As the dust begins to settle from the 2024 presidential election, many of us wonder about potential changes to tax policy. One of the planning strategies that may be impacted is Roth conversions. While we likely need to wait until 2025 for additional certainty, understanding the potential shifts in tax law can help guide your decisions about whether and how much Roth conversion might be right for you.
As a reminder, we use Roth conversions to move money from a pre-tax IRA to an after-tax Roth IRA, paying taxes on pre-tax IRA withdrawals now, rather than later. By optimizing the timing of your tax payments, you can reduce your overall lifetime liability. Many clients have asked how the upcoming political changes impact our thinking about whether to, and how much to convert to Roth.
Please note: This article is for informational purposes only and should not be considered tax advice. Always consult with a qualified tax professional for personalized guidance.
What do we know about Roth conversions?
Our thinking about Roth conversions is influenced by (at least) the following factors. Many of these factors do not have easily predictable answers, so we must do our best with imperfect information.
- Will tax rates / brackets increase, stay the same, or decrease in the future?
- What tax bracket are you in now and what bracket will you be in when you withdraw your income?
- What is the mix of your current account structure between taxable, tax-deferred, and tax-free assets?
- Will pre-tax IRA RMDs push you into a higher tax bracket?
- Will pre-tax IRA RMDs raise your income enough to increase your Medicare part B & D premiums through Income Related Monthly Adjustment Amounts (IRMAA)?
- Will pre-tax IRA RMDs increase your capital gains rate?
- Do you have assets you do not plan to spend in your financial plan, and what tax rate will beneficiaries pay if they inherit your pre-tax IRAs?
- How many years will you live?
- If married, is it likely one spouse will have a longer retirement, leaving a surviving spouse to file as single with similar income as when you filed jointly?
- What rate of return will you receive on your invested assets?
When we discuss Roth conversions, intuition tends not to be very helpful. Increases in income from a Roth conversion can have trickle-down effects in unanticipated ways.
What has changed since the election?
We now know that Donald Trump will be President and Republicans will control both the House and Senate. We also know that Donald Trump has discussed a priority to reduce taxes for individuals and corporations. In 2018, during his first presidency, much of the Tax Cuts and Jobs Act (TCJA) went into effect, which among other changes, reduced marginal income tax brackets. The TCJA passed through reconciliation and was never designed to be permanent. Without further action, it will expire at the end of 2025.
With Trump’s reelection, another round of reconciliation may extend many of the changes from the original TCJA. Permanent tax reform is unlikely in the near term, as Republicans have 53 of the 60 votes needed in Congress.
How might an extension of the TCJA change your Roth conversion strategy?
An extension of the TCJA is likely to have an impact mostly on the first two factors – what are current and future tax rates, and will your tax bracket be higher now or when you withdraw? If you believe tax rates will go up in the future, an extension of the TCJA may provide an additional period to convert while rates are relatively low. Although reduced future tax rates weaken the case for Roth conversions, there are still many factors which cause conversions to make sense.
There is no one-size-fits-all when it comes to Roth conversions – you must run your numbers to get the correct answer. Absent a working crystal ball, the best many of us can do is make the Roth conversion decision one year at a time and adjust as added information arrives. Working with an accountant can help to decide precise amounts to convert and the impact on your current year’s tax return. If you have questions about a Roth conversion you already completed or a planned last-minute conversion for 2024, please reach out to your Sensible Financial advisor.
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