Assuming you’re eligible to contribute a Roth IRA, your earnings grow tax free and are also tax free when you make qualified withdrawals. In addition, you are not required to take required minimum distributions (RMD) at age 70 ½. These benefits are not available to funds in any other type of IRA or retirement plan.
This fact made people beyond the age of 70 ½ want to convert traditional IRAs to Roth IRAs. Why? Roth IRAs are not subject to the required minimum distribution rules as are traditional IRAs, and withdrawals by Roth IRA owners are generally tax-free.
However, prior to 2010, not everyone was eligible to convert a traditional IRA to a Roth IRA. The $100,000 Modified Adjusted Gross Income (MAGI) restriction that prevented many from taking advantage of Roth IRA Conversions before – is going away. Essentially, all taxpayers will be able to move some or all of their traditional IRA or qualified retirement plan (QRP) assets into a Roth IRA, regardless of income.
What’s more, income resulting from a conversion in 2010 does not have to be reported until 2011 or 2012, opening the doors for anyone who wants to put money in a Roth IRA. While the income restrictions for making annual Roth IRA contributions remain the same, virtually anyone can now save through a Roth IRA and take advantage of tax-free withdrawals in retirement.
Keep in mind that upon conversion, you will owe tax at ordinary income rates on the money that is being converted. Conventional wisdom recommends postponing paying taxes as long as possible, but every rule has its exception.
Converting funds to a Roth IRA has two primary benefits. First, you can avoid future mandatory disbursements from your IRA. This keeps your money growing longer in a tax-sheltered IRA. Second, by converting funds now, you owe tax at today’s ordinary income rates. If you think the federal government is going to raise tax rates over time, or that your beneficiaries will be in a higher tax bracket, converting now makes good sense. That is because paying the tax bill at your lower rate will ultimately produce more cash for your heirs than if you left the money in a traditional IRA and they paid the tax.
Before making any changes to your current savings strategy, discuss your plans for your IRA with your attorney or tax professional.
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