Traditional IRA to Roth IRA Conversions

Many investors are starting to make traditional IRA to Roth IRA conversions as a way to help themselves for the future. Roth IRAs have become a very popular way to save for retirement, and converting from your old IRA is an option to consider. Here are the basics of converting a traditional IRA to a Roth IRA and why you might want to do so.

Traditional IRA vs. Roth IRA

In order to decide whether to convert to a Roth IRA, you should first understand the difference between the two accounts. With a traditional IRA, you contribute money to a retirement account without paying taxes on the money. You could have your contributions automatically deducted from your paychecks before the taxes are taken out. The money is allowed to increase tax-free while it is in the account. At age 59 1/2, you are eligible to withdraw the money. You will have to pay taxes on the money that you withdraw. 

The Roth IRA handles the taxes in another way. Instead of paying the taxes later, you pay them up front. You fund the account with after-tax dollars, and then the account grows tax-free. When you withdraw the money later, you will pay no taxes on it. 

Why Convert?

There are a few different reasons that you may want to convert to a Roth IRA. First of all, you will most likely pay fewer taxes now than you would later in life. Most of the time, we start out our professional lives in a lower tax bracket and move up over time. Therefore, you may pay only a 15 percent tax on the money when it goes into a Roth IRA as opposed to the 35 percent tax (the maximum as of early 2010) that you may need to pay when you withdraw it from a traditional IRA. 

In addition to that, if you choose good investments, you could net a huge return without paying a dime in taxes on the money. 

How to Convert

The process of converting to a Roth IRA from a traditional IRA involves some paperwork with your financial brokerage. Contact your IRA custodian and ask about the procedure for converting to a Roth IRA. Your custodian will give you the necessary documents to fill out, and then you will be able to convert successfully. You will have to use some of the money from your IRA to pay taxes so that the account will then be funded with after-tax dollars.

Considerations

Before you go through the conversion process, you will want to consider a few things. First of all, you need to look at your income level to determine if you qualify. If you are single and make more than $120,000, you will not be able to contribute at all. If you are a married couple and make more than $177,000, then you cannot contribute either. 

You also have to decide whether you would prefer to pay your taxes now or later when you are retired. Put some thought into it and consult your financial advisor for help as well. 

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