To convert or not to convert

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There has been a lot of discussion this year on whether or not someone who currently has a traditional IRA should convert it into a Roth IRA.  
In this column we will take a look at how Roth IRAs work, and if it makes sense to convert your IRA into a Roth.
First, let’s take a look at a brief history of Roth IRAs. Roth IRAs were established in 1997 as part of the Taxpayer Relief Act to offer another way for Americans to save for retirement.
Although contribution limits are the same with Traditional and Roth IRAs, there are some major differences.
Roth IRAs offer the following benefits:
 Contributions are made after tax, so earnings grow tax-free. after a five year holding period distributions are tax-free. There are no required minimum distributions.
As long as you have earned income you can still make contributions to a Roth IRA after age 70.5. A spouse can roll their spouse’s Roth IRA into their own Roth.
There is a possibility that you may owe less on Social Security taxes, since distributions are not included in calculations that determine if Social Security benefits are taxable.
In 2010, the Tax Increase Prevention and Reconciliation Act of 2005 eliminated the $100,000 modified adjusted gross income and tax filing status limitations for conversions to Roth IRAs from traditional IRAs and employer sponsored retirement plans.
Now comes the question, do I convert into a Roth IRA, and if so how am I going to pay the taxes?
There are several variables you should be aware of before making the decision on converting into a Roth IRA from a traditional IRA.
Ask yourself these questions before you decide.
•Do I believe that taxes will be higher when I am ready to retire?
•Do I have non-retirement funds that can be used to pay my conversion taxes?
•Will I pay all of my conversion taxes in 2010 or defer them to 2011 and 2012?
•Do I have at least five years or more before I am ready to retire?
•Will the conversion put me into a higher tax bracket?
Taxes may be higher in 2011 and 2012 than they are now. Unless Congress passes new tax legislation the top four tax brackets will be as follows:

Current Levels – 25 percent, 28 percent, 33 percent and 35 percent.
New Levels – 28 percent, 31 percent, 36 percent and 39.6 percent    

Now let’s take a look at the different conversion methods. There are three ways you can convert your traditional IRA into a Roth IRA.
First, you can do a rollover; you will receive a distribution and roll it into a Roth IRA within 60 days.
Second, there is a trustee to trustee transfer, which is a direct transfer from your current traditional IRA to a new Roth IRA trustee.
Lastly, there is a same trustee transfer, which is an in-house transfer from your traditional to your Roth.
Finally, let’s say you do convert and later on, you change your mind. Believe it or not, the government has put in a ‘Do Over’ clause. You can convert back to a traditional IRA should circumstances change such as taxes put you into a higher tax bracket or the stock market goes down and affects the Roth’s value. The deadline to convert back is the due date for your tax filing, including any extensions for the year of conversion.
To sum it all up, it may or may not make sense for you to convert.
Before making any decisions you should consult with a financial professional to determine if a conversion is right for you.

Bob Joseph is an
investment officer for Los Alamos National Bank