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Roth Contributions and Conversions

| November 25, 2019

As the end of the year quickly approaches, we wanted to dedicate this blog to some year end tax planning.  The ideas presented here might not be applicable to all taxpayers, so as always, seek professional tax advice from a qualified tax professional to determine strategies that will best serve your needs.


The general premise behind pre-tax retirement savings, such as 401(k) deferrals, Traditional IRA contributions, etc., is that a person makes tax-deductible deposits during their working years and then starts taking withdrawals in their retirement years when they assume they will be in a lower tax bracket.  But that general premise may not be so true of today’s tax bracket structure.  For 2020, joint couples will be in the 12% federal income tax bracket until their gross income exceeds roughly $105,000.  (The bracket tops out at $80,250 of taxable income, but every married couple filing jointly receives a minimum standard deduction of $24,800).  It can be argued that the 12% tax bracket is quite low when compared to bracket structures throughout our history.  And one could further argue that there is a fairly strong likelihood that tax bracket structures will be forced higher as the national debt continues to increase. 


CONTRIBUTE TO A ROTH:    Thus, if you are working and deferring funds into a qualified retirement plan, you may want to investigate and utilize any after-tax Roth options instead of the pre-tax options.  Roth IRA and/or Roth 401(k) deposits are made after-tax, but they grow and can be withdrawn free of income tax.


CONVERT TO A ROTH:    Further, if you currently hold assets in a pre-tax, tax-deferred retirement account (ie, Traditional IRA) and you fall within the 12% tax bracket mentioned above, you may want to consider executing a Roth IRA conversion before year end.  The amount you convert would be taxed at this year’s tax rates, but after it is converted to a Roth IRA, it would be growing tax-free from that point on.


BACK DOOR TO A ROTH:    Finally, since there are income limits on making regular contributions to a Roth IRA, there is a strategy some taxpayers use that allows for a regular, non-deductible after-tax contribution to a Traditional IRA, immediately followed by a conversion to a Roth IRA.  This strategy is somewhat complex, but is typically very intriguing to higher income taxpayers, who want to build assets in the Roth IRA in order to secure the tax-free growth and other merits of the Roth. 


Each of these planning strategies has merit when properly implemented after seeking qualified tax advice.  We can help analyze your situation, and are willing and able to work in concert with your tax professional to make sure you are taking full advantage of the current tax code with your investment strategies.