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After tax reform, Roth IRAs look even better. Tax brackets are lower now, and there’s a chance they could go back up after 2025. Those are the two biggest reasons to favor a Roth over a traditional account. If you have money in a traditional IRA or 401(k), does that mean it’s time to convert it to a Roth IRA?

Roth vs. Traditional: A Refresher

The common wisdom is to use a Roth IRA or 401(k) instead of a traditional IRA or 401(k) when you expect your tax bracket when you withdraw the money in retirement to be higher than your tax bracket today. By using a Roth account now and paying a small amount of tax this year, you avoid paying a larger amount of tax in the future.

How Tax Reform Changes the Analysis

The Tax Cuts and Jobs Act lowered most of the tax brackets through 2025.

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??????????? 25% became 22%.

??????????? 28% became 24%.

??????????? 33% became 32%.

??????????? 39.6% became 37%.

If Congress allows the tax cuts to expire, the rates go back up to the previous levels in 2026. This means that even if your tax bracket remains constant, your tax rate could be lower today than it will be in retirement.

Should You Convert Your Current Retirement Funds to Roth Accounts?

A conversion allows you to transfer money from a traditional IRA or 401(k) to a Roth account. You include the amount of the conversion in your income and pay normal income tax rates. With the money now in a Roth account, you won’t pay income taxes on it in retirement.

The ideal time to do a conversion is in years when you’re in a lower tax bracket than you’ll be in in the future. For example, late in your career, you may be in the 12% bracket as you shift to part-time work but an upcoming pension will bring you back to the 22% bracket in the future. If you’re $10,000 below the top of the 12% bracket, you can convert $10,000 to a Roth IRA today and pay $1,200 in taxes instead of $2,200 in taxes when you later withdraw it from your traditional IRA. And that $2,200 could actually be $2,500 if rates go back up from 22% to 25%.

This obviously requires you to make some educated guesses about both your future income and what you think will happen to tax rates. But with tax rates lower for now, this may be your chance to lock in a lower tax bill. If you’d like help running the numbers, give us a call or schedule an appointment with Honest Buck.

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