Monday, Nov. 02, 2009

Prepare to Convert to a Roth IRA

Financial advisers are lighting up the phone lines, getting word to their clients that 2010 is the year of the big Roth conversion — where people of any income can shift their savings from a traditional IRA to a tax-free Roth IRA. The one hitch is that people doing this must pay income tax on all the money being shifted. You don't have to be an accountant to know that a transfer of any large dollar amount will push you into a higher tax bracket in 2010. On top of that, a flurry of states, including Connecticut, New York, North Carolina and New Jersey, have recently imposed wealth taxes, and your Roth IRA conversion could put you smack in the middle of that penalty tax.

So what should you do now? If you're planning to convert to a Roth in 2010, start shifting expenses and deductions now to minimize the tax hit. Let's say you have $300,000 in an IRA, which you intend to convert. If you do so, that income will push you into a 35% federal tax bracket and could also subject you to the maximum state tax. Every dollar you can subtract from the total income reported — which will include earned income, such as salary and bonuses, as well as your IRA transfer amount — will lessen the number of dollars subject to that maximum tax, which combined could reach 45%.

So if there's any income slated to arrive in January — a bonus, a payment from your customers — try to pull it into December to lessen the 2010 tax hit. Likewise, any expenses you can push into 2010 will reap greater tax savings than if you log them now.

Finally, if you don't have an IRA, set one up and get some money into it. Only money that's in traditional IRAs will be eligible for the 2010 transfer to a Roth IRA.

See tax moves to make before the year's end:
Introduction: Tax-Saving Tactics
Capture Stock-Market Losses
Donate — and Deduct!
Gather Receipts — They're Precious
Reach for the Medical Deduction
Go Green for Tax Breaks