IRAs are one of the tax-advantaged ways to save and invest for retirement. Withdrawals during retirement from a traditional IRA are taxable as ordinary income. Withdrawals from a Roth IRA during retirement, however, are tax-free. This additional tax savings provides an incentive to convert IRAs to Roth IRAs. Ordinary income taxes must be paid to convert an IRA, but when done properly, there are no penalties.
Review your current IRA account information. To convert an IRA to a Roth IRA, you need to transfer funds from one account to the other. To do so, you will need your current account number, the exact name on the account and the current balance.
Review your IRA contribution records to determine if any of the contributions you made were not deducted. Taxpayers with higher incomes may not be eligible to deduct the total amount of contributions made to an IRA account. These non-deductible contributions can be converted without paying additional taxes.
Estimate your tax liability for doing a conversion. While withdrawals from a Roth IRA are tax-free in retirement, money converted to a Roth IRA will be taxed as income. Estimating how much taxes will be generated from a conversion allows you to plan for the additional tax hit. Many companies offer online calculators to estimate the taxes for a conversion.
Open a Roth IRA account with the same name as the current traditional IRA account. Matching names is necessary for smooth financial transfers. Be sure to include, or not include, middle initials or a middle name on the new account title to exactly match the original account title.
Transfer funds from the current IRA to the new Roth IRA. To transfer funds electronically from one institution to another, complete an account transfer form from the company where your new Roth IRA account is held. To transfer funds to an IRA at the same financial firm, complete a Roth IRA conversion form. In some cases, this form can also be used to open the Roth IRA account.
File IRS Form 8606 with your taxes. An IRA conversion is basically a distribution from an IRA, which is deposited into a Roth IRA. Reporting the conversion on Form 8606 prevents any early distribution penalties.
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