ROTH Conversions May Not Be For Everyone
You may hear of the many advantages of ROTH conversions, but always be wary as not everything is one-size fits all.
There are a couple differences between traditional IRAs and ROTH IRAs that need consideration. Traditional IRA’s require a minimum age of 70.5 for investors to start making withdrawals whereas ROTH IRAs have no withdrawal requirements. ROTH IRAs are also considered tax free because the investor will pay the tax upfront into the initial investment but does not have to pay taxes on the accumulated interest at the time of withdrawals. There are also limitations on how much you can contribute to a ROTH IRA that is dependent on your annual income.
Be aware that converting your traditional IRA to a ROTH IRA will force you to pay income taxes on the withdrawal. The concern is if the investor will have the money to pay at the time of withdrawal. Especially when the credit market is so tight, investors often worry about dispensing their cash in the form of taxes. An investor must consider if the paid taxes will be recovered in the remaining years with some interest, even if they are not directly concerned with its liquidity.
Recovering the paid taxes from this type of conversion takes an average of 15-20 years. This may be extended even longer if the investor makes multiple withdrawals. People nearing retirement must consider how soon they would need the funds and if they have the ability to pay those taxes. Particularly those who have stayed within a certain tax bracket, converting to a ROTH IRA will treat this money as additional income and substantially increase your taxes. Other sources of funds, such as taxable social security benefits and investors who have children taking out financial aid for college, will further complicate the conversion.