Things You'll Need:
- One or more traditional IRA accounts
- Money to pay additional taxes that will be due in the conversion year
- A financial planner, financial advisor, or accountant to help you determine if this is a good move
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Step 1
Determine if you are eligible to do a conversion. If your modified adjusted gross income (MAGI) for the last tax year is less than $100,000, you probably qualify. However, note that this figure applies to both individuals and married couples; a husband with MAGI of $55,000 and a wife with MAGI of $48,000 would NOT be eligible to convert their IRAs, even though their individual income levels appear to fall within the proper range. You can’t get around this by filing separately, either, unless you can establish that you lived apart from your spouse for the entire year. (Fortunately, this exclusion will not apply after 2010.)
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Step 2
You will also need to make sure that your IRA account is eligible for conversion and, of course, assess whether conversion offers you a significant advantage. If you inherited a traditional IRA from someone other than a former spouse, you can’t convert it. And if you expect to be in a lower tax bracket after retirement, a traditional IRA may be more appropriate than a Roth. Be sure to explore the Resources sites and/or consult with a professional before making any firm plans.
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Step 3
Understand that because you pay taxes on withdrawals from a traditional IRA, and because withdrawals from a Roth IRA are tax free, the IRS requires you to pay taxes on your traditional IRA account before you can convert it. The money in your traditional IRA will be considered part of your taxable income in the year you convert. So don’t consider conversion unless you have a source of funds available to cover additional taxes. You shouldn’t plan to take this money out of the IRA account; unless you are over 59 1/2, you’ll get hit with a 10 percent penalty!
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Step 4
Try to determine how much tax you will need to pay in order to do the conversion, and don’t forget to check if the additional income will push you into a higher tax bracket. (If this turns out to be the case, you don’t need to convert the entire amount.. Spread it out over two or three years to keep your taxes under control.) Numerous worksheets are available online to help you figure the additional tax, but a serviceable “guesstimate” can be made by pulling out last year’s tax return and adding the current balance in your traditional IRA account to last year’s taxable income. Then consult the tax tables to assess how much additional tax you’d have paid if you converted last year.
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Step 5
Decide if you want to keep the Roth IRA in the same place as the traditional IRA. If so, the process should be relatively simple. If you are able to convert the entire amount of your traditional IRA, you can redesignate the account as a Roth IRA. If you are converting only part of your traditional IRA, you will have to establish another account and direct the trustee to transfer the appropriate amount of money into it.
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Step 6
If you plan to use a different trustee for your Roth IRA, you will either have to withdraw the money and move it yourself (you have 60 days to do this without a penalty) or request that the money be moved via a trustee-to-trustee transfer. Obviously, the latter will be considerably easier.
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Step 7
Time your conversion carefully. If you want it to take place in the current tax year, it must be completed by December 31. Before proceeding, be sure to consider your current level of taxable income against what you expect in the following year. If you expect a lower level of income next year, you’d be wise to postpone the conversion; the best time to make the change is in a year when your income is lower than usual so that your chances of getting pushed into a higher tax bracket are minimized.
