Rules for Rolling a Traditional IRA to a Roth IRA

Rolling a traditional IRA into a Roth IRA might give you numerous tax benefits in the future, but if you aren't careful in the present, you can pay heavily. The Internal Revenue Service is quite specific about how you can transfer a traditional IRA to a Roth. Report the rollover to the IRS on Form 8606 when you file your income tax return.

Who Can Do It

The IRS has income limits for opening a Roth IRA. For example, if you have a modified adjusted gross income of $125,000 or more (as of 21012) and are single, you can't directly open a Roth IRA. The IRS removed income limits for rollovers in 2010, however, so if your income is too high to contribute directly to a Roth IRA, you may roll money from a traditional IRA into a Roth. That means that some people with high incomes can contribute to a traditional IRA, then roll the amount into a Roth to get the benefits.

Tax Issues

One major difference between a Roth IRA and a traditional IRA is when you pay tax. If you deducted your contributions to a traditional IRA for a previous tax year, you will need to pay tax on that income when you do the rollover. Depending on how much you are rolling over, your income for the year could increase substantially, bumping you into a higher tax bracket. For example, if you normally make $55,000 per year and you roll over $30,000, your income for the year in which you do the rollover will jump to $85,000.

Process

You have three options when it comes to rolling over the money. One option is a trustee-to-trustee transfer. That means you tell the investment bank or company that has your traditional IRA to transfer the amount to another bank, where it becomes a Roth IRA. You can also transfer your traditional IRA to a Roth IRA using the same trustee. If you keep your IRA with the initial trustee, you can ask it to redesignate the traditional IRA as a Roth without opening an additional account. You may also withdraw the money from your traditional IRA and re-deposit it within 60 days into a new Roth IRA.

Penalties to Consider

If you don't stick to the rules when rolling over your IRA, you can face some pretty hefty penalties. For example, if you don't put the money into a Roth IRA within 60 days of taking it out of the traditional IRA, you'll owe a 10 percent penalty tax. If you withdraw $5,000 from your traditional IRA, you must contribute $5,000 to the Roth or face the 10 percent penalty.

 

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About the Author

Based in Pennsylvania, Emily Weller has been writing professionally since 2007, when she began writing theater reviews Off-Off Broadway productions. Since then, she has written for TheNest, ModernMom and Rhode Island Home and Design magazine, among others. Weller attended CUNY/Brooklyn college and Temple University.