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Using Roth Conversions Between Retirement and Age 73 to Reduce Future RMDs

May 21, 2024

Using Roth Conversions Between Retirement and Age 73 to Reduce Future RMDs

By Compass Capital Management


A Roth conversion is a financial maneuver where you convert funds from a traditional Individual Retirement Account (IRA) or 401(k) into a Roth IRA. This process involves paying taxes on the converted amount, as traditional IRA/401(k) contributions are typically made with pre-tax dollars, while Roth IRA contributions are made with after-tax dollars. Here’s why someone might consider doing a Roth conversion after retirement and before reaching the age of 73 when Required Minimum Distributions (RMDs) start:

Tax-Free Growth and Withdrawals

Roth IRAs offer tax-free growth and tax-free withdrawals in retirement. By converting to a Roth IRA, you pay taxes now but avoid future taxes on the growth of these investments.

No RMDs for Roth IRAs

Roth IRAs are not subject to RMDs during the owner's lifetime. This is a significant advantage, as RMDs force you to withdraw specific amounts from traditional IRAs/401(k)s annually, starting at age 73, potentially leading to higher taxable income in those years.

Lower Lifetime Tax Burden

If you expect your tax rate in retirement to be higher than your current tax rate, converting to a Roth IRA could lower your overall tax burden. By paying taxes at a lower rate now, you avoid paying taxes at a potentially higher rate in the future.

Estate Planning Benefits

Roth IRAs can be an effective estate planning tool. Heirs inherit Roth IRAs tax-free, whereas they would owe taxes on inherited traditional IRAs or 401(k)s. If your heirs are in a higher marginal tax bracket, an inherited Roth IRA would be better than an inherited traditional IRA.

Flexibility in Retirement Income Planning

Having funds in a Roth IRA provides more flexibility in managing retirement income and taxes, as you can choose when and how much to withdraw without tax implications.

Market Timing

If your retirement accounts have declined due to a market downturn, a Roth conversion might mean paying taxes on a lower amount than you would have during a market high. Plus, the recovery of the assets will be tax-free in a Roth IRA.

It’s important to note that Roth conversions are not suitable for everyone. The decision should be based on individual circumstances, including current and expected future tax rates, retirement income needs, and estate planning goals.

For instance, recognizing significant income in a single year can put you in a higher marginal tax bracket and IRMAA bracket for Medicare premiums. At Compass Capital Management, we plan for those taxes and IRMAA brackets by forecasting to optimize the annual amount to convert each year.

Consulting with a financial advisor or tax professional is highly recommended to ensure that a Roth conversion aligns with your retirement strategy and tax planning.

Compass Capital Management is here to guide you through this process, providing personalized advice tailored to your financial goals.  Please feel free to give us a call and schedule an appointment.