7 Reasons to NOT Convert to a Roth IRA
As we discussed on a recent podcast, converting money from a traditional IRA into a Roth IRA could be a beneficial move this year due to ongoing market volatility.
But that's not an automatic decision. Everyone's retirement plan and goals are different. Everyone's situation in life is different. And while a well-timed Roth conversion can help folks save money now and build wealth in the future, you shouldn't be thinking about a conversion as a lifesaver that's going to support you through some turbulence all by itself.
In fact, here are several scenarios where a Roth conversion could hurt your retirement plan more than it helps.
1. You're currently in a high tax bracket.
The first thing my team at Keen Wealth considers when analyzing a potential Roth conversion is a person's total tax situation.
The money that you convert from a traditional IRA is considered taxable income by the IRS. That means a conversion will count towards your total tax liability for that year. If you're already a high earner, it's possible that a Roth conversion will bump you into a higher tax bracket. That could offset or lessen the benefits of making tax-free withdrawals from your Roth at a later date. A conversion may still make sense in cases such as large looming required minimum distributions, or if there is reason to believe your tax filing status will be moving from married to single in the future.
2. You might struggle to pay this year's taxes.
Of course, if you're bumped into a higher tax bracket, that doesn't just affect the long-term cost-benefit analysis of the money you convert. It also raises the tax bill you'll be facing next April. Will you have to use money from your regular withdrawal plan that you'd earmarked for monthly bills, travel, or a home repair? Are you going to have to make early withdrawals from a traditional IRA before age 59 1/2, which will trigger additional penalties?
3. You expect to earn less later in retirement.
There are situations where we can help a retiree anticipate a decline in their long-term earnings. For example, if a retiree is currently working part time, or if they're planning to sell assets like real estate or their company in the next couple years, their earnings will lower once those income streams taper off. If we project less income and lower taxes later in retirement, then that senior might be better off making withdrawals from a traditional IRA at a lower tax rate at a future date.
4. Your retirement horizon is short.
The real value of a Roth IRA comes from years and years of tax-free growth. The closer you get to the end of your life, the less time you have to take advantage of a Roth.
So, if you're about to retire, an older, still-working senior who's not planning on decades of retirement, or facing a terminal diagnosis, you might be better off leaving your money where it is. Work with your advisor on a withdrawal plan that will meet your needs without disrupting your current tax situation.
5. Your Medicare premiums will go up.
Because a Roth conversion counts as taxable income, it also counts towards the adjusted gross income (AGI) calculation that determines the cost of your monthly Medicare premiums. If your income exceeds certain thresholds, you could be subject to an Income-Related Monthly Adjustment Amount (IRMAA) surcharge, which could drive up the cost of your Medicare premiums for up to two years.
6. You're planning to retire to a state with no state income tax.
Residents of Alaska, Florida, Nevada, New Hampshire, South Dakota, Tennessee, Texas, Washington, and Wyoming do not pay state income tax. If any of those places are potential retirement destinations, then it might not make sense to do a Roth conversion now and trigger state taxes where you currently live. Make sure you tell your advisor about your moving goal so that they can do a comprehensive analysis of your current and projected state and federal tax liability.
7. You'll lose valuable tax credits or deductions.
Working adults and younger seniors who are eligible for the Child Tax Credit or educational subsidies might lose those credits if a Roth conversion bumps them into a higher tax bracket. Early retirees who aren't yet eligible for Medicare also need to analyze if being in a higher tax bracket will reduce or eliminate their health care subsidies and drive up the cost of insurance they're buying from their state's marketplace.
One word that's come up frequently in this discussion is "taxes," through various stages of retirement. Weighing a Roth conversion is a perfect example of how making one decision today can cause a chain reaction throughout a financial plan. If you don't have a plan, those consequences might lack the intention and care a professional advisor uses to maximize your wealth and build your confidence throughout retirement.
Come visit Keen Wealth and let's talk about Roth conversions and other strategies that could help strengthen the connection between your money and your retirement goals.
About Bill
Bill Keen is a financial advisor with over 30 years of industry experience. As the founder and CEO of Keen Wealth Advisors, a registered investment advisory firm, he focuses on providing personalized retirement planning designed to help people thrive before and during their retirement years. With a passion for educating others, Bill regularly blogs about retirement planning, hosts the podcast Keen on Retirement, and has contributed to Forbes, U.S. News and World Report, Reuters, Wall Street Journal’s Market Watch, Yahoo Finance, and other publications. Based in Overland Park, Kansas, Bill and his team work with clients throughout the greater Kansas City area and across the nation. To learn more, connect with him on LinkedIn or visit www.keenwealthadvisors.com.
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