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Roth IRA Conversions

What do you need to know about Roth IRA conversions?

Well, first and foremost, you need to know what one is.

Basically, a Roth conversion is when you take one type of retirement savings plan and "convert" it into a Roth IRA.

For instance, you might compare the benefits of a Roth IRA vs. a 401k and decide that the funds in your 401k are better served in your Roth IRA. If so, you can convert all or some of the funds in your 401k into funds in your Roth IRA.

To carry out this process, there are three different Roth IRA conversion methods...

1) Rollover - You can receive a distribution from a Traditional IRA, 401k, or other qualified retirement plan and roll it over (contribute it) to your Roth IRA within 60 days of receiving the distribution.

2) Trustee-to-Trustee Transfer - You can direct the trustee of your current retirement account to transfer funds to the trustee of your Roth IRA account.

3) Same Trustee Transfer - If the retirement account you plan to convert is overseen by the same trustee who oversees your Roth IRA, then you can direct the trustee to simply transfer funds from the first account to your Roth IRA. You also have the option to simply redesignate your current account as a Roth IRA, rather than open a new account and/or issue a new contract.

As a general rule, these are the three methods you use to perform Roth IRA conversions. You also might hear some financial planners refer to this process as a Roth IRA rollover, although technically only the first of these three methods constitutes a rollover. Numbers two and three are sometimes called "direct rollovers."

Regardless of the process you choose, all Roth IRA conversions must adhere to certain rules...

Roth IRA Conversion Rules

Under the old rules for Roth IRA conversions, you could only convert a Traditional IRA, a SEP IRA, or a SIMPLE IRA to a Roth IRA. But all that changed a few years ago.

As of 2008, you can roll over all, or part, of an eligible distribution from your or your deceased spouse's...

  • 401k
  • 403b
  • 457 plan
  • Employer qualified pension
  • Profit-sharing plan
  • Stock bonus plan, or
  • Annuity plan

And, of course, Traditional, SEP, and SIMPLE IRA's remain eligible as well.

However, even if you have one of these eligible plans, you may not qualify for a Roth IRA conversion. You're NOT qualified to perform a Roth IRA conversion if...

1) You're married filing a separate tax return and you lived with your spouse for part of the year (in 2010, this provision will be eliminated)

2) You inherited the account you wish to convert from someone other than your spouse. In such a case, the inherited account can NOT be converted to a Roth IRA.

3) You have adjustable gross income (AGI) in excess of $100,000 (this provision also disappears in 2010)

Assuming you're still eligible, you need to perform the following tasks, which are standard procedure for Roth IRA conversions...

  • Open/establish a Roth IRA account to move funds into
  • Move rollover distributions from your converted account to your Roth within 60 days
  • Pay taxes on any Roth IRA conversion distributions (if necessary)

If you carefully follow all the rules, nothing should stop you from having a successful Roth IRA conversion experience...

Convert To A Roth IRA: Should You?

What benefits do Roth IRA conversions offer?

It really depends on your personal financial situation, as well as the advantages and disadvantages of the account you're converting relative to your Roth IRA. But here's a few examples of factors you might take into consideration...

  • Estate Planning
  • Current Taxes
  • Future Taxes
  • Avoiding Forced Distributions at Age 70 ½

There are many reasons to convert an old retirement account to a Roth IRA.

For instance, if you expect to be in a higher income tax bracket during retirement, it makes sense to have your retirement funds in a place where they can be withdrawn tax-free.

Not sure? Use our Roth IRA conversion calculator.

Convert A 401k To A Roth IRA

How do you convert a 401k to a Roth IRA?

That's a great question, and unless you plan on sticking with the same employer for your entire career, then this is probably a question you'll need to know the answer to at some point in your life.

401k / Roth IRA conversions are not much different from any other type of conversion. But you need to be on the lookout for certain potential pitfalls.

Since your 401k plan is administered by a trustee chosen by your employer, each individual faces a different set of rules, procedures, and penalties when it comes time to convert. Knowing the details of your company's 401k plan can make the difference between a seamless conversion and a bumpy ride.

You also need to be aware of a government rule which requires your plan administrator to withhold 20% of your conversion distribution for taxes purposes if you execute a traditional rollover. This tax is withheld from you until your tax bill is paid, so if you don't have the cash on hand to pay Uncle Sam, you'll want to perform a direct rollover to avoid tax withholding.

The rules for a Tradtional IRA conversion are not much different...

Convert A Traditional IRA To A Roth IRA

Converting your Traditional IRA to a Roth IRA is not much different from a 401k conversion. Most of the same rules apply.

However, some unique circumstances apply...

For instance, it's much more likely you made non-deductible contributions to a Traditional IRA versus a 401k, since you're barred from making deductible contributions to a Traditional IRA once you reach a certain income level.

As a result, it makes much more sense to convert a Traditional IRA funded with non-deductible contributions than it does to convert a 401k with deductible contributions.



In retirement, you're going to owe taxes on funds withdrawn from a Traditional IRA or a 401k. But retirement withdrawals from a Roth IRA are tax free.

So if you've got after-tax contributions in your Traditional IRA, you face the prospect of double taxation. If you convert those funds to a Roth IRA, you won't owe any tax on the non-deductible contributions, providing you with tax-free money in retirement.

Do you see now why it's important to know the rules and benefits of a Roth conversion?

2010 Conversion Rules For Your Roth IRA

Now that you know the rules for Roth conversions, forget what you just learned.


Because, starting in 2010, the rules change...

Well, not all of the rules, but at least some of the rules.

The most well noted rule change involves the elimination of the income cap for those making a conversion. Prior to 2010, you can NOT perform a conversion if your adjustable gross income (AGI) exceeds $100,000. But, in 2010, that $100,000 income limit disappears.

And this new rule impacts a whole host of retirement considerations.


Because the elimination of the income cap on Roth IRA conversions, essentially eliminates the income cap on Roth IRA contributions.

Why do I say that?

Because anyone can make non-deductible contributions to a Traditional IRA, regardless of income. And as of 2010, anyone will be able to convert a Traditional IRA to a Roth IRA, regardless of income.

As a result, in 2010, anyone will be able fund a Roth IRA, regardless of income.

Do you see now why the new 2010 Roth IRA conversion rule is so significant?


Roth IRA conversions are not available to everyone.

You need to meet certain eligibility requirements first, although some of those requirements disappear in 2010.

Before jumping into any conversion process though, you should carefully weigh the benefits and disadvantages offered by your Traditional IRA, 401k, or other qualified plan versus those of your Roth IRA. Only perform a conversion when it makes clear financial sense to do so.

And if you do decide to perform a Roth conversion, make sure you follow all the rules and remain alert to potential complications.

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