Why a Market Downturn Might be the Perfect time to consider a Roth Conversion
Take advantage of lower asset values to maximize tax-free growth in retirement...
With the market continuing its decline, many people are wondering what they should do. Often times, your best course of action is nothing at all.
But for many people, market sell offs present opportunities — such as Roth conversions.
What is a Roth Conversion?
A Roth conversion moves funds from a traditional IRA to a Roth IRA. There are other accounts you can convert from but making this simple. You pay taxes on the converted amount now, but all future growth and withdrawals in retirement are tax-free. Anyone with a Traditional IRA can do a Roth conversion.
For example, let’s say you have $50,000 in a traditional IRA. A market downturn reduces its value by 20%, bringing it down to $40,000. You decide to convert $20,000 to a Roth IRA. Your income just increased $20,000 in the year you converted the funds.
However, should the market rebound over the next few years (which is most likely the case), all of those gains are now in your Roth account growing tax-free, maximizing long-term benefits.
Why Consider a Roth Conversion Now?
Lower Market Values = Lower Taxes – Converting when your investments are down means converting more shares, paying less in taxes, and increasing tax-free growth potential.
Hedge Against Future Tax Increases – Lock in today’s rates and protect retirement income from potential hikes. Historically, U.S. tax rates have been much higher than they are today, meaning current rates are relatively low. Given this, it may be a good time to consider a Roth conversion while taxes remain favorable
Eliminate RMDs – Unlike traditional IRAs, Roth IRAs have no Required Minimum Distributions (RMDs), allowing continued tax-free growth. If you have a majority of your money in traditional IRAs/401ks, you may be surprised at how big your RMDs are when the time comes…
Tax-Free Inheritance – Roth IRAs provide beneficiaries with tax-free income, making them valuable for estate planning.
Who Might Benefit from Roth Conversions?
High earners — those who can’t contribute directly to a Roth IRA because they make too much money.
Those with most of their assets in tax-deferred accounts (Traditional IRAs/401ks) looking to diversify tax exposure.
People in lower tax brackets before RMDs begin. Take advantage of lower income years!
Avoid Unforced Errors…
Conversions are taxable – The converted amount is added to your income, so be careful and try to avoid pushing yourself into a higher bracket.
No 10% Early Withdrawal Penalty if you convert prior to 59 1/2. But the converted funds need to stay in your Roth IRA for five years to avoid any penalties and taxes.
Ideally, you do the conversion and then pay taxes, if any, at the end of the year cash savings. You can use IRA funds to pay for the tax bill but you are just creating additional tax liability…
Timing the market is impossible, and things could certainly get worse before they get better in the stock market. But with the recent selloff, this could be a good time to begin exploring converting funds and creating a tax-free bucket of income.
Reach out if you have questions or if I can help with anything.
Disclosure: This material is for general information only and is not intended to provide specific advice or recommendations for any individual. All performance referenced is historical and is no guarantee of future results.
It's essential to consult with a financial advisor or tax professional before implementing a roth conversion, as individual circumstances can vary, and tax rules may change over time.
All indices are unmanaged and may not be invested into directly.
All investing includes risks, including fluctuating prices and loss of principal.