Act now, pay later with a Roth conversion

Posted on Apr 27, 2010

Are you thinking of converting your traditional IRA, SEP IRA, SIMPLE IRA, or other qualifying retirement plan to a Roth IRA this year?

 Depending on your tax bracket and financial situation, acting in 2010 could be a good idea. One reason: For conversions made this year, a change in the law provides a one-time “act now, pay later” option.

 * How it works. You instruct the custodian of your retirement plan assets to convert all or part of your account to a Roth during 2010. Normally, the amount you convert is treated as ordinary income on your 2010 federal income tax return — and you can still choose to report it that way.

 However, for 2010 conversions only, you have another alternative: You can include the conversion income on your 2011 and 2012 returns instead. You will report no income from the conversion on your 2010 return, 50% on your 2011 return, and 50% on your 2012 return.

 * What’s the catch? As you begin your planning, you’ll want to take into account estimated future tax rates. Why? Because you’re deferring the income from the conversion, not the tax on that income. In other words, you’ll pay federal income tax on the conversion in future years at the rates applicable to those years.

 In addition to potential changes in tax law, you’ll need to consider your personal financial outlook. Expected – and unexpected – increases in income may put you in a higher tax bracket.

 The opportunity to defer income is only one of the many factors to keep in mind as you determine whether a Roth conversion makes sense for you. Please call for a review of your options.