Recently, I received a call from a client that is required to make minimum distributions (RMDs) from his traditional IRA. He wanted to know if he could satisfy his RMD requirement by converting an amount equal to the RMD to a Roth IRA. A Roth IRA conversion seems like a logical way of satisfying the RMD requirement; unfortunately, the tax code specifically addresses this issue and says that a Roth conversion will not satisfy the RMD amount.
However, even though I had to tell this client that his idea of converting his RMD to a Roth would not work, it did lead to a discussion about whether converting additional amounts to Roth IRAs is something that he should be considering based on the new tax cuts. There are lots of factors to consider, but if you believe that the current tax rates will really expire at the end of 2025, now may be a good time to explore converting your traditional IRAs to Roth IRAs to take advantage of the lower tax rates. Some of the things I like to discuss with clients that are considering a Roth IRA conversion are:
- Do you expect to use the IRA funds during your lifetime?
- Who will inherit your IRA, and what is their approximate tax situation/bracket?
- Do you have funds outside of your IRA to pay the tax on the conversion?
- Is there any chance you will need to make a withdrawal within five years of the conversion?
As a general rule, most advisors will tell you that the younger you are, the more likely it is that a Roth IRA conversion will make sense. However, depending on your view of the current tax brackets, and what you believe the tax brackets will be in the future, it is a good idea to consider how the tax brackets will affect both the current conversion as well as how the future tax brackets will affect your future taxable IRA distributions.
With some tax projections, your tax advisor should be able to tell you how making a Roth IRA conversion will affect your tax liability. In addition, your tax advisor should be able to show you the implications of converting your IRA balances over the next few years.
There is one other new wrinkle that the new tax law imposed on taxpayers. In the past, you could essentially change your mind up until you filed your tax return and recharacterize your Roth conversion, which basically reverses the conversion and eliminates the taxable transactions. With the new tax law, the ability to do this is no longer available; so, getting good tax advice and projections is even more important before you make the decision to convert your IRA to a Roth IRA.
Daniel A. Mace, CPA