Author: Paul A. Carl, CHSA, CPFA^™Vice President, Retirement Plan Consulting, Registered Representative
 

Following last week’s Retirement Meditation, one of my LinkedIn connections requested I address converting pre-tax money into Roth. 

The short answer to this week’s Meditation question (Should I convert pre-tax money into Roth?) is, “When do you want to pay the income taxes on your pre-tax retirement savings?” Read on for the longer answer.

At some point, nearly every participant in a retirement plan will or should face this very question. This is true even for those individuals deferring only Roth contributions into a retirement plan. Why? Because under current law, employer contributions such as match, safe harbor, and profit sharing are made pre-tax to the participant and grow tax-deferred. 

There are three primary decision points for converting pre-tax retirement savings that grow tax deferred to post-tax Roth contributions that grow tax-free.

1. The most common decision point comes at the time of distribution which follows some type of employment termination including retirement. 
2. Another possible decision point, if your plan permits, is at age 59-1/2 or later using the plan’s in-service withdrawal feature. 
3. The other possible decision point is anytime IF your retirement plan permits in-plan Roth conversions. 

There are Federal (and, depending on where you live, state) income tax consequences to consider. The conversion may place you into a higher tax bracket depending on your personal tax situation.

For retirement plans permitting in-plan Roth conversions, the conversion acts like a taxable rollover except that ALL the funds stay in the plan. The income tax liability created by the conversion must be paid with funds outside of the retirement plan. The benefit is, of course, the funds grow tax-free going forward provided certain holding period criteria is met.

For plans that allow for age 59-1/2 in-service withdrawals, you can convert some or all your pre-tax retirement savings by ultimately landing a rollover into a Roth IRA. The tax liability created by this transaction can be paid with some of the retirement assets or with personal funds. The same is true for distributions resulting from retirement or other termination of employment. 

Knowing your plan provisions, exploring the choices with the help of a trusted financial professional, using calculators available on various financial websites and/or consulting with a tax-qualified professional should help you effectively evaluate the available choices and decide what’s best for you.

When do you want to pay the income taxes on your accumulated pre-tax retirement savings?

HORAN Capital Advisors, LLC is an SEC registered investment advisor. The information herein has been obtained from sources believed to be reliable but we cannot assure its accuracy or completeness. Neither the information nor any opinion expressed constitutes a solicitation for the purchase or sale of any security. Any reference to past performance is not to be implied or construed as a guarantee of future results. Market conditions can vary widely over time and there is always the potential of losing money when investing in securities. HCA and its affiliates do not provide tax, legal or accounting advice. This material has been prepared for informational purposes only and is not intended to provide and should not be relied on for tax, legal or accounting advice. You should consult your own tax, legal and accounting advisors before engaging in any transaction.