Roth Conversion – A Tax-Smart Retirement Strategy

Financial Planning

If you’re approaching retirement, conventional wisdom recommends allowing your 401(k) savings to grow as long as possible to enjoy the benefits of compound growth at a tax-free rate.

While that’s still sound advice in some scenarios, the tax implications if you have significant retirement plan assets may have you rethinking your strategy.

The Impact of Required Minimum Distributions (RMDs)

Under current legislation, once you hit 72 years of age you’ll be required to take distributions from your traditional retirement accounts. If you have a substantial amount in a 401(k), the downside is required minimum distributions (RMDs) can push you into a higher tax bracket — minimizing net income.

To combat that, many tax-savvy advisors recommend taking advantage of a potentially lower tax bracket after retirement, but before RMDs hit, to convert traditional Roth or 401(k) funds to a Roth IRA. Taxes on those funds are due upon conversion but could lead to greater savings in the long run.

Roth Conversions in a Down Market

Another approach favored by tax-focused financial advisors is timing a Roth conversion to a down market. Although no one likes a downturn, periodic decreases in a portfolio are to be expected and can be leveraged.

When a portfolio has taken a dip, the amount owed in taxes will be lower so the immediate tax cost of the conversion will be less. Investors benefit from tax savings while avoiding higher long-term taxes from a traditional IRA, assuming the market downturn was temporary.

The Importance of Tax Expertise

Because each person’s financial situation is different, what works for one investor may not work for you. It all depends on your income needs, tax bracket, cash on hand and other investments.

Sound a bit complex? It certainly can be. That’s why getting advice from a Financial Professional focused on minimizing tax liability is a wise investment. Tax-smart advisors provide tax knowledge and technology to develop and implement financial planning strategies designed to provide the most net income for their clients.

If you need professional advice, talk to your tax professional. They can introduce you to a tax-smart advisor who can help you achieve your financial goals both now and in retirement.