To Convert or Not to Convert?
If you are eligible to roll over a traditional individual retirement account into a Roth IRA, paying taxes on the money now, should you do it? Here are the key pros and cons:
ARGUMENTS IN FAVOR
* You will be able to keep all the money that compounds in a Roth IRA, provided that certain conditions are met, because the income earned is not taxed.
Experts say that if your tax rate remains the same, if your portfolio grows in value at historical rates, and if you have at least seven years or so before you will start making withdrawals, conversion will give you more money to spend in retirement.
* If you have several decades before retirement, the mathematical argument in favor of conversion is even stronger.
* For 1998 conversions only, you must spread the payments for any tax bill out over the next four years.
* If you decide to withdraw money before retirement, a Roth allows you to take out the principal portion tax-free.
* During retirement, you can withdraw money at any rate or in occasional lump sums without worrying about taxes. If you don’t need the money, you can leave it in the Roth and let it go to your heirs, free of income tax. However, the funds will count as part of the estate for estate tax purposes.
ARGUMENTS AGAINST
* You can’t convert if you or you and your spouse filing jointly make more than $100,000 a year, excluding the rollover amount itself.
* You must pay regular income tax on the amount converted.
* You must have money available to pay the taxes from sources outside the IRA, and you may have more important uses for that money. (If you pay taxes out of the IRA money, you pay a 10% penalty on that amount and also reduce your tax-favored savings.*)
* A rollover, particularly a big one, may make you ineligible for certain tax breaks and push you into a higher tax bracket for the next four years while you take the ratable portion of the rollover into income.
* The inheritance feature of a Roth IRA may not be important to you.
* Your tax rate may be much lower at retirement, erasing or reducing the benefits of conversion.
* You may be tempted to use the converted money for non-retirement purposes and regret it.
* If your account does not increase significantly in value before funds are withdrawn, you are worse off for paying taxes early.
* There is always the risk that Congress will change its thinking and tax the money or include Roth IRA funds in a means-tested Social Security system.
* This may still be worthwhile if you have decades until retirement.
