Can I Convert My Whole 401k to a Roth IRA?
To ensure a successful conversion, all necessary paperwork must be filed. Contact both financial institutions involved to see what documents need to be completed.
Consider Your Tax Rate As well: if you anticipate being in a lower tax bracket in retirement, Roth IRAs could provide huge advantages in tax savings.
Benefits
Without using an after-tax account to pay for it, any money that moves from traditional retirement savings plans into Roth accounts will be considered ordinary income and taxed at your current rate – which could leave you facing a massive tax bill! Therefore, be sure that there are sufficient funds available in your account in order to cover such an unexpected bill.
Spread your conversion out over several years to minimize tax bills, and avoid jumping into higher tax brackets. Individuals aged 59 1/2 or above do not incur a 10% early withdrawal penalty when withdrawing funds early from an RRSP or RMD account.
If your traditional 401(k) contains appreciated company stock, special rules allow for you to defer paying taxes on its unrealized appreciation until selling. Utilizing other assets as payment for conversion can further lower your tax liabilities.
Taxes
Tax consequences should always be taken into consideration before considering converting to a Roth. Any amount converted will count as income and could bump you into a higher tax bracket. Before attempting a conversion, consult your financial professional and tax expert on potential impacts on both current and future tax rates.
Consider when to convert: the IRS requires converted balances remain in a Roth IRA for at least five years after conversion, so think carefully about when and how to convert. Convert during years in which your traditional IRA balance has declined in value to reduce immediate tax bills.
An additional strategy called “focused conversion” can also help reduce your immediate tax bill: You can use it to roll over only nondeductible contributions in your traditional IRA balance, leaving deductible contributions and earnings in place; then withdraw qualified withdrawals without incurring tax penalties upon retirement.
Rollovers
If the investment options of your former employer’s plan appeal to you, no need exists for rolling them over; simply keep contributing as usual once you leave that company.
When switching IRA providers, be sure to do a direct rollover. This is the preferred method as your previous 401(k) will send a check directly to the new custodian with nothing held back for taxes. Indirect rollovers must be deposited within 60 days or else IRS taxes it.
If your 401(k) plan contains employer stock, rolling over to an IRA can help eliminate double taxation that you would experience by distributing and reinvested. Unfortunately, however, you will lose access to net unrealized appreciation (NUA). In general, one direct or indirect rollover to an IRA per 12-month period.
Eligibility
Roth conversion may make sense in certain instances. For instance, if your income tax rate will likely be higher after retirement than it is now, converting some or all of your pre-tax IRA balances into Roth accounts might make financial sense.
Converting may make sense if you are moving to a state with lower income tax rates; if none exists at all in your new location, however, waiting until residency has been established would likely be prudent before making this move.
The IRS treats all your traditional IRAs (excluding inherited IRAs ) as one account for purposes of calculating whether any funds you roll over into Roth are taxable, an approach known as the Aggregation Rule which can make conversions more complex as well as jeopardize your eligibility for financial aid for college students since converted funds are considered taxable income.
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