07 Aug What is a Roth Conversion?
What is a Roth Conversion?
A Roth conversion is the process when you convert your Traditional IRA to a Roth IRA. You generally will have to pay ordinary Income taxes on the amount that is being converted into a Roth IRA but doing so will allow you to take tax-free withdrawals in retirement.
Why do a Roth conversion?
If your income is too high, above $135,000 for a single taxpayer or above $199,000 for a married filing jointly taxpayer (2018 figures), you are not allowed to contribute to a Roth IRA directly. Therefore, the only way to access a Roth IRA, and its tax-free withdrawal benefits in retirement, is to contribute to a Traditional IRA and then do a Roth Conversion, also known as creating a “backdoor Roth”.
There are no income limits for a Roth conversion, and no limit to the amount you can convert in a single year. However, there are particular strategies to limiting how much you convert per year or doing the conversion in a year when your income is lower since completion of the Roth Conversion will trigger ordinary income taxes.
Examples of life events that could trigger a lower income for the year & thus an opportunity to convert traditional IRA dollars to a Roth at a lower ordinary income tax rate:
- Switching Jobs and you experience a period of unemployment during the year
- Going to graduate school
- Quitting job to travel or start a new business
Roth conversions also suit employees who are covered under their employer’s retirement plan who may not be able to make deductible IRA contributions, because of IRS rules. These individuals are able to make a nondeductible contribution to a Traditional IRA and then convert that to a Roth. In this circumstance, the tax effects would likely be smaller due to the fact that you are depositing after-tax dollars to the Traditional IRA. Thus, you would only owe taxes on the earnings when you convert. If you do the conversion soon after you make the nondeductible contributions, your tax bill will be minimal. Please note that your ability to convert nondeductible contributions also depends on the amount of other deductible IRA funds you have. If you have other IRA funds that were deducted in previous years, then the portion that you convert to the Roth has to be prorated over the total amount you have in all of your IRAs.
For example: If you have $45,000 in Traditional IRAs for which you’ve received a deduction, and want to deposit $5,000 into a non-deductible IRA and convert it to a Roth, you would divide $5,000 by $50,000 (total amount of IRA contributions) to get the amount you can convert tax-free (10%). In this example, you would be allowed to convert $500 (10% of your $5,000 nondeductible contribution) tax-free and you would owe taxes on the remaining $4,500 of your conversion.
How to do a Roth Conversion at MyRoboAdviser™
Completing a Roth conversion at MyRoboAdviser™ is simple. Log into your account and click your name in the top right of the screen, then select “Settings” from the dropdown menu. Click on “Accounts” from the menu items listed. To the far right of your Traditional IRA account, click the ellipsis button (…) and select “Convert IRA to Roth” and follow the prompts.
Please note that you will not see this option until your Traditional IRA has been funded. You will be guided through the steps of the process. You will decide exactly how much you would like to convert during the process.
If you do not have a Roth IRA account, this process will create one for you automatically.
Other Important Information:
- If you are doing a Roth conversion for 2018, the IRS requires the conversion to be completed by December 31, 2018. Please review Betterment’s (MyRoboAdviser’s Technology partner) Tax Calendar for more specific tax-related deadlines.
- Neither MyRoboAdviser nor Betterment will withhold taxes due from your conversion
- You will receive a 1099-R tax form from Betterment if you complete a Roth conversion
Please note: If you live in Michigan, there are special requirements that need to be complied with for your Roth conversion.
If you have any questions about holdings in your account or one of our models, or perhaps have another question about our services, you can contact us directly at 920.785.6012 or email us at firstname.lastname@example.org. My Robo Adviser™ has partnered with Betterment for Advisors as our technology solution to provide our services to our clients. Betterment maintains a support line you can also call for help with navigation, linking your accounts or other site functionality. You can call the Betterment for Advisors support line at 800.400.1571.
Last updated, August 7, 2018
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