The Ultimate Roth IRA Conversion Guide – Everything You Need to Know

Joseph Meyer
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When Would You Want to Convert to a Roth IRA?

When you convert a Traditional IRA to a Roth IRA, you pay income tax on the amount converted.

But in exchange, future growth and withdrawals will be tax free. So the decision to convert to a Roth IRA is driven by your tax bracket today and your expected tax rate in retirement. If tax rates in retirement are higher, then conversion may make sense.

Today, Congress and most states allow taxpayers to file a joint return even if they don’t live in the same state or if one spouse has relocated to another state during the year. As a result, couples living in different states can’t readily combine their contributions to a traditional IRA and then both convert those funds to a Roth IRA in a single year, as they could if filing a joint tax return …”nevermind the fact that they’re precluded from doing so by the income limitations applicable to Roth IRA conversions. Furthermore, even within the same state, the conversion income amount is based on the state and local taxes paid by the converting spouse, which may not be the same as the total state and local taxes paid by both spouses.

When Would You Not Want to Convert?

If you’re already contributing the maximum allowed to a 401k and saving in it each year, you don’t need the Roth IRA. The amount you can contribute to the 401k might be lower than the amount you can contribute to a Roth IRA, depending on your income, but it’s probably a better choice for you. If you’re already over 50 and plan on retiring before you reach age 59-1/2, you won’t want to convert (you have until April of the year following to make up for the missed contribution). If you’re already over age 59-1/2 and don’t plan on making much money anymore, you still won’t want to convert. You don’t want to pay taxes on the money you’ve converted when you’re in a lower tax bracket. That will only accelerate the tax liability when you take the money out.

Conversion Rules You Need to Know

A Roth IRA conversion is a very rare opportunity for investors to take advantage of some very powerful words: tax-free money. Through Roth IRA conversions, investors can transfer money from their more flexible or tax-advantaged retirement plans into their Roth IRA. The money converted will be combined with any pretax money currently in the account. Once in the Roth, the money can grow tax-free for future retirement.

The tax-free opportunity presented by Roth IRA conversions is one of the many reasons why the investment is so worthwhile. The process can be pretty complicated, especially if you’ve never done a Roth IRA conversion before. In this guide, we’ll break down the process of converting your retirement account into a Roth IRA into easy-to-follow steps and explain each step to help you complete a tax-free Roth IRA conversion.

Which accounts can you convert?

You can turn your Traditional IRA into a Roth IRA by directing your current financial institution to convert it. The conversion is initiated and performed by the institution at which your Traditional IRA is kept. The advantage of these indirect conversions is that you don’t need to pay any taxes on the conversion now. But you will have to pay tax when you withdraw the funds from your Roth IRA.

On the other hand, you can take a withdrawal from your Traditional IRA and then create a Roth IRA with that money. This direct conversion is suggested only if you have a very low tax bracket for the year that you intend to convert. You will have to pay taxes on the conversion this year, but it’s likely to be negligible compared to the taxes you will have to pay for your regular income.

If you don’t have a Traditional IRA (for example, you already have a Roth IRA), you need to open a new IRA before you can convert it to a Roth.

60-day Rollover Rule

Any money converted from a Traditional IRA to a Roth IRA is a distribution. To avoid paying taxes on the distribution (conversion), you must book your 60-days.

If you fail to book at least 60 days, you’ll be subject to both income taxes and the 10% early distribution tax.

If you move your money within the same institution within 60 days, you don’t have to book the 60-day mark. You can put it in a money market fund or in a new or existing IRA account without booking the 60 days.

However, if you don’t move your money within 60 days, you’ll need to book the 60-day notice somewhere so you can then move your funds. Some institutions have online tools that allow you to book the 60-days with one click, but most require that you speak to a representative or print an offline form and send it out.

Note that your 60 days are measured from the day of the conversion, not the day of the distribution. So if you converted your Traditional IRA to a Roth IRA on July 5th, and you display your check by the end of July, your 60 days began on July 6th, not July 8th.

Trustee-to-Trustee Transfer Rule

IRA trustees have a fiduciary responsibility to protect the interests of the plan participant. And this requires that trustees work independently, prohibiting communication between the trustee and interested parties. This includes beneficiaries, IRA owners, IRA custodians, financial firms, and banks from reducing the value of your IRA during a trustee-to-trustee transfer.

But the rule has an exception to account for trustee-to-trustee transfers. And this rule allows parties to the transfer to provide necessary information to complete the transaction. As long as your IRA custodian is independent from the account and the transaction, you can rely on the trustee to trustee transfer for a smooth and successful completion.

The trustee-to-trustee transfer rules have been waived for several types of transfers. They include the following:

Movement from one IRA account to a new one.

Transfer of assets to a life insurance contract.

Rollover of funds from one qualified plan to a new qualified plan.

Owner beneficiary to beneficiary transfer.

When transferring IRA funds to a new IRA account, remember to notify your plan administrator. You will receive a receipt of the transfer from your plan administrator after the funds have been wire transferred.

Same Trustee Transfer

Many of the self-directed IRA administration firms provide several different types of investment options for the Solo 401k. You may be able to invest with gold funds, real estate funds, bonds, stocks, and/or privately traded assets. But with each investment option, you need to consult with a fiduciary when making your investment choices.

The Ultimate Roth IRA Conversion Guide – Everything You Need to Know before You Convert

It’s tax season and a great time to take a look at your retirement accounts. If you’re a high earner, you may want to convert your traditional IRA into a Roth IRA. Roth IRAs offer many benefits, including tax-free growth. But the conversion will affect your tax returns.

Additional Details to Be Aware Of

You Need to Pay Tax on What You Convert.

The converted amount does have to be declared on your tax return for the year in which you convert the money, even if you do so on an IRA penalty-free basis. It is taxable income, and any gain you realize will be subject to capital gains tax.

What is the Backdoor Roth IRA and How Does It Work?

A Roth IRA is a type of Individual Retirement Account. It is an example of tax advantaged retirement savings account that was created under the Taxpayer Relief Act of 1997. One of the most attractive aspects of these accounts is that you pay taxes on contributions only when you withdraw income from the account.

Because of the unique tax benefits associated with a Roth IRA, some taxpayers are allowed to convert their current IRA to a Roth IRA. A conversion allows you to move money from a pre-tax, traditional IRA to a Roth IRA. To do the conversion, you must pay tax on the converted amount at the time of conversion.

It’s important to note that you can only convert an IRA if you have not already reached age 59½. The move also complicates things a bit since it means two IRAs to deal with. But when tax rates are lower, converting to Roth can be an excellent idea.

Here are three common situations in which taxpayers can take advantage of the Roth conversion.

Retirement. If you’re getting close to retirement, you may want to open a new IRA and convert some or all of your existing account to a Roth.

Payday. Are there a few years until retirement? A Roth conversion may still be a good option. Depending on your current income level, you could pay a lower amount of tax during retirement when tax rates are lower.

Steps to Convert an IRA to a Roth IRA

A Roth IRA is a tax-free retirement account designed to help future generations set aside money. Unlike a regular IRA, you don’t get a tax deduction for your contributions, but qualified distributions are tax-free.

Because of its tax advantages, a Roth IRA conversion is a smart idea for many households with tax-bracket creep. After all, if you can save on taxes now, then why not? However, there are some important things to consider before making this type of move because there are various rules taxes that you need to follow.

If you do plan on starting a Roth IRA conversion, you need to know all the rules for finalizing the conversion. Luckily, here’s a detailed guide on Roth IRA conversions that will help you along the way.

Open a Roth IRA

If you’re not opening a Roth IRA in 2015, you’re missing out on an essential retirement planning tool. After all, the earlier you start saving for retirement, the easier it is to become financially independent.

But before diving in, you should know that a Roth IRA comes with some important rules. By staying on top of them, you can get some really nice tax benefits and help ensure that your money keeps on growing.

First, you’ll want to go to your bank or broker and open a Roth IRA. If you’re already taking part in a company retirement plan, a Roth IRA works well on the side since you’re not allowed to contribute beyond the limits of your employer retirement plan. That’s because you have to take a RMD (required minimum distribution) when you turn 70½, just like you do with a traditional IRA.

Transfer Existing IRA Assets to the Roth IRA

Pay Income Taxes On the Conversion

(or Not)

There’s an important point that’s often overlooked when it comes to Roth IRA conversions. Unlike a standard IRA contribution, a Roth IRA conversion is considered income and is subject to taxation. The same tax treatment applies whether you take your Roth IRA distribution as a traditional IRA distribution or a Roth IRA distribution.

The one important exception to this rule is if you are a non-working spouse and the working spouse has converted the couple’s joint retirement account (i.e. both IRA’s) to a Roth IRA.

Generally speaking, it’s okay to proceed with a Roth conversion, even if the taxes end up costing more than the converted amount itself. There’s no law against that, although I don’t recommend it unless you have significant tax deductions in previous years.

The beauty of the Roth IRA is that you pay the income taxes on the conversion TODAY, while the tax bills can be deferred until you take distributions down the road. So the income taxes you pay today will likely be less than any additional taxes you’ll pay on distributions you take in the future.

Roth IRA Conversion Examples

One of the most painful experiences when dealing with taxes is paying ordinary income tax on ordinary income in a traditional IRA and then paying a 10% penalty on the same amount of money when you do a Roth conversion as newly converted Roth IRA funds are considered a distribution until you’ve held the account for 5 years.

To make things worse, if you already have a sizable Traditional IRA and your income is either high enough to preclude a Roth IRA contribution in the year of conversion or too high to benefit from the tax savings of a Roth IRA contribution, then making a Roth conversion is a bad move.

Once you do a Roth conversion, the money you converted cannot be recharacterized or converted back to a traditional IRA. You will then be locked in and the only way to get the money out of a Roth IRA is to take distributions from it after you’ve held it for 5 years that can be subject to ordinary income tax.

On the other hand, if your income is high enough to be in the higher tax brackets and your income is high enough so that it’s unlikely you’ll have to pay the 10% penalty for doing a Roth conversion, but you don’t make enough money to benefit from deductions from a regular contribution, then a Roth conversion is a great way to get money into your IRA.


This Ultimate Roth IRA Conversion Guide offers all of the information you need on Roth IRA conversion. It provides easy to understand definitions and general fundamental knowledge for those looking to start investing.

About the Author

  • 20% less taxes: your contributions now are tax exempt and grow tax-free.
  • Investment choice: the Roth allows you to pick your own investment vehicles, such as stocks, bonds, options, mutual funds, and CDs (a Traditional IRA restricts investment choice).
  • Max out taxes: Your contribution limit is uncapped, so you can stash away as much as you can.

> How to Have a Roth IRA

  • You must be under the age of 70.5 when adding money to your IRA account.
  • You must be actively saving to get your free money …
  • Max out your 401(k).

Max out your IRA.

Fund a small business.

Fund a Health Savings Account.

Put money into a 529 college-savings plan.

> Choose the Right Kind of IRA for You

  • Traditional
  • Roth
  • 401K
  • Self-Directed IRA
  • Rollover IRA
  • Non-deductible IRA
  • Convertible IRA

> How to Get the Most out of Your Roth IRA

  • Make sure you pay the contribution for the year, in time.
  • Double check you are allowed to contribute.

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Contributing to your Roth IRA has always been of interest to you, but 6 months ago you started a new job. Luckily for you, you have a 401(k) plan at work and you’ve been religiously contributing to it every year.

After almost 6 months on this job, you’ve learned that the company’s 401(k) plan does allow you to deposit pre-tax money. So, you start researching the Roth conversion rules, the 401(k) rules and the various options open to help you maximize your retirement savings.

As it turns out, the 401(k) plan’s terms don’t allow you to directly deposit money into your Roth IRA, but you can make use of your company’s 401(k) plan as a holding area for an eventual Roth conversion.

And, would you believe it – there are a plethora of options for a successful conversion.

Let’s do a quick re-cap of what you’ve learned so far:

You can move pre-tax money from your 401(k) plan into your Roth IRA after you have held your job for more than a year.

There are four options for a Roth conversion: