<\/span><\/h2>\n\n\n\nA Roth IRA conversion refers to the transfer of cash and\nother assets from a retirement account like the 401k and traditional, SEP, or\nSIMPLE IRA to a Roth IRA. A conversion can be partial or whole. A total\nconversion is when you convert all of your money at once. On the other hand, a\npartial conversion is when you roll over small portions of your IRA funds in\nphases.<\/p>\n\n\n\n
What are the 7 things you should keep in mind when considering a Roth IRA conversion in retirement? <\/strong><\/p>\n\n\n\n<\/span>1. Understand the five-year rule:<\/span><\/h3>\n\n\n\nWhen you roll over your funds to a Roth IRA, you cannot\nwithdraw your funds for up to five years from the year of conversion. Your\nfunds are locked-in, and any withdrawal made during this time is seen as an\nearly withdrawal. As a result, a penalty of 10% may be imposed on any money\ndrawn before the five-year period. The five-year rule will apply to the entire\namount if you make a complete conversion. Likewise, the five-year rule will\napply to every conversion, if you make a partial conversion. Typically, the\nrule is imposed on January 1 of the year the conversion is made. Suppose you\nmake four partial conversions in four years, this means that the five-year rule\nwill be imposed for each of these conversions.<\/p>\n\n\n\n
The five-year rule can be a considerable problem in retirement because you are much older during this phase of life. Waiting for five years at the age of 30, 40, or even 50 may not be as hard as you have several other sources of income to rely on. However, the same can be restrictive in retirement as you would have fewer income sources. If you are entirely dependent on your IRA income, a waiting period of five years can be detrimental. In such a case, it may be advised to thoroughly plan your Roth IRA conversion beforehand to avoid any issues later or avoid it altogether. <\/p>\n\n\n\n
<\/span>2. Know the tax liabilities of your state:<\/span><\/h3>\n\n\n\nThe primary purpose of using a Roth IRA is to lower your tax dues in retirement. However, there are several ways to do this. One of the most effective ones is to choose a state with a low tax cut. States like Alaska, Florida, South Dakota, New Hampshire, etc., do not impose any income tax. If you live in a state with no income tax, you will not be taxed on your distributions from a traditional IRA. In such a case, you will not benefit from a Roth conversion. Consider a conversion only if you have something substantial to gain from it. If you are presently in a state that imposes income tax but are planning to move to a state with no tax, you will end up spending more money than you save from a conversion. A conversion will cost you tax in the present since you are in a state that imposes a tax, and your withdrawals, once converted, will not be taxed later since you will not be in a state that imposes an income tax. <\/p>\n\n\n\n
<\/span>3. Consider the Roth IRA conversion ladder: <\/span><\/h3>\n\n\n\nThe Roth IRA conversion ladder is nothing but a partial conversion. As mentioned above, a conversion can be made in whole or in installments. Whenever you make a conversion, you have to pay taxes in the same year as the conversion. This is primarily because a Roth IRA is exempt from any taxes upon withdrawal, whereas other accounts are not. So, you must clear all your tax dues at the time of conversion. In the case of a complete conversion, you owe tax on the entire account. However, if you choose a partial conversion, also known as the Roth IRA conversion ladder, you break down your tax liability. The smaller the conversion amount, the less tax you pay in the concerned year. The tax payments are spread over the years, and you get to comfortably convert your funds with more minor tax cuts without impacting you all at once. <\/p>\n\n\n\n
<\/span>4. Know you may pay a 3.8% Medicare surtax<\/span><\/h3>\n\n\n\nYour Modified Adjusted Gross Income (MAGI) is an important consideration when contemplating a Roth IRA conversion. The premium for Medicare Part B and Part D is adjusted based on your MAGI from the last two years before enrollment. Moreover, people with a MAGI of more than $250,000 are subject to a Medicare surtax of 3.8%. This surtax can be applied to income from capital gains, interest and dividends, rent, annuities, etc. The conversion amount from a Roth IRA is also seen as an income. If you convert to a Roth IRA, the Internal Revenue Service (IRS) will consider it an income and increase your Medicare premium. It will also increase your surtax thresholds. <\/p>\n\n\n\n