This past year was the first year that I was fortunate enough to work from my home. Working from my home has been a wonderful change for both personal and professional reasons. The only thing that caused a slight issue was the tax filing changes that I had to endure. The office in my home was now considered a tax deduction. I had to get some help learning how to deduct the things that are allowed on my federal taxes. If you are new to working from home and have a home office, this blog can help you learn what you need to know before tax time rolls around.
Tax strategies to protect your retirement funds are some of the most important financial planning steps. And one increasingly popular method is to do what's known as a Roth conversion. What is a Roth conversion? Should you complete one or more? And when might you be better off to skip it? Here's what you need to know.
What is a Roth Conversion?
First, what is a Roth IRA conversion? Basically, this is a two step process to contribute to a Roth IRA through a sort of backdoor method. The taxpayer contributes to a traditional IRA and receives the tax benefits. Then at a later date, they move that money to a Roth IRA and report the move (the conversion) on their income taxes. Doing so triggers the payment of the taxes that were skipped earlier.
Why Do a Roth Conversion?
The main reason for Roth conversions is to access the tax benefits of a Roth IRA even when you don't otherwise qualify to contribute in a given year. This is largely due to being a high earner who exceeds the Roth IRA limits. In 2022, for example, a single filer who earns more than $129,000 sees their contribution limited or disallowed entirely. Conversion allows you to regain the Roth access in an informal way.
So, why would you want access to that Roth IRA? Because you pay taxes on contributions up-front, they're taxed at today's rates. If you expect your taxes to be higher when you retire — through higher earnings or overall tax rates — it's better to pay that tax now. In addition, the money grows entirely tax-free because withdrawals are nontaxable as well. This can be a big win over traditional IRAs.
Why Skip the Roth Conversion?
Of course, as with any tax strategy, not everyone should run out and do a conversion. First, you will pay higher taxes in the current year. You must have the money to do so. And most taxpayers avoid doing conversions in years in which their tax rate is higher than normal (such as if you sold a large asset or got a big bonus). You will also be unable to access the funds for five years, so avoid doing it right before retirement.
If you plan to leave your Roth IRA to heirs through estate planning, paying taxes on the money now may not be necessary or wise. Instead, some inheritances won't be subject to any taxation while other heirs might have lower tax rates than yours.
Where Can You Learn More?
Want to know more about Roth IRA conversions? Start by meeting with an accountant in your state today. Together, you'll find the right tax strategy for your personal goals and circumstances.
Share31 March 2022
