Your Guide to Roth Conversions

Roth Conversions are one the most asked about topics when I do live seminars or meet with folks needing help with Tax Planning. After years of speaking with individuals and their families about this topic, I wanted to boil it down into an easy to digest article that will hopefully shed some light on this unique tax strategy.

As someone approaches retirement, one of the most important questions to ask themselves is:

Will I need to draw from your retirement savings to cover my everyday expenses?

For most retirees, the answer is a clear yes. But that leads to another, often overlooked question:

Will my tax rate be higher in retirement than it is today?

At first, that might seem unlikely. After all, retirement is when many people expect to be in a lower tax bracket. But for a surprising number of retirees, tax bills actually go up. In this article I will explore why—and what someone can do about it.

What Is a Roth Conversion?

A Roth conversion involves transferring funds from a pre-tax retirement account, such as a traditional IRA or 401(k), into a Roth IRA or Roth 401(k). When someone performs this conversion, they pay income taxes on the amount converted in the year of the transfer. However, once the funds are in the Roth IRA, they grow tax-free, and qualified withdrawals in retirement are also tax-free.

This strategy can be particularly advantageous if they anticipate being in a higher tax bracket during retirement. By paying taxes now at a potentially lower rate, they can avoid higher taxes on withdrawals later. Additionally, Roth IRAs are not subject to required minimum distributions (RMDs), allowing their investments to grow uninterrupted, and they can be passed on to heirs tax-free.

Why Someone's Taxes Might Be Higher in Retirement

There are several reasons why someone's tax rate could rise once they leave the workforce:

1. Most of their Savings Are in Pre-Tax Accounts

If their nest egg is primarily in a 401(k) or traditional IRA, every dollar they withdraw in retirement is taxed as ordinary income. That means large distributions can push them into higher tax brackets—especially if they have few other deductions to offset it.

2. They Have a Major One-Time Expense

Big-ticket spending like a home renovation, new car, or dream vacation can trigger large account withdrawals, unexpectedly pushing them into a higher bracket for that year.

3. Tax Rates Go Up

It’s not just about their income—tax law can change, too. The current historically low federal tax rates are set to expire after 2025, unless Congress acts. And if national debt or spending priorities shift, tax rates could go higher. For context: the top federal income tax rate after World War II hit 90% (Tax Foundation).

So, When Do Roth Conversions Make Sense?

Let’s walk through a few fictional—but realistic—examples to see when a Roth conversion might be worth exploring.

🧓 Case Study #1: The Early Retiree in a Tax Sweet Spot

Lisa, age 62. She just retired from her corporate job and won’t begin Social Security until age 67. Her income now is very low, with only modest interest and dividends. She’s living off a mix of savings and a part-time consulting gig.

Why a Roth conversion makes sense now:

• Lisa is in a low tax bracket (perhaps the 12% bracket).

• She has plenty of non-retirement cash to pay the tax on a conversion.

• Once RMDs start at age 73, her income will jump significantly.

  
  

Lisa's move: She converts $50,000 of her traditional IRA to a Roth each year over the next five years, filling up her 12% bracket and preemptively reducing future RMDs.

Result: Lower lifetime tax bills and more tax-free growth.

🏡 Case Study #2: The Retiree Planning a Big Renovation

Mark and Dana, a retired couple, both age 70. They’re planning a $100,000 kitchen and bath remodel next year, which will require a large IRA withdrawal.

The issue: That large withdrawal will push them into the 32% tax bracket—and increase their Medicare premiums two years later.

Their strategy: Convert $50,000 this year while they’re still in the 22% bracket. Then fund part of the renovation next year with Roth money (tax-free), and the rest with smaller IRA withdrawals to minimize the tax spike.

Result: A smoother tax bill and better control over their Medicare IRMAA (Income-Related Monthly Adjustment Amount) premiums.

👨‍👩‍👧 Case Study #3: The Legacy-Focused Grandparent

Robert, age 75, who doesn’t need his IRA to fund his lifestyle. His pension and Social Security cover his expenses, and his goal is to leave as much as possible to his children and grandchildren.

Why a Roth makes sense:

• He doesn’t need the money but is forced to take RMDs from his IRA.

• His children are in their peak earning years and will inherit his IRA in a high bracket.

  
  

Robert's solution: He uses extra cash to pay the tax and convert additional IRA funds to a Roth. No more RMDs, and his heirs inherit a tax-free asset. Keep in mind, Roth Conversions do not satisfy RMDs so if he was past the age when his RMDs started he would have to take that into account. He could still do the Roth conversion but it would additional income on top of his RMD assuming he doesn't gift his RMD to charity.

Result: A smarter legacy—and less of it lost to taxes.

How to Pay the Taxes on a Roth Conversion

When someone converts pre-tax retirement funds to a Roth IRA, the converted amount is treated as taxable income for that year. It's crucial to plan how they'll pay the resulting tax bill. Here are three common methods:

1. Pay with Cash from Outside Retirement Accounts

Overview: Use funds from a non-retirement account (like a savings or brokerage account) to pay the taxes owed on the conversion.

Advantages:

• Maximizes Roth Growth: By paying taxes with external funds, the entire converted amount remains in the Roth IRA, allowing for more tax-free growth over time.

  
  

• Avoids Early Withdrawal Penalties: Especially important if they're under 59½, as withdrawing funds from retirement accounts to pay taxes could incur a 10% penalty.

  
  

Considerations:

• Requires sufficient liquidity outside of retirement accounts.

• May impact their cash flow or emergency savings.

  
  

2. Withhold Taxes from the Conversion Amount

Overview: Elect to have taxes withheld directly from the amount being converted. For example, if someone converts $100,000 and withholds 20% for taxes, only $80,000 is deposited into their Roth IRA.

Example: Converting $100,000 with 20% withholding results in $80,000 in the Roth IRA. This is not as advantageous as the first option because you are taking "logs off of the fire" by taking money from the conversion to pay the IRS. In this example, in order to get back to where they started before the conversion the $80,000 would need to grow by 25%, which could take several years.

Advantages:

• Simplifies Tax Payment: Taxes are paid immediately, reducing the need for separate estimated payments.

  
  

Disadvantages:

• Reduces Roth Contribution: Less money goes into the Roth IRA, diminishing potential tax-free growth.

  
  

• Potential Penalties: If they're under 59½, the withheld amount may be considered an early distribution, subject to a 10% penalty.

  
  

3. Increase Withholding from Their Paycheck

Overview: If they're still employed, they can adjust their tax witholding at work by asking their employer to increase tax withholding from their paycheck to cover the taxes owed on the Roth conversion.

Example: Suppose someone plans to convert $100,000 and anticipate a $20,000 tax liability. If they have 26 pay periods remaining in the year, they could increase their withholding by approximately $770 per paycheck to cover the tax bill.

Advantages:

• Spreads Tax Payment: Distributes the tax burden over the year, easing cash flow.

• Avoids Estimated Payments: Helps prevent underpayment penalties without making separate tax payments.

Considerations:

• Requires proactive planning and coordination with their employer's payroll department.

• May reduce their take-home pay, impacting monthly budgeting.

But Be Careful: Roth Conversions Come with Caveats

Before jumping in, be aware of a few key rules and potential pitfalls.

🚧 The Five-Year Rule

Each Roth conversion must remain in the account for at least five years before you can withdraw the converted amount penalty-free (unless you're over 59½—then only the earnings are subject to the rule).

🚧 Temporary Income Spike

The converted amount is taxed as ordinary income, which could:

• Increase their Medicare premiums

• Push them into a higher tax bracket

• Disqualify them from ACA subsidies (if they’re under 65)

• Affect college financial aid if they're supporting a grandchild’s education

  
  

🚧 Underpayment Penalties

If someone performs a Roth conversion early in the year and delays paying the associated taxes until the end of the year, they may face underpayment penalties. To avoid penalties, they can:

• Do the Conversion at the end of the year.

• Make estimated tax payments in the appropriate quarters if they do make the conversion early in the year.

• Adjust their withholding to account for the additional income if they are still working.

• Consult with a tax professional to ensure compliance and avoid unexpected penalties.

  
  

Final Thoughts

Roth conversions aren’t a one-size-fits-all solution. But if someone expects their tax rate to rise—either due to RMDs, one-time spending, or potential tax law changes—and they have the funds to cover the tax bill, it’s worth a closer look.

A smart Roth conversion strategy can help:

• Reduce taxes over their lifetime

• Protect their heirs from big tax hits

• Give them more flexibility in retirement

  
  

Need Help Making the Numbers Work?

Tax-smart retirement planning is all about timing and balance. If you’d like to explore whether Roth conversions make sense for your situation, connect with a qualified financial advisor—or speak with your tax advisor.

About The Author

Marc Lowe is the Founder & President of In The Money Retirement Planning. He is a Certified Financial Planner and member of NAPFA National Association of Personal Financial Advisors, XY Planning Network & Fee-Only Network. He works with retirees and those approaching retirement. He has over a decade of experience helping these folks grow their net worth, organize their finances and build better lives for themselves and their families.

CEO & Founder of In The Money Retirement Planning

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