July 2009 Converting Your IRA to a Roth IRA Gets Easier in 2010On January 1, 2010, the government will end the income limits that have prevented many people from converting their traditional IRA or employer-sponsored retirement plan to a Roth IRA. While the limits for funding a Roth will stay the same, the income limit for Roth conversions will be eliminated, as well as restrictions on spouses filing separate tax returns. Currently, couples earning more than $176,000 in modified adjusted gross income cannot contribute to a Roth IRA (for individuals, the income ceiling is $120,000). This change comes at a time when many IRAs have dropped in value, meaning taxes on such conversions will likely drop. Since income tax rates at all levels are expected to rise in the coming years, it should be no surprise that owning an account that is safe from tax increases might appeal to future retirees. The Wall Street Journal recently reported that this change "will widen the entryway to one of the best deals in retirement planning. With a Roth IRA, virtually all income growth and withdrawals are tax-free." For the most part, withdrawals are tax-free if you hold a Roth IRA for at least five years and are at least 59 1/2 years old. Unlike a traditional IRA, there are no required distributions that force you to tap into the account – and increase your taxable income – upon reaching age 70½. This should make it easier for higher income earners to invest through Roth accounts. The change also enables more retirees who rolled over holdings in 401(k)s and workplace savings plans to convert to a Roth. Conversion Taxes. You pay taxes on a Roth conversion by following the IRS's pro-rata rule. The IRS requires you to add the balance in all of your IRAs (for example, $250,000) and then divide the nondeductible contributions (in this example, $40,000) by that balance. This formula helps you know the percentage (16% in this case) of any conversion that's tax-free. Using the example numbers above, if you wanted to convert $30,000 of your two IRAs to a Roth, the amount of the conversion that would be tax-free is $4,800 ($30,000 x 0.16). Whether a Roth conversion is a good move for you depends largely on whether (a) you expect to make more or less income during retirement than while you were working, and (b) tax rates stay about where they are today. To apply these factors to your situation, we recommend that you consult with your tax professional.
Adapted from the Daily Plan-It newsletter Hoopes, Adams & Alexander, PLC, is a Chandler, Arizona, law firm offering services to Phoenix-area clients in the areas of estate planning, entity formation, commercial and real estate transactions, and civil litigation. | 
