RETIREMENT PLANNING
Ongoing review of your retirement, estate, and tax strategy is a best practice. Here, we examine the advantages of a Roth conversion and whether it may make sense for you.
KEY TAKEAWAYS
1. Roth conversions can enhance long-term tax efficiency: By paying taxes upfront, investors can benefit from tax-free growth and withdrawals while hedging against future tax rate increases.
2. Strategic timing and tax planning are essential: Conversions are most effective when done in lower tax brackets, with careful consideration of deductions, income thresholds, and the ability to pay taxes from non-retirement assets.
3. Roth IRAs support legacy and retirement planning goals: Roth accounts are not subject to RMDs during the owner’s lifetime and can create more tax-efficient assets for heirs, making them a valuable estate planning tool.
Roth IRAs Explained
A Roth IRA is an individual retirement account that allows you to set aside after-tax income up to a specified amount each year, where both earnings on the account and withdrawals after age 59 ½ are tax-free. A Roth account can also be leveraged as a tax-efficient estate planning strategy.
Traditional vs. Roth IRAs
Funds in a traditional qualified plan or IRA are tax-deferred assets. Taxes are paid to the IRS when distributions are made (except in the case of certain charitable donations). Assets in Roth accounts, on the other hand, are after-tax contributions. Perhaps most importantly, any asset appreciation in a Roth account will be tax-free as long as the five-year holding period is met.
A Roth conversion involves pre-paying the tax on the account. The cost of moving money from a traditional IRA into a Roth IRA allows you to pay taxes on the IRA assets and then enjoy the benefits of the Roth IRA account. When viewed as a family wealth-planning technique, it’s a way for the parent(s) to leave a more valuable asset to heirs or to create a tax-free fund for the account owners themselves to use for other financial planning or emergencies.
Roth conversions can be an integral part of multi-year tax planning. The amount to be converted can be calculated based on the additional taxable income that would be generated and reported before a higher tax bracket would apply. The tax itself, if at all possible, should be paid from funds other than those to be converted.
If the tax is paid from a taxable account, the full amount of the qualified plan or IRA distribution can be moved into the Roth account.
Considering A Roth Conversion—Why Now?
There are a few reasons a Roth conversion may be advantageous for you, depending on your individual circumstances. Before exploring the benefits, it’s important to know that an inherited IRA cannot be converted to a Roth. The IRA has to be converted to a Roth during the owner’s (or, possibly, the owner’s spouse’s) lifetime, or the opportunity is lost.
Tax Implications
A Roth conversion involves a pre-payment of tax. The impact of the tax can be mitigated by paying it while the account owner is in a lower bracket, or by offsetting the additional income with itemized deductions such as charitable contributions (perhaps to a donor-advised fund) or medical expenses. Paying taxes now, or at current rates, acts as a hedge against future tax rate increases.
The closer we get to the end of the year, the more likely it is to project tax brackets and estimate how much additional income could be generated before moving to the next higher tax bracket. Your Financial Advisor can help.
Legacy Planning and RMDs
A Required Minimum Distribution (RMD) is an IRS-mandated amount of money you must withdraw from a Traditional IRA or qualified employer-sponsored retirement plan each year. If you have, or are anticipating, an RMD amount that exceeds your spending needs, recharacterizing to a Roth IRA offers an advantageous legacy planning strategy while helping reduce your RMDs.
Key Dates to Keep in Mind
Recharacterizing your retirement account requires careful consideration based on your individual circumstances. We can help you assess your needs and take action in a timely, thoughtful manner.
•December 31: The date by which a Roth conversion would have to be completed.
•April 15 of the following year: Date for most taxpayers to pay the tax due on a Roth conversion.
Working With Janney
Depending on your financial needs and personal preferences, you may opt to engage in a brokerage relationship, an advisory relationship or a combination of both. Each time you open an account, we will make recommendations on which type of relationship is in your best interest based on the information you provide when you complete or update your client profile.
If you engage in a brokerage relationship, you will buy and sell securities on a transaction basis and pay a commission for these services. Our recommendations for the purchase and sale of securities will be based on what is in your best interest and reflect reasonably available alternatives at that time.
If you engage in an advisory relationship, you will pay an asset-based fee, which encompasses, among other things, a defined investment strategy, ongoing monitoring, and performance reporting. Your Financial Advisor will serve in a fiduciary capacity for your advisory relationships.
For more information about Janney, please see Janney’s Relationship Summary (Form CRS) on www.janney.com/crs which details all material facts about the scope and terms of our relationship with you and any potential conflicts of interest.
By establishing a relationship with us, we can build a tailored financial plan and make recommendations about solutions that are aligned with your best interest and unique needs, goals, and preferences.
Contact us today to discuss how we can put a plan in place designed to help you reach your financial goals.
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