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You want to leave a legacy
If you want to leave a substantial legacy to your children or grandchildren -- one that will help them pay for their own retirement -- a Roth IRA can be stretched to meet that goal. Your heirs will be required to take tax-free distributions throughout their life, but that isn't necessarily a bad thing. They get an annual tax-free bonus to remember you by. There should still be plenty left when they reach retirement age, according to J.J. Montanaro, a CFP professional with USAA.
Montanaro says most of his clients who opt for this strategy aren't concerned about their own taxes. "Their primary goal is to best position the money for their heirs, even if it means they pay more taxes than their kids."
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You will face high RMDs in retirement
If you are over 59 1/2, but younger than 70 and you have a traditional IRA, you might want to "top off your tax bracket" with a Roth IRA conversion, says Leon LaBrecque, CPA, CFP professional and chartered financial analyst. This is particularly true if you don't think you will need that money in retirement, but will be forced to take required minimum distributions, or RMDs, once you reach age 70 1/2.
For instance, a couple is at the upper level of the 15% tax bracket in 2016 if they have adjusted gross income, or AGI, of $75,300. If their actual income is less than that, they could convert the difference from their traditional IRA at this low tax rate up to the cap. If they do it every year until they are required to take RMDs, they can substantially lower those RMDs, as well as the taxes they'll owe on their nest egg going forward.
"It's a fabulous tax strategy," says LaBrecque.
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You plan to move when you retire
If you are thinking of retiring to a high-tax state like New York, New Jersey or California, especially from a state where taxes are lower, converting at least part of your traditional IRA to a Roth before you make the move might make sense.
But if, like many people, you are retiring to Florida or one of the other 6 states where there is no state-income tax, the reasons for converting a traditional to a Roth diminish, says Ken Hevert, a s enior vice president at Fidelity. Plus some states don't tax retirement income, including distributions from an IRA.
In either case, Hevert says, study up. Different states treat Roth conversions differently, so understand your situation and get some expert advice before you make a conversion.
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You fear the wealthy will lose Social Security
Dozens of solutions to save the Social Security program have been proposed over the years. Means testing has been suggested by both political parties as one way to manage the program's shortfall. Medicare is already means-tested, with higher earners paying more. If you believe this is a solution likely to be adopted, you might want to convert to a Roth because Roth income doesn't count for Medicare surcharges and probably wouldn't count for any possible Social Security surcharge.
Of course, no one knows for sure how politicians will try to fix Social Security, and whether it will affect higher earners more than anyone else. "Pull out your crystal ball," says USAA's Montanaro. "It's pretty speculative, but it could happen."
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Your taxable income will be low this year
Let's say you are in the U.S. military and will be serving in a combat zone. Most of your pay will be tax-exempt because of your deployment. This might provide the perfect opportunity to convert some of the money in your traditional IRA to a Roth without owing a lot of taxes.
This isn't the only circumstance where you might have tax-free income, but it is the most common one among USAA financial adviser Montanaro's mostly military clientele. Other low-tax circumstances could include a job change or job loss, being in early retirement and living off taxable investments such as bonds that generate little taxable income, or having high medical expenses.
"Maybe you are in the 15% tax bracket and you have $15,000 or $20,000 you could afford to convert. Use your income as your guide," Montanaro says.
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You want to avoid the AMT
The alternative minimum tax, or AMT, was originally designed to make sure that high earners didn't escape taxation by taking advantage of high deductions. But because the AMT had no built-in inflation adjustments, over the years it affected an increasing number of lower earners with lots of deductions.
The amount of earnings exempted from the AMT is now adjusted for inflation, thanks to the American Taxpayer Relief Act of 2012. That means fewer taxpayers face the parallel tax. Still, individuals need to be aware of its possible effects.
"Qualified withdrawals that have been in the Roth for more than 5 years by people who are older than 59 1/2 do not count toward income that would trigger the AMT," Fidelity's Hevert says. So, that might be enough reason to convert.
But another weird possibility is that you might want to trigger the AMT. The maximum AMT tax rate is 28%, which may be less than your marginal tax rate. The additional income you realize from a Roth IRA conversion could raise your income level above the crossover point, so you'll pay the lower AMT rate. How crazy is that?
Don't try this at home on your own. Get help from a financial adviser.
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