Making Life Less Taxing with David Featherston, CPA:
Year-End Deadline for Roth IRA Conversion… Read All About It!
This is the time of year to contemplate funding an IRA for 2013. You have until April 15, 2014 to fund an IRA, but you may wonder which type of IRA – Roth or Traditional – is the better choice. One of the major factors for deciding between a Roth and traditional IRA is your eligibility to deduct traditional IRA contributions and in turn get a tax break for the year you make the contribution. Your eligibility to deduct traditional IRA contributions, however, depends on whether you meet certain requirements (see www.irs.gov for more information).
Contributions to Roth IRAs are never deductible. However, the key advantage of a Roth IRA is that the growth of this account will be tax-free and all distributions will be tax-free in the future, if you meet certain restrictions such as minimum age (59 ½ in year of distribution, etc.) to request a distribution. In other words, rather than granting a tax break for money placed into the plan, the tax break is granted on the money withdrawn from the plan during retirement.
The contribution limits for the Roth and traditional IRAs are the same. For tax years 2013 and 2014, you can contribute up to $5,500 to your IRA, plus an additional $1,000 catch-up contribution if you reached age 50 or older by the end of the tax year. Again, deadline for this IRA contribution is April 15th.
However, there is a deadline of 12/31/2013 to CONVERT a traditional IRA to a Roth IRA. If you have questions about whether you should convert some of your traditional IRA to a Roth, here are 7 reasons to consider doing so:
1. Your Federal Rate May be Higher in the Future
If you expect, between future Federal tax increases and your individual earnings levels, you’ll be taxed at a much higher Federal tax rate in the future, consider converting a traditional IRA to a Roth IRA, which is a great hedge against those higher rates. You may want to convert only a portion each year to bring you up to an income level that does not increase your effective tax rate (an individual’s effective tax rate is calculated by dividing total Federal tax due by your taxable income.)
If you now live in a state without an income tax such as Florida, Texas or Nevada and expect to move to a high tax state such as Oregon, California, Hawaii or New York before or in retirement, consider converting now.
3. You May Not Need Your IRA at 70 1/2
After you turn 70 1/2, you must begin taking annual “required minimum distributions” from a regular IRA, but not from a Roth. If you don’t need those distributions early in your retirement, a Roth will let you preserve your IRA, growing tax free, for when you really need it.
If you don’t anticipate needing any of your IRA money to live on in retirement, you can turn it into a tax-free pot for children or grandchildren. You can leave the Roth IRA alone and after your death, your named beneficiaries / heirs can stretch out tax-free withdrawals over their own lifespans, buying decades of extra tax-free growth.
5. You Have Special Tax Items that Reduce Your Net Taxable Income
If you have net operating loss carry-forwards, charitable deduction carry-forwards, a more-than-usual amount of itemized deductions this year, or some other situation that can offset or reduce taxable income, it’s a good time to consider a Roth conversion.
Federal tax brackets are more favorable for married couples filing joint returns than for single individuals. If you’ve just been widowed, you may want to convert this year to take advantage of lower joint rates available to you now. In future years, as a single, you can take the money out tax free, assuming you meet the requirements for a tax-free withdrawal (over 59 ½, 5 year waiting period, etc.).
7. Your Social Security Might Be Taxed
Up to 85% of your Social Security retirement check is taxable, but only if your other income is above a certain level. Roth distributions aren’t counted as income for the purposes of that calculation, even though tax-free municipal bond income is. If you will have modest retirement income, a Roth conversion may help you limit the tax on your Social Security check.
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