The idea of completing an IRA rollover to Roth IRA takes a lot of thought because the tax due. Are the benefits worth it?.One scenario when a conversion makes sense is the when you're leaving it all to a young beneficiary. Let's see why.
First, remember the attributes of traditional IRAs. Any IRA distribution from them are taxed as everyday income since they were funded with deductible contributions and enjoy tax-deferred growth. Traditional IRAs also have IRA minimum distribution requirements starting at age 70 1/2. As such, many people have interest in an IRA rollover to Roth IRA for the benefits delineated below.
A Roth IRA is never taxed. It will grow tax-free (not tax deferred). And any withdrawals are tax-free - always. Lastly, there isn't any required minimum distribution requirements to deplete the account.
An IRA rollover to Roth IRA can be a tax neutral conversion assuming that the tax due on the conversion is the same as it would be on the distributions required of a traditional IRA. However, because the conversion can push you into a higher tax bracket, it may make sense to do partial conversion, a little per year over a few years. That way, the amount added to your income will be smaller and will keep your IRA tax bracket minimized. It is important that you do some figuring, possibly with the help of an accountant, that your conversion tax wont cost you more than leaving your traditional IRA as-is.
You may also want to consider the benefits not only to you but also a beneficiary, particularly if you don't need most of your IRA money through retirement and want to leave it to a a young beneficiary.
Since a Roth has no required minimum distributions (RMDs), it's a tax shelter that won't deplete as you get old. Second, beneficiaries of traditional or Roth IRAs do have RMDs commencing when they receive your IRA. But Roth RMDs are tax-free to the beneficiary also.
Because the amount of RMD is based on age, a young beneficiary may have very low annual RMDs - only one or two percent of the account value - for many years. Withdrawing just the RMD will allow his IRA to grow considerably. Since the beneficiary is most likely working, the tax free benefit of the distributions is significant as when a traditional IRA is inherited, the distribution is added on top of earned income and possibly taxed at a high rate.Not so with his Roth IRA RMDs. Much more income from the Roth will go to the named beneficiary over his life in comparison to the case of a traditional IRA. Therefore, an IRA rollover to Roth IRA could result in tens of thousands additional dollars for a young beneficiary.
Roth IRA rollover to IRA has great advantages. Before you do anything check out all of the advantages of an IRA rollover to Roth IRA and also the tax aspects.
Lose a Fortune on Your 401k Rollover
If you do not do any of these correctly:
- Opt for a distribution rather than direct transfer
- Rollover company stock to an IRA
- Choose to rollover to a Roth IRA
- Rollover to your new employer’s 401k
- Rollover post-tax contributions