There’s a reason Roth IRAs are popular retirement savings tools. With a Roth IRA, you don’t get a tax deduction on your contributions. But gains on that account are tax-free, as are withdrawals.
Also, Roth IRAs don’t force you to take required minimum distributions (RMDs) in retirement. This gives you more flexibility with your money.
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The problem with Roth IRAs is that high earners are barred from making direct contributions. And even if that’s not the case, saving in a Roth might not make sense if you’re a high earner in a high tax bracket.
If you’re nearing the end of your career with most or all of your nest egg in a traditional retirement account, you may be concerned about the taxes you’ll pay on that money once you start taking withdrawals. You may also be concerned that RMDs will mess with your plans.
The good news is that it’s never too late to benefit from a Roth IRA. A Roth conversion allows you to move funds from a traditional retirement account to a Roth IRA. But if you’re going to do that, it’s important to be strategic so you don’t face a big financial hit in the near term.
When converting funds to a Roth IRA, the amount you transfer to that account is treated as taxable income for that year. This means that if you do a large conversion at once, you risk a much larger bill from the IRS.
But that is not the only danger. You may not realize it, but a Roth conversion can affect other areas of your financial life.
For one thing, if you’re on Medicare or plan to enroll soon, doing a big Roth conversion all at once can push your income enough that you’re subject to the Income-Related Monthly Adjustment Amount, or IRMAA, after two years. IRMAAs are surcharges that can apply to both Medicare Part B and D premiums. And in some cases, they can add hundreds of dollars a month to Medicare costs.
Another overlooked consequence of making a large Roth conversion is the tax on Social Security. Let’s say you are retiring this year and plan to claim benefits immediately. If you do a giant Roth conversion, you may have too much income to pay taxes on your Social Security. And you don’t even qualify for the new $6,000 senior tax deduction.
