Should you do a Roth IRA conversion?

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In the spring, an investor’s fancy turns to Roth IRA conversions. Is now a good time to convert a traditional IRA to a Roth?

As you must have heard by now, this year anyone, regardless of income, can convert pretax retirement assets to a Roth, and the income can be divided over three years to pay taxes.

Bankrate’s Retirement Guide contains several instructive articles on this topic, including one explaining how to do a Roth conversion, another one about how to undo a conversion, a third one on how to pay for a conversion, yet a fourth on Roth conversion investment strategies, and finally, an interview with IRA expert Ed Slott about the 8 Roth IRA conversion traps to avoid.

Here’s the upshot: Whether you should do the conversion depends on several factors, such as whether:  

  • You have funds outside of the IRA with which to pay for it.
  • The conversion will push you into a higher tax bracket.
  • You expect your tax bracket to go up or down during your retirement years.
  • You think tax rates will go up in general going forward.
  • You believe the rules will change about the tax-free status of Roth IRAs.

Let’s not even think about that last possibility!

Regardless, a lot of people have sallied forth with the conversion. Last week, Fidelity Investments reported completing 58,000 Roth conversions in the first quarter of 2010, a fourfold increase over the same period in 2009.

Ed Slott calls doing a Roth conversion a “risk-free opportunity,” because if you’re not happy with the conversion down the road for whatever reason — for example, because the value of your account goes down — you can undo it and then do it over if you want (within certain time frames).

Below, Bankrate’s savvy newsletter subscribers share their thoughts about doing a conversion.

Cathy Bein, proud mom of Marine David S. Bein: “(My husband and I) are not going to convert our IRAs to a Roth. … We’re in our 60s, and additional income would put us in a higher tax bracket — not a good deal for us!” On the other hand, her son, who got out of the Marine Corps last July, is a full-time college student. “I’m going to look into converting his Thrift Savings Plan to a Roth this year,” she says.

Sandra of Indianapolis: “I plan to do some conversions, since it is apparent the current administration seems to have no plans to cut spending. The logical next step will be tax increases. Hence the tax on these conversions will never be cheaper than right now.”

J. Dobster: “I recently converted part of my IRA into a Roth as the Required Minimum Distribution each year pushed me into higher tax brackets. I did not convert all because of the amount of tax that would be due. I may convert more in 2010. …”

Jeanette Howard: “I converted a 401(k) (Thrift Savings Plan) to a traditional IRA and then to a Roth IRA this year. I’ve had a Roth IRA since its creation and really like the freedom it gives you. I built a home last year and was able to tap into my Roth IRA funds without penalty or taxes. I’d also rather pay taxes now than in the future when I believe they’ll be much higher. Finally, I don’t want to wait until I’m 59 ½ years old to have access to my funds.”

Connie Bruce: “I have a 401(k) plan at work but my husband does not so he contributes to a traditional IRA. I am considering rolling my husband’s traditional IRA into a Roth next year because our combined income as a married couple no longer allows us to deduct any contributions he makes. For this reason, it makes sense to be able to take money out of his account tax free later on since there is no tax benefit now.

“When we retire, we will have my taxable 401(k) account and my husband’s tax free Roth withdrawals to choose from for funding our retirement. This will be a particularly helpful option to allow him to use income from his Roth to delay taking Social Security until I also retire nine years after he does. Delaying Social Security will give him a larger benefit amount later and we won’t have to worry about wages from my job making his Social Security benefit taxable.”

James F. Stewart: “I have a Thrift Savings Plan with the government and an IRA and I am 67 still working until 68. I will have to take money out of both plans starting at 70 ½ at a rate higher than I want to. So if I convert the IRA to a Roth, it will give me more flexibility of when to take the money out of the Roth. I will have to pay taxes on the converted money, but the years I am 68 and 69, which are 2011 and 2012, will be my lowest-income years and also the years I pay tax on the conversion. I will stop working in 2011 and will not start Social Security until I am 70 in 2013. So the tax I pay on my conversion will be less than my marginal tax rate when I start taking the mandatory amount when I turn 70 ½.”

What about you? Do you plan to do a Roth conversion? Take a minute out to share your thoughts!

Written by
Barbara Whelehan
Contributing writer
Barbara Whelehan is a contributing writer for Bankrate. Barbara writes about a range of subjects, including homebuying, real estate, retirement, taxes and banking.