Should You Do a Roth Conversion Before You Retire?

A traditional 401(k) or IRA looks like a straightforward pile of money until you start pulling from it. Every dollar you withdraw counts as ordinary income the year you take it, and required minimum distributions eventually force withdrawals whether you need the cash or not. A Roth conversion moves money out of that pile now, pays the tax on it now, and lets it grow untaxed from then on.

That trade isn't automatically a good one. It depends on your current tax bracket, what you expect your future bracket to look like, and whether you can pay the conversion tax without touching the money you're converting. Naming your own numbers is the first step to answering it honestly.

What a Conversion Actually Does

Converting moves money from a traditional 401(k) or IRA into a Roth IRA. The amount you convert is added to your taxable income for that year, taxed at your ordinary rate, with no early-withdrawal penalty even if you're under 59 and a half. There's no income limit on conversions, unlike Roth contributions, so this door stays open no matter how much you earn in retirement.

Once the money is in the Roth, it grows tax-free, and the original owner never has to take a required minimum distribution from it during their lifetime. That last point is worth sitting with. A traditional account forces withdrawals starting at a set age. A Roth account you own never does.

If your first required withdrawal is coming up regardless of what you decide here, Turning 73: What Your First Required Minimum Distribution Means for Your Taxes covers that deadline directly.

The Cost That Catches People Off Guard

Paying the conversion tax out of the converted account itself shrinks the amount that actually reaches the Roth and can trigger an early-withdrawal penalty on the portion used for tax if you're under 59 and a half. Paying it from savings outside the retirement account is what makes a conversion worth doing in the first place.

There's a second cost that has nothing to do with your tax bracket: Medicare's income-related monthly adjustment amount, IRMAA, is based on your tax return from two years earlier. A large conversion this year can raise your Medicare Part B and Part D premiums two years from now, even if your income drops right back down the following year.

Who a Conversion Actually Helps

A conversion tends to help most when your tax bracket now is lower than the bracket you expect once required withdrawals and Social Security combine later, when you want to leave tax-free money to heirs instead of an account that forces them into withdrawals on a shorter schedule, or when a year with unusually low income, a gap year before Social Security starts, gives you room to convert at a lower rate than usual.

It tends to help less when converting would push you into a materially higher bracket right now, when you'll need the converted money within the next few years, or when the tax bill would have to come out of the retirement account itself.

For the tax mistakes that trip up retirees regardless of whether they convert anything, The Retirement Tax Mistakes That Quietly Cost You Thousands covers the three that come up most.