What You Need To Know About Roth Conversions in 2024

What You Need To Know About Roth Conversions in 2024

February 05, 2024

Beginning a Roth Conversion journey in 2024 requires understanding the current tax intricacies and tailoring the approach to match your individual financial situation.

If you have a traditional IRA, you might be interested in turning some or all of it into a Roth IRA. Roth conversions have maintained their status as a tried-and-true financial strategy, offering a path to enhance your retirement savings over the years. 

In this blog, we'll break down the key things you should understand about Roth conversions, how taxes come into play during conversion, and tips to help you make smart decisions for your retirement planning. Let's dive in.

What is a Roth Conversion?

To understand the significance of a Roth conversion, it's crucial to grasp the differences between traditional and Roth retirement accounts. A traditional IRA allows tax-deductible contributions, meaning you can deduct them from your income in the contribution year. 

However, upon retirement, you'll be subject to income taxes on the distributions, and you must start taking required minimum distributions (RMDs) at age 73, regardless of your immediate financial needs.

Conversely, a Roth IRA involves contributions made with after-tax dollars, foregoing the upfront tax deduction. These conversions offer tax-free growth on earnings, and you can make tax-free withdrawals in retirement, given certain qualifying conditions. While traditional and Roth IRAs are the most popular accounts for Roth conversions, it's essential to note that you can convert a variety of retirement plans into a Roth IRA, including:

  • 401(k)s.
  • 403(b)s.
  • 457(b)s.
  • Traditional IRAs.
  • SEP IRAs.
  • SIMPLE IRAs.

Now, consider the allure of having the best of both financial worlds: enjoying tax deductions during high-income years while securing tax-free growth for the future. This is precisely where Roth IRA conversions come into play as a savvy retirement strategy.

How A Roth Conversion Works

A Roth conversion involves transferring funds from a traditional IRA or 401(k) into a Roth IRA. The main advantage is that you pay taxes upfront on the converted amount, while all future withdrawals from the Roth IRA remain tax-free, provided you meet specific criteria. This strategy can be particularly beneficial if you anticipate a higher tax bracket during retirement.

Here's a step-by-step breakdown of how it operates:

  • Determine the Conversion Amount: Your first step is to decide how much money you intend to transfer from your traditional IRA to your Roth IRA. This decision involves careful consideration, as the converted amount will be subject to immediate taxation.
  • Initiate the Conversion: Contact your financial advisor to kickstart the conversion process. They will typically guide the necessary steps to complete the conversion.
  • Settle the Tax Obligation: Report the converted amount as part of your annual income and fulfill the corresponding tax obligations. You can pay these taxes directly from the converted amount or use external sources to cover the tax liability.

For a more comprehensive understanding of how Roth conversions work and to tailor the strategy to your unique financial situation, it's recommended to consult with a fiduciary advisor. They can provide personalized guidance, helping you make informed decisions about the conversion process and optimize your retirement planning.

Understanding The Roth Conversion Ladder

For 2024, the Roth conversion ladder strategy remains valuable for retirement planning. It involves gradually moving funds from a traditional IRA to a Roth IRA over several years. This strategy focuses on lower tax brackets, reducing tax liability. After a five-year waiting period, converted funds are tax-free income during retirement. 

Unlike Roth IRA contributions, there is no limit on the amount you can convert. The $7,000 annual contribution limit (or $8,000 if you're 50 or older) doesn't apply to conversions. This approach aligns with your unique financial circumstances, maximizing Roth IRA benefits. The strategy includes:

  • Gradual Conversion: Instead of one large conversion, break it into smaller, annual steps to stay within lower tax brackets and minimize taxes.
  • Tax Efficiency: Convert in low-income years to reduce tax liability, especially if your income varies.
  • Access to Funds: After each conversion, a five-year waiting period applies. Once it lapses, you gain tax-free access to the converted amount, providing tax-free retirement income.

The Roth conversion ladder empowers you to manage retirement assets strategically, reduce overall tax burdens, and create a tax-efficient income stream during retirement. It aligns with your financial circumstances and maximizes Roth IRA tax benefits.

Managing Required Minimum Distributions (RMDs)

The SECURE Act 2.0, enacted in late 2022, changed over 90 rules about IRAs and other qualified retirement plans, including RMDs. RMDs are primarily associated with traditional Individual Retirement Accounts (IRAs) and employer-sponsored retirement plans such as 401(k)s and 403(b)s. Roth IRAs do not require RMDs during the account owner's lifetime; they are funded with after-tax dollars. However, beneficiaries of Roth IRAs may have RMD obligations.

You must calculate the RMD for each account separately if you own multiple traditional IRAs. However, you can aggregate the total RMD amount and withdraw it from one or more of your IRAs. This flexibility allows you to choose which account(s) to withdraw from as long as you satisfy the total RMD requirement.

You can use the IRS's Uniform Lifetime Table to determine the amount you need to withdraw. The RMD amount is calculated based on your account balance and life expectancy to deplete the account over your expected lifetime. If you haven't yet done so, estimate your personal RMD withdrawals with our free online RMD Calculator here.

Tax liability is one of the most significant factors to consider when contemplating a Roth conversion. 2024 tax laws are subject to change, so staying updated with the latest tax brackets and rates is essential. A financial advisor can help you assess the tax implications of a Roth conversion and determine the optimal amount to convert each year to minimize your tax burden.

Working With A Fiduciary

Tax laws can change over time, potentially affecting the benefits of Roth conversions. It's essential to remain flexible in your retirement planning and adapt your strategy to align with any legislative changes that may occur in 2024 and beyond. Working alongside a fiduciary advisor can be beneficial. 

Fiduciaries are committed to helping you achieve your financial goals without being influenced by commissions or fees tied to specific financial products. Choosing to work with a fiduciary can be a game-changer for your retirement planning for several reasons:

  • Reducing Risk: Fiduciaries help you make informed investment decisions that align with your risk tolerance and long-term objectives. They can design a diversified portfolio tailored to your unique circumstances, which can be crucial for managing risk in retirement.
  • Staying Informed: The financial landscape continually evolves, with new regulations and investment options emerging regularly. Fiduciaries stay current with these changes, ensuring your retirement strategy aligns with current best practices.
  • Peace of Mind: Working with a fiduciary can provide peace of mind, knowing that your financial future is in capable hands. You can trust that your advisor is always working in your best interests.

Final Thoughts

In 2024, Roth conversions will continue to be a valuable tool for retirement planning, offering the potential for tax-free withdrawals in the future. However, navigating the rules and strategies surrounding Roth conversions requires careful consideration and guidance.

It's crucial to stay informed about tax law changes so your retirement planning remains on the right track. At Agemy Financial Strategies, we are committed to educating our clients on various financial matters, including retirement planning, wealth management, tax planning, and more. 

With over 30 years of experience in helping individuals reach retirement stress-free, our unwavering dedication to educating and serving our clients remains at the core of our mission. Our financial guide to retirement planning is one of the many tools we offer to help you take control of your finances and plan for the future. 

Contact us today to learn how we can help you achieve financial security.