Here’s why a Roth individual retirement account conversion may pay off in a down market
Soaring inflation, interest rate hikes and the war in Ukraine have sparked ongoing stock market volatility. But there may be a bright spot: the chance to save money on a Roth conversion.
The strategy allows higher earners to sidestep the earnings limits for Roth individual retirement account contributions, capped at $144,000 modified adjusted gross income for single investors and $214,000 for married couples filing together in 2022.
Here’s how it works: Investors make what’s known as non-deductible contributions to a pre-tax IRA before converting the funds to a Roth IRA, kickstarting tax-free growth.
The trade-off is that Roth conversions trigger an upfront tax bill on contributions and earnings. The bigger your pre-tax balance, the more you’ll owe for the conversion.
And the latest stock volatility may be an opportunity for investors eyeing a Roth conversion, said certified financial planner Ashton Lawrence, partner at Goldfinch Wealth Management in Greenville, South Carolina.
“It’s almost like getting that Roth IRA on sale,” he said.
For example, let’s say you have a pre-tax traditional IRA worth $100,000, you like the investments and when the entire market goes down, the value drops to $65,000. You can save money by converting $65,000 rather than the original $100,000.
Major stock market averages have dropped for the past five weeks, dipping on Tuesday morning after three days of heavy selling.
During the first quarter of 2022, Roth conversions were up by 18% compared to the first quarter of 2021, according to data from Fidelity Investments.