Convert Traditional IRA to Roth

Converting a traditional IRA account to a Roth IRA account can sometimes prove financially advantageous for individuals planning for retirement. In order to convert traditional IRA to Roth IRA accounts profitably, it is necessary to understand the differences between the two types of retirement accounts. Contributions to traditional IRAs are tax-deferred until distribution; at that time, both contributions and earnings are taxed at the participant’s current applicable tax rate. Roth IRA contributions, however, are taxed at the time of contribution. However, neither the earnings nor the funds distributed at retirement are taxable under the provisions of the Roth plan structure. Prior to 2010, a number of income restrictions applied to the conversion from traditional IRA to Roth IRA funds; however, these restrictions have been lifted for 2010 and future years.


Traditional vs. Roth IRAs


The differences between traditional IRAs and Roth IRAs can have a significant impact on the amount available for account holders at retirement. Because no taxes have been paid on contributions to traditional IRAs, in order to convert traditional IRA to Roth IRA accounts it is necessary to first pay the taxes due. Traditional IRA conversion can be accomplished in a number of ways. The account holder can pay the taxes outright, transferring the entire sum available in the traditional IRA to a Roth IRA account. Alternatively, a portion of the existing traditional IRA can be used to pay the applicable taxes; this is usually not advisable unless the participant has many years to regain the principal and earnings lost in this transaction. If the traditional IRA conversion is completed within sixty days, no additional penalties will apply to the rollover; however, any funds retained to cover the taxes may be subject to both normal taxation and the 10% early withdrawal penalty.

Converting a traditional IRA to Roth IRA


Individuals who wish to convert a traditional IRA to a Roth IRA can do so by moving a portion or all of the funds in the traditional IRA to the new account. The traditional IRA conversion must be completed within sixty days to avoid the 10% penalty for early withdrawal. During the conversion, any funds that were contributed to the traditional IRA during the current tax year may be withdrawn without incurring this penalty; in some cases, this may serve as a source of funds for paying off the taxes due from converting a traditional IRA to Roth IRA account.

Making the decision


Before deciding to convert a traditional IRA to a Roth IRA, individuals should consider the financial consequences of this conversion. A number of IRA converters are available online to allow individuals to calculate the potential financial gains or losses and the difference in the distribution amounts available at retirement. For many investors, converting from a traditional IRA to Roth IRA can be a financially prudent move in planning a secure retirement.
Tim Ord
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