|Tax Consequences of Roth Conversions|
|Converted Amount||Value in Future||Amount that is Taxed|
|Stock increases in value||$5,000||$10,000||$5,000|
|Stock decreases in value||$5,000||$3,000||$5,000|
Of course, if a decline happens, one can avoid paying the tax by reversing the Roth conversion in a process called recharacterization. Unfortunately, one loses the opportunity to convert further funds to the Roth IRA for 30 days or the next tax year which ever is later. This exact issue happened to us in 2008, causing me to recharacterize my Roth conversion.
In discussions with my financial advisor, he mentioned a Roth conversion strategy that they were using to reduce the risk of paying taxes on losses. They were doing multiple Roth conversions of stock portfolios, and then later choosing to recharacterize the Roth conversion that had declined in value. My build on this idea was to make one of the Roth conversions cash, which would guarantee that at least one portfolio would not decline. Assuming one only wants to keep one Roth conversion for a tax year, the table below show how I would think about keeping or recharacterizing multiple Roth IRA conversions.
|Multiple Roth Conversion Strategy|
|Assets Converted||Conversion Amount||Future Value||Recharterization Decision|
|Stock Portfolio 1||$10,000||$5,000||Recharacterize|
|Stock Portfolio 2||$10,000||$15,000||Maintain Conversion|
|Cash||$10,000||$10,100||Maintain conversion when versus Stock Portfolio 1, Recharacterize versus Stock Portfolio 2|
This week I implemented the idea of multiple Roth conversions of equal value with my financial advisor, with one conversion of cash, one conversion of my company stock and one conversion of a managed account. At the end of 2009, I will keep the Roth conversion that is the highest in value and therefore, avoid paying taxes on a conversion amount that is higher than the value in the Roth IRA.
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This is not financial, tax, or investment advice. Please consult a professional advisor.
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