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Should I convert to a Roth IRA?

Should I convert to a Roth?

Use the calculator at Roth Conversion Calculator to help you with your conversion:
Roth IRA Conversion with Distributions

The YOUNG Roth Conversion: 30 or so years to retirement, not a huge balance to convert
The MID-LIFE Roth Conversion: 10 to 20 years to retirement, larger balance to convert
The RETIRED Roth Conversion: Near or at retirement, possibly very large balance to convert
The BIG Roth Conversion: At any age, a conversion with a tax bill of $100,000 and up

For the most part the decision boils down to how much you will pay in taxes and when. If you expect your income tax rate to increase convert to a Roth. If you expect your income tax rate to decrease, stick to a traditional IRA or retirement plan.

Unfortunately, that might be too simple. What if your expected tax rate will be the same? What if you are already retired and are subject to Required Minimum Distributions (RMD), which is money you don't need? What if you are forty years from retirement and have no idea what your tax rate will be when you retire? What if your conversion bumps you into higher tax rates?

There is simply no way to answer some of these questions definitively. The best you can do is guess. Actually, what can and should do is to guess over and over -- create as many scenarios and their potential results as possible, so you can have a better picture of what might happen. You simply can't tell what will happen, but if you have a handle on the range of possibilities that could happen to you and your portfolio, you will be much better prepared to answer this question: Should I Convert to a Roth?

The perfect Roth Conversion Scenario

What is the perfect Roth Conversion scenario? Take this example:
    My friend has a big conversion (some would say huge). He is at or near retirement, currently in the highest tax bracket (35%) and fully expects to remain at the top bracket for his entire lifetime. He also believes that rates will increase to 39.6% in 2011, if not higher. He has more than enough cash to pay any tax bill created by the conversion without using any of the account balance.

This is probably the greatest opportunity to convert. Probably the clearest example I could imagine. But there is still risk involved. How can he possibly lose with a conversion in this situation? What happen with in a scenario with a negative annual rate of return? S&P lost 0.6% annually form Dec. 1999- Dec. 2009. If you have a negative rate of return, a Roth Conversion always does worse than leaving your money unconverted. Or, what if he converts and then dies immediately so his heirs need to start taking distributions? What if tax rates actually decrease (despite his conviction)?

But should I convert to a Roth?

To be honest, the example above has an extremely high potential of working out great. The only better scenario would probably be if he was younger and had more time before his timely or untimely death. But, as you can see, even the best case scenarios are not risk free.

The spirit of this discussion is not to show you the answers (or even the calculations, we leave that to the Roth Conversion Calculator at http://www.dinkytown.net/RothConvert), but propose the questions you need to ask. You can then weigh the possible outcomes and determine if the cost of converting to Roth is worthwhile for your specific situation.

So as a guiding framework, lets discus four possible high-level situations where most people looking at a Roth Conversion will land and the questions they need to ask and answer:

Determine which group or group you belong, and do a little more investigating. Every conversion is unique - but the questions you need to ask and answer tend to fall into these fouor groups:

The YOUNG Roth Conversion: 30 or so years to retirement, not a huge balance to convert
The MID-LIFE Roth Conversion: 10 to 20 years to retirement, larger balance to convert
The RETIRED Roth Conversion: Near or at retirement, possibly very large balance to convert
The BIG Roth Conversion: At any age, a conversion with a tax bill of $100,000 and up

Use the calculator at Roth Conversion Calculator:


Roth IRA Conversion with Distributions

Other Related Calculators:

Simple Roth Conversion
Required Minimum Distributions for IRAs and Qualified Accounts
Marginal Tax Rate Calculator

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