Consider a Roth IRA conversion

Near retirement

Legislative changes effective in 2010 created an opportunity for people of any income level to convert to a Roth IRA. In some circumstances, a conversion can have a positive impact on your financial future and the future of your beneficiaries.

How converting to a Roth IRA works

Converting to a Roth IRA involves moving assets from your traditional IRA or employer-based retirement plan to a Roth IRA. While you'll pay taxes now on the pre-tax assets you convert, any potential growth of your money will be tax-free in the Roth IRA.

Benefits Reasons to consider converting to a Roth IRA

Considerations Conversions make the most sense if you meet the following guidelines

Assets in a Roth IRA are not subject to required minimum distributions (RMDs). So if you don't need the money at age 70 1/2, you can let it keep working on a tax-free basis. Qualifying distributions are income tax-free to you and your beneficiaries, allowing you to potentially pass on more financial assets to future generations. 1 A conversion may allow you to reduce the size of your taxable estate. Tax-free Roth IRA distributions do not count towards the income threshold which determines the taxation of Social Security benefits.

You have enough money outside your retirement accounts to pay the conversion-related taxes. You have a long time frame (ideally at least 10 - 15 years or more) before you need the money. You are in a lower tax bracket now than you (or your beneficiaries) will be when the money is accessed.

Tax-free Roth distributions

Qualified distributions from a Roth IRA are free from income tax. For a distribution of earnings to be considered qualified, it must:

1. Take place at least five years after the first day of the year you first made a Roth IRA contribution or converted to a Roth IRA

2. Also meet one of the following conditions:

• Made on or after the date that the Roth IRA owner reaches age 59 1/2
• Made due to disability
• Made to a beneficiary after the owner's death
• Meets the requirements for a first home purchase (up to a lifetime limit of $10,000)

Distributions of conversion assets (excluding earnings) can be made tax- and penalty-free for any reason five years from the first day of the year you converted.²

Updated conversion rules in 2010

The Tax Increase Prevention and Reconciliation Act (TIPRA) of 2005 permanently repealed the $100,000 MAGI limit for Roth conversions. The law also permits conversions by taxpayers who are married but filing separately.

The advantage of Roth conversions during market declines

Completing a Roth conversion during a market decline can save you money on the taxes due upon conversion. You'll pay taxes on the current value of the assets being converted, and then enjoy tax-free growth potential and tax-free withdrawal of the assets. You will also be able to withdraw any subsequent earnings tax-free, if applicable requirements are satisfied.²

This method usually works well, but not always. Since no one knows how to choose the "bottom" of the market, the value of an IRA that is converted to a Roth may continue to decline. Therefore, it may be worth less than the market value that was reported — and taxed — when the conversion was done.

It's sometimes possible to deal with this problem by reversing or "recharacterizing" the Roth conversion. The assets are returned to a traditional IRA and you avoid taxes. You may also be able to perform another Roth conversion at a later date. The relevant tax rules are somewhat complex, however, so be sure to get help from a professional.

An Ameriprise financial advisor can help you determine if Roth conversions and contributions are right for you, and walk you through the process if it's appropriate.