How a Roth conversion works

A Roth conversion means moving money from a traditional IRA (or other pre-tax retirement account) into a Roth IRA. You withdraw the money from the traditional account, pay income tax on it in that tax year, and deposit it into the Roth. After that, the money grows tax-free and you can withdraw it tax-free in retirement, as long as the Roth has been open for at least five years and you are 59½ or older.

The conversion itself is straightforward: you contact your IRA custodian (the bank, brokerage, or investment firm holding your account) and ask them to do a direct trustee-to-trustee transfer. The money moves from one account to the other without touching your hands. You do not have to withdraw it yourself, which avoids the 10 percent early withdrawal penalty if you are under 59½.

The tax bill arrives later. When you convert, the IRS treats the amount you move as taxable income in that year. If you convert $50,000, you owe income tax on $50,000 as if you had earned it as wages. The amount of tax depends on your tax bracket that year.

Key Takeaways

  • A Roth conversion requires you to pay income tax on the amount you move in the year you convert, but the money then grows tax-free forever.
  • You can convert any amount from a traditional IRA to a Roth IRA at any time; there is no income limit or annual cap on conversions.
  • If you have multiple pre-tax IRAs (traditional, SEP, or SIMPLE), the IRS treats them as one account for tax purposes when you convert, which can create an unexpected tax bill.
  • A direct trustee-to-trustee transfer avoids the 10 percent early withdrawal penalty, even if you are under 59½.
  • You report the conversion on Form 8606 when you file your tax return; your custodian will send you a Form 1099-R showing the amount moved.

When a conversion makes sense

A conversion is most useful when your income is lower than it normally is, or when you expect to be in a higher tax bracket later. If you take a year off work, have a business loss, or retire before you start taking Social Security, that year might have lower taxable income. Converting then means you pay tax at a lower rate than you would in a higher-income year.

A conversion also makes sense if you have a large traditional IRA but expect to need the money in retirement. Since Roth withdrawals are tax-free and do not count as income for Medicare premium calculations or other means-tested benefits, converting can lower your tax bill and preserve your may be able to access for other programs later.

Conversions are also useful for people who want to leave money to heirs. A Roth IRA passes to beneficiaries tax-free (though they must withdraw it within ten years under current rules). A traditional IRA passes with a tax bill attached to the heirs. If you convert now and pay the tax yourself, your heirs inherit more money.

The pro-rata rule and why it matters

If you have both traditional and Roth IRAs, or a traditional IRA plus a SEP-IRA or SIMPLE IRA, the IRS applies the pro-rata rule when you convert. This rule treats all your pre-tax IRAs as a single account for tax purposes, even if they are held at different institutions.

Here is how it works: suppose you have a traditional IRA with $100,000 (all pre-tax money) and a Roth IRA with $50,000 (already taxed). You want to convert $50,000 from the traditional IRA to the Roth. You might think you pay tax on $50,000. Instead, the IRS looks at your total pre-tax money ($100,000) and your total IRA money ($150,000). Since two-thirds of your IRAs are pre-tax, two-thirds of your $50,000 conversion ($33,333) is taxable. The other third ($16,667) is not taxed because it represents your after-tax contributions.

This rule catches many people off guard. If you have a large traditional IRA and a small amount of after-tax money in it, converting a small amount to a Roth can trigger a much larger tax bill than you expected. Before you convert, ask your custodian for a statement showing how much of each IRA is pre-tax and how much is after-tax.

Steps to convert your IRA

Contact your IRA custodian and tell them you want to do a Roth conversion. Ask whether they handle conversions in-house or whether you need to open a Roth IRA at the same institution first. Some custodians require the Roth to already exist; others will create it as part of the conversion.

Provide the amount you want to convert. You can convert part of your traditional IRA or all of it. The custodian will initiate a direct trustee-to-trustee transfer, which means the money moves from your traditional IRA to your Roth IRA without you receiving a check. This avoids the 60-day rollover rule and the 10 percent early withdrawal penalty.

The transfer usually takes one to two weeks. Once the money arrives in your Roth, it is invested according to your instructions. You do not have to do anything else until tax time.

When you file your tax return, you will receive a Form 1099-R from your custodian showing the conversion amount. You report this on Form 8606 (Nonqualified Distributions of IRAs). Form 8606 calculates how much of the conversion is taxable based on your pre-tax and after-tax IRA balances. Your tax software or tax preparer will handle this, but you need to provide them with the 1099-R and tell them about any after-tax money in your IRAs.

Tax consequences in the conversion year

The year you convert, your taxable income increases by the amount you move. If you convert $75,000, you report an additional $75,000 in income (minus any after-tax contributions, which are not taxed again). This can push you into a higher tax bracket, increase your Medicare premiums, or affect your may be able to access for other tax credits or deductions.

You do not pay the tax when you convert. Instead, you owe it when you file your return the following spring. Some people set aside money to pay the tax bill, while others pay it from their regular income. If you do not have cash to pay the tax, you can pay it from the Roth IRA itself, but that reduces the amount growing tax-free.

If you convert in December, you have until April 15 of the following year to pay the tax. Some people use this timing to their advantage: if they know their income will be lower in the current year than next year, they convert in December and pay the tax in April when they file.

Reconversion rules and timing

Once you convert money to a Roth, you cannot undo it by moving it back to a traditional IRA. The IRS eliminated the ability to recharacterize conversions (reverse them) in 2018. If you convert and the market drops, you are stuck with the conversion and the tax bill, even though the account is now worth less.

However, you can convert again in a later year. There is no limit on how many conversions you can do or how much you can convert each year. Some people convert small amounts over several years to spread the tax bill across multiple years and stay in a lower tax bracket.

If you do a conversion and then receive a large bonus or inheritance that pushes you into an unexpectedly high tax bracket, you cannot undo the conversion. Plan conversions carefully and consider consulting a tax professional before you move money, especially if your income is variable or you have a large IRA.

Frequently Asked Questions

Do I have to convert my entire traditional IRA at once?

No. You can convert part of your traditional IRA and leave the rest untouched. Many people convert smaller amounts over several years to keep their taxable income lower in each year. Your custodian can process a partial conversion.

What happens if I convert and then need the money before age 59½?

You can withdraw money from a Roth IRA before 59½ without the 10 percent early withdrawal penalty, but only if the Roth has been open for at least five years and you meet one of the IRS exceptions (disability, first-time home purchase, medical expenses, etc.). Converted money has its own five-year holding period separate from contributions you made directly to the Roth.

Can I convert if my income is too high for a Roth IRA?

Yes. There is no income limit on conversions. The income limits apply only to direct contributions to a Roth IRA. Anyone can convert a traditional IRA to a Roth regardless of how much they earn.

Will converting affect my Social Security benefits or Medicare premiums?

The conversion itself does not affect Social Security, but the additional taxable income in the conversion year can increase your Medicare premiums. Medicare premiums are based on your modified adjusted gross income from two years prior. A large conversion can trigger higher premiums for the following two years.

What if I have both a traditional IRA and a SEP-IRA?

The pro-rata rule applies to all your pre-tax IRAs together. If you convert from one, the IRS calculates the taxable portion based on your total pre-tax balance across all accounts. You cannot avoid this by converting from only one account.