Business, Legal & Accounting Glossary
A Roth IRA conversion is the conversion of an individual retirement account (IRA) to a Roth IRA. The following IRAs are eligible for a Roth IRA conversion: Traditional IRA, SIMPLE IRA (i.e. Savings Incentive Match Plan for Employees IRA), SEP IRA (i.e. Simplified Employee Pension IRA), and SARTSEP (i.e. Salary Reduction Simplified Employee Pension Plan). There are tax consequences for making a Roth IRA conversion. Contributions to an IRA are usually not taxed but contributions to a Roth IRA are. However, there can be tax advantages to a Roth IRA conversion. Indeed, a taxpayer anticipating a higher tax bracket at the time of his IRA distributions can lock in his tax burden on the IRA money at the time of the Roth IRA conversion. In this case, the Roth IRA conversion can result in tax savings in the long run. On the other hand, if an individual is already in the top tax bracket, a Roth IRA conversion may not offer tax savings. Also, depending on how much is converted, a Roth IRA conversion could bump you into a higher marginal tax rate.
A Roth IRA conversion can also require you to make estimated quarterly tax payments. Until December 31, 2009, any Roth IRA conversion was subject to income limitations (i.e. Modified Adjusted Gross Income or MAGI less than $100,000) and filing status restrictions (i.e. married filing separately taxpayers are not eligible). The Tax Increase Prevention and Reconciliation Act of 2005 (i.e. TIPRA) lifted those Roth IRA conversion requirements. Starting in January 1, 2010, there is no more maximum income limit (i.e. note that this only applies to Roth IRA conversion, not Roth IRA contribution where AGI limits still apply) and tax-filing status restrictions. Further, the tax obligation incurred in 2010 as a result of a Roth IRA conversion can be spread, unless elected otherwise by the taxpayer’s, over the following two years. A Roth IRA conversion is not the same thing as a Roth IRA<IRA rollover, however, because it does not enjoy tax-free status.
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This glossary post was last updated: 6th February, 2020