Many people know the benefits if they convert their Traditional IRA to a ROTH IRA but are still reluctant to do it because doing so would be a taxable event. There is an opportunity right now to do it tax-free. But you need to hurry.
First let’s review some of reasons to convert a Traditional IRA to a ROTH IRA:
- Paying taxes at lower rates after retirement
- NO required minimum distributions from ROTH
- Lower taxes on Social Security during retirement
- Lower Medicare premiums throughout retirement
- Lower tax rates for married couples vs. single
- Eliminates future tax rate uncertainty
- Lower Medicare surtax on retirement income
- Tax free distributions for beneficiaries
- Estate planning considerations
So how can I have my cake (the ROTH Benefits) and eat it too (avoid the taxes on conversion)? You will need to hurry.
Recall that the CARES Act enacted on March 27, 2020, changed the limitations that are usually placed on charitable gifts. Ordinarily, cash contributions are limited to 60% of your adjusted gross income in the year the gift is made. Recognizing that charities are also hurting from the impact of the virus, Congress modified the limits for 2020. This year, and this year only, the deductible limit is 100% of adjusted gross income.
So the solution can be as simple as converting a portion (or all of) your Traditional IRA to a ROTH IRA and making a qualifying charitable contribution of the same amount. The contribution should not come from your IRA. It will come from your other accounts. To qualify for the higher limit, the gift must be a cash contribution directly to the charity. That is, it cannot be appreciated assets or made to start or maintain a donor advised fund. But you need to hurry and get both done in 2020.
I am making the assumption you itemize deductions on Schedule A of your tax return. Your charitable giving added to your other itemized deductions (medical and dental expenses, taxes you pay, interest you pay, casualty and theft losses, and other itemized deductions) must exceed the standard deduction allowed for your filing status. The standard deduction was increased by the Jobs Act in 2017.
Your financial advisor should be able to prove the benefit of this strategy by modeling various scenarios. We typically model this in two ways:
- conversion vs. no conversion (status quo) this year
- conversion with charitable contribution this year vs. next year
As with any significant tax maneuver, you should consult with your own tax advisor / preparer before making either of these moves.