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High Income Earners & Roth Conversion


Roth IRAs are tax-free, making them popular, but a married couple is ineligible to contribute to a Roth if they earned more than $199,000.00 of modified adjusted gross income in 2018 ($135,000.00, if single).  A "backdoor" around this limit enables taxpayers to convert traditional IRA assets into tax-free Roth IRA accounts, even if the taxpayer is over the income limit.  However, there is the a strategic approach for maximizing the backdoor route to get tax-free Roth treatment with the least amount of conversion-tax.


When a traditional IRA is converted to a Roth account, the taxpayer is required to pay income tax on the income withdrawn from a traditional IRA.  If cash on hand is not available to pay the extra income tax that will be owed next April 15th, then converting now probably should be forgotten about; withdrawing a larger sum to pay for the income taxes is a risky financial bet and is generally unwise.


If the cash is on hand to pay the extra income tax that will be owed in the year the withdrawal is made the traditional IRA to make the conversion to the Roth, then the next move is maximizing one’s income tax bracket.  For example, if one’s taxable income is $177,500.00 after making a $100,000.00 withdrawal from the traditional IRA, consider lowering the amount to be converted to avoid being pushed you into the 32.0% bracket.  Reducing a $130,000.00 contribution to a Roth by $30,000.00 lowers one’s maximum tax bracket to 24.0%, for example, maximizing the benefit of the 24.0% bracket.


Due to the stock market's performance in 2018, taxpayers may be able to convert a traditional IRA to a Roth with little or no tax taxes.  If a traditional IRA is funded with after-tax income in late 2017 or 2018, its fair market value may be lower now than the amount contributed, which could be converted from a traditional IRA account to a Roth tax-free!


For clarification, if after-tax contributions are made into an IRA in 2017 or 2018 and it's shown little or no appreciation, consider converting that IRA to a tax-free Roth IRA.  The taxpayer will owe little or no additional income tax on the conversion and — unlike the traditional IRA — the Roth will create tax-free income upon withdrawal.


Want to evaluate a Roth IRA conversion?  Please contact Legend’s office because this is a technical tax topic that requires specialized tax advice.


Please note that the reader should discuss all strategies stated above with their accountant and/or legal advisor before implementing any of the strategies.


Legend Financial Advisors, Inc.®(Legend) is not a tax or legal advisor.  It is Legend’s intention to merely present ideas and strategies to readers to discuss with their own tax and legal advisors or in conjunction with Legend’s advisors.

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