A majority of Americans have their retirement savings in
qualified retirement accounts like 401(k)/403(b) plans and Traditional IRAs,
and it's no wonder; it's meaningful to take advantage of employer matching and
pre-tax contributions, which help save on income taxes in the current year.
There are two major trends underway, however, which will
affect Americans' planning considerations in the years ahead.
First, there's a largescale demographic shift in the Baby
Boomer generation, which peaked in 1960. An
article from the Federal Bank of St. Louis estimates that in 2025, when
those born in 1960 will have reached age 65, more than 170,000 people will
retire every month. As those
retirees enter the work-optional phase of life, they'll be presented with a
choice of what to do with the funds they've accumulated in their retirement
accounts: how to spend, whether to keep them inside the plan or roll over to
Traditional IRAs, and possibly whether to do Roth conversions.
Additionally, the Tax Cuts and Jobs Act (TCJA), which went
into law at the beginning of 2018, had a radical - but often overlooked -
effect on retirement accounts inherited by non-spouses. Whereas before, a
non-spouse beneficiary (like a child or grandchild) could spread RMDs out over their
lifetime, helping that account to last in near-perpetuity, they now have to
pull it all out within 10 years (5 years for trusts). The IRS sees big dollar
signs here, but it's not nearly as favorable for your heirs…
It'll depend on your individual circumstances, but this
confluence of factors makes it worth reconsidering the Roth conversion.
Especially if you're approaching retirement and in a lower tax bracket than
your heirs who may be in their prime working (and tax-paying!) years.
Attention to those considering this, though! You may have
heard of the 5-year rule for Roth IRAs, but there are really two separate ones:
one for Roth contributions and another for Roth conversions.
In short, your Roth principal (the amount you've
contributed) is free for you to withdraw at any point, but the growth may
be subject to tax and penalty if you withdraw it before your Roth account has
been opened for 5 tax years (if you make a prior year contribution
between January 1 and mid-April of the following year, that does count as a
contribution for the prior tax year - and thus counts toward the 5 year clock).
The IRS aggregates all Roth accounts [ex-Roth 401(k)s!] in calculating this
Unlike contributions, each individual conversion starts its
own clock for the 5 year window! Something to keep in mind if you do make
conversions before your full retirement age. A tip for the wise: if you're at
least 59 ½, this is irrelevant, since the IRS allows tax-free Roth withdrawals
past that age. (Note that the 5 year contribution rule would still
It's enough to make your mind spin, but the government put
these rules in place to prevent taxpayers from abusing the Roth rules. At any
rate, being able to convert pre-tax funds to Roth in the years ahead may be a
very wise move if your (and your family's) time horizon justifies it. Roth IRAs
are still subject to the 10 year non-spouse inheritance rules, but Roth
disbursements - unlike Traditional IRAs - would nonetheless be tax-free to
If you or someone you know has been mulling this over, or if
this is a new concept that you'd like to explore in more detail, don't hesitate
to reach out. We're here to help!