Time to Convert Old 401k/IRA to Roth IRA

Thanks to Trump’s Tax Cuts and Jobs of 2017, we have historically attractive marginal income tax rates.

If you convert (or withdraw) any part of a pre-tax IRA (think old 401k) to a Roth IRA, you treat the amount you convert as ordinary income (not capital gain). You can pay the tax due with your tax return using money in another taxable account (ideal) or have the federal tax withheld at conversion. The conversion value is based on the day you make he conversion.

The window to do this is closing. The Tax Cut Act doesn’t set until 2025, but it could close sooner if the current administration raises tax rates. You may also be wise to convert some portion of your IRA each year rather than all at once. The conversion is best for people that are comfortable paying tax at today’s rate on some portion of their never-taxed IRA account.

Single Filer Tax Brackets

Married Filing Jointy

Converting any portion to a Roth IRA means happily paying income tax now at the current tax rate rather than later at whatever future tax rates may be.

Other benefits of Roth IRA include:

1. The growth of your account will never be taxed again (including at distribution)
2. You will not be required to make annual distributions at age 72 (current IRA are mandated to begin doing this at 72)
3. Your beneficiary(s) withdrawals are not taxed. Conversely, when children inherit your Traditional IRA they pay the tax as ordinary income presumably in their highest earning years.
4. Reduced income in future retirement years could lower Medicare premiums.

 Medicare high-income surcharge. In 2021, the standard premium for Medicare Part B, which covers doctor visits and outpatient services, is $148.50. But if a Roth conversion increases your modified adjusted gross income above a certain amount, you could pay much more than that. In 2021, high earners will pay from $208 to $505 per month for Part B. Your inflated MAGI could also increase premiums for Medicare Part D, which covers prescription drugs.

THE COST OF MEDICARE PREMIUMS AND YOUR IRA

Here’s where it gets tricky: Medicare surcharges are based on your tax return from two years ago. For example, the Medicare high-income surcharge for 2021 will be based on beneficiaries’ 2019 tax returns. (Medicare does provide exemptions from the surcharge for certain life events, but a Roth conversion isn’t one of them.)

Because of the delay, the surcharge sometimes catches retirees by surprise. In some cases, it’s hundreds of dollars more per person because of where their income was two years ago.

We need to do the math and see how much, if any, it makes sense to convert this year.

Review this tax and retirement strategy ASAP.

I can help you (schedule link) with this, need to review your 2020 tax return and 2021 projected income.