- Converting any dollar amount – Converting your IRA or eligible retirement money is not an all-or-nothing deal. You can use a method called “bracket creep” by maximizing the remainder of your marginal tax bracket with a Roth conversion. You can use the 2-year deferral option to convert an affordable amount, while you continue to convert more each year. You can project your tax for the coming year and decide exactly how much to convert. You might also be able to convert just enough to absorb losses and not even pay any tax on the conversion (See #5).
- Segregate your Roth conversions - Everyone has the ability to change their mind on their conversion. You can call it a retirement mulligan. Through your tax filing-extension deadline you can “recharacterize” your Roth conversion back to a Traditional IRA and decide not to pay the tax. How does this come into play? You must recharacterize the whole account. What is the solution? Instead of creating one Roth account upon conversion, you could choose to create multiple accounts. Whichever accounts lose value, you should recharacterize. This is especially useful if you divide the accounts up per asset class. Much literature has been written on this.
- Convert non-deductible IRAs as a contribution work-around – Do you make to much money to contribute to a Roth IRA? That’s ok, there are no income limitations on converting. Simply contribute to a non-deductible traditional IRA and then convert that IRA to a a Roth. This is a funny loophole that may eventually be patched up. Bottom line, anyone with earned income can essentially contribute to a Roth IRA.
- Extend your return – While an amended return (by Oct 15th) still allows you to recharacterize your IRA, it may be best to just extend your return for purposes of planning around your Roth conversion. With legislation looming and changing so often, you may be able to make a more tax efficient decision on the choice of deferring the conversion income over 2011/2012 or recharacterizing.
- The Tactical Tax Conversion – Most tax returns are prepared on a time crunched basis. That is the nature of tax season. If you have losses, abnormally high medical expenses or even unused charitable contribution carryforwards, you may be able to convert a portion of your IRA for free (there are other favorable tax attributes as well). The idea is that you have a loss, deduction or credit that is going to go unused. Why waste it? By converting to a Roth IRA you recognize the income and use the favorable tax attribute to offset it. You now have a portion of your IRA as a Roth and you did not pay any tax on it! The part I want you to remember is to ask your tax preparer about this if you feel it may apply. They will take note of it and most likely let you know if you are a candidate for this type of conversion. Never be afraid to raise the question or idea.
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Joe Arsenault
Joe Arsenault is a CPA, tax professional and avid blog writer. Joe founded CafeTax in 2010 and is the President of Arbor Financial & Tax, PLLC. Joe doesn't just prepare taxes and perform tax planning services, he also specializes in retirement taxation by consulting with his clients and other financial advisers. If you don't want to talk business, Joe loves sports and almost every outdoor activity.
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