Legislative passages in 2020, including the SECURE Act, which made changes to beneficiary distributions, and the CARES Act, which included a waiver of required minimum distributions (RMDs), helped to expand the playing field for savers. These two factors, combined with the lowest tax rates in recent history, make for a potentially optimal time for Roth conversions, and many Americans have jumped on board. Is it the right move for you?

The Difference Between Traditional and Roth IRAs

  • Traditional IRA or 401(K): enjoy a tax deduction upon contribution but pay taxes upon withdrawal
  • Roth: no tax-deduction upon contribution but enjoy tax-free growth and no additional taxes upon withdrawal

The decision comes down to whether to pay taxes now or later. If only a crystal ball existed in which future tax rates could be known.

What Is a Roth Conversion?

A Roth IRA conversion is when an investor transfers money directly from a traditional IRA or 401(k) to a post-tax account such as a Roth IRA. The move is considered a distribution, and thus is taxed in that year. Due to today’s historically low tax environment, Roth conversions are having their moment in the sun.

Advantages of Converting to a Roth IRA

An essential benefit of converting to a Roth IRA is the potential for lower taxes in the future. While it’s obviously not possible to predict future tax rates, you can likely estimate if you’ll be earning more money, and thus, land in a higher tax bracket. If such is the case, odds are typically in your favor to pay less taxes in the long run than you most likely would with the same amount of money in a traditional IRA. Additionally, contribution withdrawals are tax-free (withdrawals from earnings are not tax-free). However, avoid using a Roth IRA like a bank account as any withdrawn funds today, however small, can impact your future savings.

Transferring to a Roth also means you won’t be required to take minimum distributions (RMDs) once you reach age 72. If you’re able to keep the funds in the account, you can watch it grow tax-free, and you would have the option to pass the money to your heirs.

Disadvantages of Converting to a Roth IRA

The biggest deterrent for a Roth IRA is the potentially immense tax bill. If, for example, an investor has $100,000 of pre-tax dollars in a traditional IRA and falls within the 24% tax bracket, the investor would owe $24,000 in taxes, due upon their next quarterly tax bill. Additionally, if the investor is under age 59 ½ and uses the IRA funds to pay the tax bill, they’ll also pay a 10% early withdrawal penalty on that distribution. In other words, be sure you have the liquid assets to cover the tax bill as a result of the conversion.

To Convert or Not to Convert?

If your taxes rise due to government increases, or you begin earning more money and land in a higher tax bracket, a Roth IRA conversion could save you substantial money in taxes in the long run. However, there’s a potential for a hefty tax bill that can be complicated to calculate, especially if you have other IRAs funded with pre-tax dollars, so if you think it might be a good move, it’s best to consult with a tax advisor on your specific circumstances.


Daniel Kittell, CPA - Accountant Indianapolis