Even the best-laid retirement plans can unravel when faced with unexpected tax burdens. Required Minimum Distributions (RMDs) are a prime example, forcing retirees to withdraw significant sums from their traditional IRAs—whether they need the funds or not—only to see a portion gobbled up by taxes.
Over time, these mandatory withdrawals can inflate your taxable income, push you into higher tax brackets, and even hike your Medicare premiums.
But there’s a solution: Roth conversions. By converting traditional IRA funds to a Roth IRA at the right time, you can sidestep many of these pitfalls. Roth conversions not only eliminate future RMDs but also allow your investments to grow tax-free, giving you greater control over your financial future.
If you’re asking yourself, “How can I avoid these hidden tax traps?” or “Is a Roth conversion worth the upfront cost?”, this guide will walk you through the answers.
Read on to learn how you can time and implement Roth conversions strategically to optimize your retirement savings for maximum growth and minimal tax loss. Let’s get started on ensuring your hard-earned savings work harder—and smarter—for you.
IRAs 101
For those unfamiliar with retirement accounts, let’s begin with a quick primer on IRAs. Retirement accounts such as IRAs offer significant tax advantages, both Traditional IRAs as well as Roth IRAs.
However, the mechanics of the two IRAs differ. With a Traditional IRA, contributions are tax-deductible up front. This means that you don’t pay taxes on the money when you deposit it. Withdrawals from Traditional IRAs (typically during retirement) are taxed as regular income.
In contrast, Roth IRAs require you to pay taxes on contributions now. On the other hand, qualified withdrawals in retirement are completely tax-free.
Roth Conversions Explained
The distinction between Traditional and Roth IRAs—”no tax today, tax tomorrow” versus “tax today, no tax tomorrow”—is at the heart of why many investors consider Roth IRA conversions.
A Roth conversion is the process of transferring funds from a Traditional IRA to a Roth IRA. This move essentially trades the promise of future tax deductions for the certainty of tax-free growth and withdrawals.
There’s a catch, though: the conversion amount is treated as taxable income in the year it’s executed. This makes the timing of Roth conversions critical. By converting strategically, investors can minimize their tax liability while maximizing the long-term benefits of tax-free compounding.
Read on to learn more about the strategies and scenarios that allow you to use Roth conversions as a powerful financial tool.
The When of Roth Conversions: Timing is Key
The timing of a Roth conversion can make all the difference in how much tax you pay and how effectively you leverage its benefits. Two common strategies include converting during low-income periods and taking advantage of market downturns.
Low-Income Periods
Roth conversions are most advantageous during periods characterized by low income. Such periods may occur due to any of the following reasons:
- Gap in employment
- Taking a sabbatical
- Newly retired, before RMDs begin
Why it works
Lower income means lower tax rates, allowing you to convert more funds with minimal tax liability.
Example
A married couple filing jointly, with no other income in a given year, can convert nearly $30,000 without incurring federal income tax (thanks to the standard deduction amount of $27,700). Additional conversions would be taxed at just 10% or 12%, depending on the brackets.
Example 2
A single individual earning no income during a sabbatical year can convert up to $13,850 (the standard deduction for a single filer in 2024) without incurring federal income tax. If they convert an additional $10,000, the extra amount would be taxed at just 10%, resulting in only $1,000 in taxes. This allows them to shift $23,850 into a Roth IRA at minimal tax cost, securing tax-free growth on the converted amount.
Market Downturns
Market declines present a unique opportunity to maximize the value of a Roth conversion. Reduced share prices mean lower retirement account values—and in turn, lower tax on a well-timed Roth conversion. Subsequent market recovery and climbing share prices lead to tax-free growth (see example below).
Share price example
| Scenario | Share Price | Taxable Amount (100 Shares) | Tax Owed (at 24%) | Future Value (Tax-Free) |
| Previous price | $100 | $10,000 | $2,400 | $16,000 |
| Downturn price | $80 | $8,000 | $1,920 | $16,000 |
| By converting at $80 per share instead of $100, you’re reducing your taxable amount while ensuring future gains remain tax-free. | ||||
Gradual Conversions
Roth conversions don’t have to happen all at once. Spreading the process over multiple years can help you avoid paying higher taxes by staying within your current tax bracket.
How it works
Divide your conversions into smaller amounts each year to ensure that your total income, including the conversion amount, doesn’t push you into a higher tax bracket.
Check out our helpful post on tips and tools for planning and maintaining multiple retirement accounts, including Traditional and Roth IRAs.
Example
Suppose your taxable income is $50,000, and the top of your current tax bracket is $60,000. You could convert $10,000 this year without entering the next tax bracket. Repeat this process over several years to minimize tax costs.
This approach is especially useful for individuals with large Traditional IRA balances who want to gradually reduce their future RMDs and enjoy the benefits of tax-free growth in a Roth IRA.
Roth Conversions vs. Traditional Withdrawals
Both Roth conversions and traditional IRA withdrawals have their place in a comprehensive retirement strategy. By strategically deploying both, you can balance immediate tax savings with long-term financial benefits.
The key lies in understanding your income dynamics and planning accordingly. Use the following tips to assess which financial move is the better choice for you as you navigate different income scenarios.
When to use Roth Conversions
- Ideal during low-income years or market downturns, as discussed earlier
- To reduce the size of your Traditional IRA, minimizing future RMDs and their associated tax impact.
- Example: A retiree with $500,000 in a Traditional IRA converts $20,000 annually over five years. This gradual conversion ensures they stay within a 12% tax bracket, avoiding higher taxes later when RMDs kick in.
When to use traditional withdrawals
- Suitable when your retirement income is low enough that withdrawals fall within the lowest tax brackets
- If your primary goal is to cover current living expenses while preserving other retirement accounts for growth
- Example: A retiree with a $40,000 annual income and no Roth account withdraws $15,000 from their Traditional IRA, keeping total income within the 10% tax bracket.
The How of Roth Conversions: Process, Do’s and Dont’s
Executing a Roth conversion is straightforward. The process involves three main steps:
- Deciding how much to convert
This is typically a portion of your Traditional IRA balance. The optimal conversion amount (and time) depends on your income and tax situation. It is recommended to seek professional help in estimating the tax impact of a Roth conversion.
- Notifying your financial institution to execute the conversion
Most platforms allow you to convert cash or investments “in-kind” without selling them.
- Following up on the conversion details and documentation
This may include some or all of the following:
- verifying that your Roth IRA balance reflects the latest conversion
- ensuring that the newly converted funds are invested as per your plan
- closing your Traditional IRA account
- obtaining a copy of the (digital) documentation of the conversion for tax filing
Important Precautions for Roth Conversions
Understanding and implementing the following checks and oversight will ensure that your Roth conversion strategy aligns with your financial goals. Critically, adhering to these practices will minimize the risk of unpleasant surprises during tax time.
Ensure eligibility
Direct contributions to a Roth IRA are regulated by MAGI or ‘modified adjusted gross income’ restrictions. In 2024, the annual income ceiling is $153,000 for single individuals and $228,000 for couples filing jointly.
In contrast, Roth conversions are available to everyone, regardless of income level.
However, the key eligibility factor is that you must have a balance in a Traditional IRA. This IRA could be your original retirement account, or consist of funds such as a 401(k) rolled into a Traditional IRA. Only a Traditional IRA is eligible for conversion to a Roth IRA.
Tax implications
The entire amount in a Roth conversion is treated as taxable income.Therefore, it is important to ensure that the added income from the conversion won’t create unintended consequences, such as moving you into a higher tax bracket (see example below).
Example: In 2024, if a single individual with a taxable income of $85,000 (just under the 22% tax bracket threshold of $95,375) decides to convert $15,000 from a Traditional IRA to a Roth IRA:
- the first $10,375 of the conversion remains in the 22% bracket
- tax on the first $10,375 = $2,282.50
- the remaining $4,625 pushes taxable income into the 24% bracket
- tax on the remaining $4,625 = $1,110
- total tax Impact of $15,000 Roth conversion = $3,392.50
Annual deadline
Roth conversions must be completed by December 31 of the tax year. Note that this is distinct from the April tax filing deadline.
Pro rata rule
If you have both pre-tax and after-tax contributions in your IRA accounts, conversions are taxed proportionately across all your IRA balances. Check out the example in the table to get a clear picture of what this means.
Example: The table below uses a hypothetical case to illustrate how the pro rata rule works in the case of mixed funds. The rule ensures that conversions are taxed proportionally to the tax profile of the original Traditional IRA—in this case, the account has $100,000, of which only 20%, or $20,000 has already been taxed.
| Traditional IRA Balance & Composition | Roth Conversion Details | |
| Total Amount | $100,000 (100%) | $10,000 |
| Pre-tax (thus, taxable) | $80,000 (80%) | $8,000 |
| After-tax (thus, tax-free) | $20,000 (20%) | $2,000 |
| Note: Despite the Roth conversion amount being lower than the taxed proportion of the Traditional IRA, it doesn’t escape tax, but is instead taxed in proportion to the composition of the original account. | ||
Getting smart about Roth conversion taxes
Paying taxes on a Roth conversion doesn’t have to derail your finances. Cover the conversion taxes using funds from taxable savings or investment accounts, ensuring the full converted amount stays in your Roth IRA to grow tax-free.
Minimizing Social Security and Medicare impact of Roth conversions
A Roth conversion can temporarily increase your taxable income, which might:
- Incur taxes on Social Security Benefits – Up to 85% of your Social Security income can become taxable if your income exceeds certain thresholds.
- Trigger Medicare IRMAA Surcharges – Higher taxable income can increase your Medicare premiums, since MAGI rules apply for availing Part B and D Medicare benefits.
To avoid these indirect costs, calculate how a planned conversion is likely to impact your total income. This will allow you to spread the conversion over multiple years to stay below critical thresholds.
Next Steps
Congratulations! You’ve just built a solid foundation of understanding for optimizing your retirement savings through Roth conversions. Now is the perfect time to refine your retirement strategy.
If you’re ready to take the next step, schedule a one-on-one coaching call. Our veteran personal finance and retirement planning expert Joe DiSanto will help you tailor a plan that maximizes your tax savings and future growth. Let’s ensure your retirement dreams become reality!