Am I Able To Do A Roth Conversion? This is Often Misunderstood. - Cravitz Financial & Insurance Solutions

Am I Able To Do A Roth Conversion? This is Often Misunderstood.

There's a lot of confusion around how conversions and contributions work with Roth IRA's. A question I was just asked was "can I convert $50,000 from my Traditional IRA to a Roth?" I thought there was maximum I could put in a Roth each year." In this video I answer this question and go over some key things to know when it comes to doing a Roth IRA conversion. 

Full Transcript

How's it going everybody. It's Ryan here. Okay, so I want to share with you all a question that I received earlier today. Here was the question. "Ryan, I know we're looking at converting maybe 40 or 50,000, or maybe even more of my traditional IRA over to a Roth IRA, but can I even do that? Because I thought that there were maximum limits that I'm allowed to contribute to a Roth IRA all in the same year." So it's a great question because it brings up some common areas of confusion around the rules when it comes to conversions and contributions and that sort of thing. So let me just talk through a couple of the important things to know here. The answer of course, was that yes, definitely he could convert that amount. And in fact, there are no limits as to how much you can convert in any one year.

So give you an example. Let's say you have a traditional IRA. There's a million dollars in it. You can convert the full million dollar IRA all in the same year if you want to. Now, you may not want to, because you have to pay taxes on the amount that you convert. So you may not want to pay taxes on the full million all in the same year. You may want to consider a partial conversion perhaps. But, you're definitely allowed to do it. Also, you can do a Roth IRA conversion at any age. It doesn't matter if you're under or over 59 and a half. Doesn't matter whether you're working or not working. None of that matters. Now, here's a couple important points though, in some areas of confusion about this, is that first off, if you're at an age when you have to start taking out your required minimum distribution, or RMD for short.

So real quick, if you're not familiar with what an RMD is, when you hit the age now is 72, you'll have to start taking out a required minimum amount from your IRA and/or other types of qualified retirement accounts. Again, once you hit the age of 72. So there's certain amounts that you have to take out each year. So it's, you know, 72, 73, 74, and so on. Every year thereafter, you have to take out a certain amount. And so if you are at an age where you have to start taking out your RMD, which by the way, one other quick caveat, in 2020 there are no RMDs. Okay? So because of the Cares Act was passed earlier this year. But going forward, the way the rules are now, you will need to take out an RMD if you're 72 or over.

All right. So can you do a Roth conversion on the RMD amount? The answer is no. Simple example. Let's say you have $100,000 IRA, traditional IRA, and you have to take out an RMD, and let's say your RMD is for $5,000. Well, you have to take out your $5,000 RMD first, and you can put that into savings account, maybe a taxable brokerage account, something like that, but you cannot move that over into the Roth IRA. What you can do for the remaining $95,000, that's now still in the traditional IRA, you can convert that amount all in the same year, if you want to do that. Okay? So that's important to know. Another thing that's important to know is that if you're doing the conversion, I highly recommend, except in maybe some one-off situations that you have the money to pay the taxes for that conversion in just a savings account, something in an account certainly that's outside of your IRA.

Because if you have to get the money to pay the taxes, and you don't have it in an account outside of your IRA, and now maybe you're looking for the money to pay the tax from your IRA, your traditional IRA, well you're going to have to take out money to pay the tax, and you're going to have to pay taxes on the money that you took out in order to pay the tax.

So I know that's a mouthful and it can definitely be confusing. But the important thing to know is I highly recommend have that money sitting aside in a savings account just to pay the tax on the conversion. You don't want to take additional money from your IRA in order to pay the tax. And it's even worse, by the way, if you're under 59 and a half, because if you're under 59 and a half, understand that you're allowed to do the conversion. There is no 10% penalty to do the conversion. So you're going to convert, let's say $50,000. You can do that and there'll penalty attached with it. But let's say that there's a, I don't know, a $10,000 tax associated with it. With doing the conversion at the end of the year, when you go to do your taxes, you go to take that $10,000 out of your IRA in order to pay the tax, you're going to have to pay taxes on the 10,000 to get it, plus your going to have to pay that 10% penalty.

Okay. That's why I recommend you have that money sitting over there in a savings account if you're planning to do a Roth conversion. Money outside of the IRA account. Okay? So hopefully all that makes sense. Okay, and a couple key things to understand about contributions. So if you're strictly making a contribution, assuming that you're allowed to make a contribution, and I don't want to get into all the rules here in this video, but know that you've got to have earned income. There's also maximum amounts of earned income that you're allowed to have in order to even make a contribution. Also, you don't necessarily have to have earned income actually, but as long as your spouse does, they can do a spousal IRA for you or a spousal IRA contribution for you.

So there's different rules around whether you're allowed to make a contribution.. But if you are, the maximum that you can contribute is up to $6,000 if you're under 50, and $7,000 if you're 50 or over. Okay, so hopefully that all makes sense. Hopefully that was helpful and maybe cleared up any confusion that perhaps you may have when it comes to doing the conversion, and whether you're allowed to, and that sort of thing. And how it compares to a contribution. But if you have questions on this, let me know. Take care. Talk soon.


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