might be in a higher tax bracket could be anything: living in a state with income taxes, earning more later in your career or higher federal taxes later on, for example. She points to high-tax California and no-tax Texas as examples. In this example you avoid paying state taxes on your conversion in Texas and then avoid paying income taxes in California when you withdraw the funds at retirement.
The snowball effect that happens when your earnings generate even more earnings, not only on your original investments, but also on any interest, dividends, and capital gains that accumulate. That means that your "money makes money" and can grow faster over time. All investing is subject to risk, including the possible loss of the money you invest.
Skip to main content. Open your IRA in 3 simple steps. Review the rules for IRA withdrawals. A conversion can get you into a Roth IRA—even if your income is too high The conversion would be part of a 2-step process, often referred to as a "backdoor" strategy. But make sure you understand the tax consequences before using this strategy.
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This compensation comes from two main sources. The tax bracket is set up so those with larger taxable incomes owe a larger percentage of their income tax to the government. You should try to stay below the upper limit of your tax bracket if you can. If your Roth conversion pushes you into the next tax bracket, you'll give up a larger portion of your earnings.
The other factor that affects your tax bill is whether your tax-deferred savings have a basis. Basis means money you've paid taxes on already. It's not that common, but if you've made non-deductible contributions to a tax-deferred retirement account and you later decide to convert some of that money to a Roth IRA, you won't have to pay taxes on your basis. Unfortunately, the IRS doesn't enable you to convert your entire basis, leaving your deductible contributions alone.
In order to calculate the percentage of your Roth conversion that's tax-free if you have some basis, you'd divide your total nondeductible contributions by the year-end value of all of your IRA accounts plus the value of all conversions and any distributions taken during the year. Owing taxes on your Roth IRA conversion doesn't mean you'll receive a tax bill, though you could.
But if you qualify for enough tax deductions and credits, you may just end up with a smaller tax refund for the year. If you do owe the government, you will need a plan to pay for these funds. Dipping into your retirement savings to cover the cost of the conversion is an option, but it's usually a bad one. You're better off relying on personal savings or setting up a payment plan with the IRS, though that may require you to pay some interest, to cover your extra tax bill.
This is different from the rule for Roth IRA contributions, which you can withdraw tax- and penalty-free at any age. The five-year period begins at the start of the calendar year you do the conversion.
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