The Benefits Of Converting A Traditional IRA To A Roth IRA

Converting a traditional Individual Retirement Account (IRA) to a Roth IRA can be an effective wealth management strategy to protect your retirement savings from future tax increases. There are several reasons why you might opt for a Roth conversion. Converting a traditional IRA to a Roth IRA enables you to enjoy tax-free withdrawals during retirement, your money can grow tax-free for longer, and you can leave a tax-free inheritance to your heirs. 

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However, this is not a financial decision to be taken lightly. There are notable tax considerations and implications, as well as pitfalls and trapdoors, that you have to look out for. As such, it’s imperative to enlist the services of a financial advisor to guide you through this nuanced wealth management strategy. Herein is a comprehensive overview of everything you need to know about initiating a Roth IRA conversion.

The Process of Converting a Traditional IRA to a Roth IRA

Converting a portion or the entirety of a traditional IRA to a Roth IRA is a relatively straightforward process. There are two main ways to go about a Roth IRA conversion. 

1. Direct Rollover

An IRA rollover refers to the transfer of funds from your retirement account into a traditional IRA or Roth IRA. You can do a rollover by check or through a direct transfer. The custodian of the distributing account writes to you then you deposit it into an IRA account. 

IRA rollovers can occur as an IRA-to-IRA transfer, allowing you to switch to an IRA with better investment choices or benefits. During a Roth IRA conversion, you take distributions from your traditional IRA and deposit the check-in a Roth account. You have to complete the rollover process within 60 days. Failure to do so may subject you to income tax on the amount and a 10 per cent penalty.

2. Trustee Transfer

You also have the option of requesting the financial institution holding your IRA to directly transfer your distribution from a traditional IRA to a Roth IRA. The IRS doesn’t withhold any taxes from your transfer amount. Trustee transfer can take two forms. Same trustee transfer involves transferring funds to a Roth account at the same institution holding your traditional IRA. 

The trustee-to-trustee transfer involves transferring funds from your traditional IRA to a Roth account at a different financial institution. In this method of Roth IRA conversion, you also have 60 days from the date you receive your traditional IRA distribution to roll it over to the Roth IRA. Note that the IRS can waive the 60-day rollover rule in some special circumstances. This may happen if circumstances beyond your control cause you to miss the deadline.

Its worth noting that whichever Roth IRA conversion method you go for, The IRS requires you to report the conversion when you file your income taxes that year via Form 8606: Nondeductible IRAs.

Tax Implications of Roth IRA Conversions

When converting a Traditional IRA to a Roth IRA, you will still have to pay taxes on funds in the traditional IRA that haven’t been taxed already. Let’s say you contribute $6,000 to your traditional IRA and claim a deduction for that amount on your tax return. If you transfer the $6,000 to your Roth IRA, you will owe taxes on that amount.

In addition, you will owe taxes on the money your IRA contribution earns between the date you contributed to your traditional IRA and the date you converted to your Roth IRA. However, if you contribute nondeductible and non-taxable funds (after-tax contributions) to your traditional IRA, the amount won’t be taxed when you convert it to a Roth IRA.

If most of the contributions to your traditional IRA came from your income, and if the account accumulated earnings that have appreciated over time, most of the funds that you convert to your Roth IRA will probably count as taxable income at the conversion date. This scenario could push you into a higher tax bracket that year.

Roth IRA Conversion Limits

As of 2021 and 2022, you are only allowed to directly contribute $6,000 to your Roth IRA, or $7,000 if you are above the age of 50. However, there is no limit to the amount you can transfer from tax-deferred savings to a Roth IRA in one year. You are allowed to make only one rollover in any one-year period from your traditional IRA to another traditional IRA. This one-year limit does not apply for Roth IRA rollover conversions. 

As such, you can rollover the entirety of your tax-deferred savings at once. However, a financial advisor wouldn’t recommend doing as you can push a portion of your income into a higher tax bracket and incur hefty taxes as a result. It is advisable to execute your conversions over several years, preferably when your income is lower. This way, you may end up paying less tax on each converted unit amount.

The Five-Year Rule

The government considers the funds you transfer into your Roth IRA as converted funds and not contributions. This necessitates the five-year rule, which stipulates that if you are under 59 and a half years old, you have to leave the converted funds in your Roth IRA for at least five years before you can withdraw penalty-free. Withdrawal before the stipulated time incurs a 10 per cent early withdrawal penalty. 

Note that the five-year period starts at the beginning of the calendar year that you made the conversion. If you converted a traditional IRA to a Roth IRA in August 2021, you could withdraw the funds penalty-free on January 2026. Every conversion is individually subject to the five-year rule if you undertake several Roth IRA conversions in different years.


Overall, deciding to convert a traditional IRA to a Roth IRA hinges on factors including current vs later tax rates, the tax bill you’ll incur to convert, and your future plans for your estate. It’s important to consider the pros and cons of a Roth IRA conversion, especially if you plan on transferring the entirety of your traditional IRA funds. 

As of 2018, following the Tax Cuts and Jobs Act, you cannot recharacterize the converted funds in your Roth IRA back to a traditional IRA. This means a Roth IRA conversion is permanent. It would be best to consult a financial advisor to guide you on all the considerations before making your decision.

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