Smart Financial Moves to Protect Your Investments in a Pandemic Economy: Traditional to Roth IRA Conversion Strategies

Investments everywhere are taking a significant hit in the wake of the COVID-19 pandemic, but there are still smart financial moves you can make to minimize the impact and protect future investment growth. A down market creates opportunities for those who can see beyond the current situation; one of those opportunities is converting from a traditional IRA to a Roth IRA. This can be a smart financial strategy for several reasons, which are outlined below.

Traditional IRA vs. Roth IRA

First, let’s take a look at the differences between a traditional IRA and a Roth IRA. With a traditional IRA, contributions are made with pre-tax dollars and taxes on investment growth are deferred, offering a substantial tax savings as you plan for your retirement. Once you reach retirement age, you’re required to make regular withdrawals (required minimum distributions, or RMDs), which are taxed by the Internal Revenue Service at your current tax rate. For many, the tax bracket in retirement is likely to be lower than during peak earning years – but that’s not true for everyone.

With a Roth IRA, no taxes are assessed on withdrawals, and there are no required minimum distributions provided you have owned the account for at least five years and are at least 59 ½ years old, so your investments can keep growing indefinitely. You can also pass Roth IRAs down to your beneficiaries, and they will not be assessed taxes on any withdrawals, either.

While Roth IRAs are an outstanding investment option for many, they have their drawbacks as well. Roth IRA contributions are not tax-deductible; they are made with after-tax dollars. There are also income limitations, which means they’re not the right strategy for many investors.

Roth IRA Conversion

While income limitations may prevent you from opening a Roth IRA, you can still convert a traditional IRA to a Roth IRA; this is often referred to as a backdoor Roth IRA. There are no limitations on the amount of money you can convert to a Roth IRA, but be aware that the IRS considers funds converted to a Roth IRA to be taxable income – so you can incur a substantial tax burden in the year you make the conversion.

Still, A Roth IRA can be a smart investment strategy for individuals who may be in a higher tax bracket following retirement, because assets are not taxed at the time of withdrawal. It’s important to weigh the impact of making the conversion now against your anticipated tax bracket in retirement. There’s no way to know this for certain, of course, because no one can predict future legislative moves and how they’ll impact tax law. But we can make educated assessments.

Why Now May Be the Right Time to Convert

If you’re going to convert to a Roth IRA, now is an excellent time to make that move. A conversion in a down market – like the one we’re experiencing in the wake of COVID-19 – reduces the tax burden due to the devaluation of the IRA’s market value. If the coming recovery resembles previous recoveries, the market value of your Roth IRA returns and that growth is tax-free for you and for your heirs.

Choosing the Right Investments for Your Roth IRA

Once you decided to make the move and decide what assets you want to convert, consider your investment options carefully to ensure you’re choosing the right ones to optimize your long-term growth strategy and get the maximum benefit from the change.

A Strategy for Business Owners

The massive financial impact of the global pandemic means many businesses will end up with economic losses for 2020. As such, the conversion of a traditional IRA to a Roth IRA could be sheltered (tax-free) by marrying your business tax losses to the taxable gain on the conversion. This approach is of course governed by substantial rules and should be navigated with expert help.

Determining if Conversion is The Right Strategy for You

There are many factors that determine whether a Roth IRA conversion is the right financial move, as every situation is unique. To gain maximum benefit and minimize your tax burden, talk with one of our Barnes Dennig Financial Services experts.

In addition to determining if a Roth IRA conversion is the right strategy for you, we can also help you evaluate your portfolio, determine if investments have reached their maximum value, and what diversification opportunities you may be missing as well as help determine the optimal investment choices for your long-term growth strategy.

Additional Resources

Visit Barnes Dennig’s COVID-19 Advisory Page for a comprehensive list of news and updates.

Use the contact form on this page to connect with us today, and start making the most of your financial opportunities.