According to financial experts, if you are considering converting Roth, your planning and annual planning can significantly reduce your tax costs.
A popular retirement savings strategy allows higher earners to bypass income limits for Roth’s IRA contributions. While this maneuver could kick-start tax-free growth, you will have to pay fees on pre-tax deposits.
According to certified financial planner Ashton Lawrence of Goldfinch Wealth Management in Greenville, South Carolina, increasing your adjusted gross income can have other implications as well.
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For example, you may not be eligible for certain deductions, such as a child tax credit or a student loan interest deduction. Retirees may unknowingly cause higher Medicare premiums, he said.
Medicare Part B and Part D calculate monthly premiums based on your modified adjusted gross income for the previous two years, which means your income in 2022 may result in higher costs in 2024.
“This is a big issue that has been overlooked,” Lawrence said.
However, there may be opportunities to help offset upfront taxes and avoid some of these problems.
The best benefit of market volatility is the ability to pay less Roth conversion tax.
Sean Michael Pearson
Deputy Vice President Ameriprise Financial Services
“Think of the Roth transformation as a juicy steak that you can cook any way you want,” said Bart Brewer, CFP and instructor for Ken Zahn Inc., based in Santa Monica, California. “There’s a lot of room for planning here if you do your homework.”
Stock market volatility
One possibility could be to synchronize Roth’s conversion with a downturn in the stock market, similar to the recent downturn caused by the Russian-Ukrainian conflict.
“The silver side of market volatility is the ability to pay less Roth conversion tax,” said Sean Michael Pearson, CFP and deputy vice president of Ameriprise Financial Services in Conshohocken, Pennsylvania.
For example, if you have $10,000 in a pre-tax IRA and the market is down 10%, you convert $9,000 instead of $10,000, saving $220 in federal taxes if you are in the 22% marginal tax bracket, said is he.
Reduce Adjusted Gross Revenue
If you’re considering a Roth conversion, you might consider reducing your adjusted gross income by contributing more to your pre-tax 401(k) plan, Lawrence suggested.
You can also use the so-called tax loss collection, offsetting profits with losses in a taxable account. If losses exceed gains, you can use up to $3,000 of capital loss per year to reduce regular income.
If you’re considering making a large charitable gift, Brewer says, you can try to send it in the same year as the appeal, such as donations to a donor-recommended fund.
“This strategy is ideal if you are philanthropic and can transfer,” he added.
Roth’s conversion may make sense in lower income years, such as when retirees don’t start receiving Social Security payments. “In general terms, this is likely to be a golden spot,” Lawrence said.