Getting the most out of your retirement savings can be tricky when it comes to determining your required minimum distributions (RMD) for your IRA. Sometimes you don't need your RMDs, but you are still forced to take them. You might be wondering, "does a Roth conversion count as an RMD?"
The answer is simple: no. A Roth conversion does not count as an RMD. A Roth conversion doesn't satisfy the RMD requirements of the IRS.
The reason for this is that an RMD and Roth conversion serve very different purposes. This also means that they are subject to different rules.
Why Doesn’t a Roth Conversion Count as an RMD?
Required minimum distributions are mandated by the IRS for traditional IRAs and some other retirement plan owners once they reach certain ages. This started when recipients were 70.5 years old, but the age level has been increased by the SECURE Act. The SECURE Act raised this age to 72, then 73. It will eventually climb to age 75.
These delays in the age requirement for RMDs are actually a good thing. They can help you with savings. They can help you to plan effectively. The SECURE Act is a piece of legislation that shortened the payout timeline to 10 years.
This means that at the end of that 10-year period, the account balance is exhausted and you could receive a balloon payment. The purpose of having RMDs is to ensure that you withdraw a part of your retirement savings.
It also makes sure that you pay taxes on part of your tax-deferred retirement savings. The amount of your RMD is calculated by dividing your account balance by your estimated life expectancy.
Roth conversions serve a different purpose than an RMD. Roth conversions are voluntary transactions where you transfer your funds from one of the following accounts to a Roth IRA:
- a traditional IRA
- SEP IRA, SIMPLE IRA
- other eligible retirement accounts
This process will involve paying taxes on the amount that is being converted at your current ordinary income tax rate.
So, if you are still confused if you can use your RMD as a Roth conversion, this should answer your question. These are two separate processes, so you can’t use your RMD as a Roth conversion. You must first take your RMD for the year before you pursue a Roth conversion.
Your RMD amount is actually not eligible for conversion, as it is considered a taxable distribution. A Roth conversion does not count as an RMD because of this. If you fail to take your RMD as required, it can result in a penalty of the amount that is not withdrawn.
Can You Convert an RMD to a Roth IRA?
You can’t convert an RMD to a Roth IRA. The IRS mandates that you first take the RMD for the year before you can perform a Roth conversion. The RMD amount is considered a taxable distribution and is not eligible for conversion.
When you take an RMD, it is subject to ordinary income tax rates for the year in which it is withdrawn. An RMD ensures that you pay taxes on your tax-deferred retirement savings after a certain age. If you were to attempt to convert an RMD to a Roth IRA, it would essentially allow you to bypass this tax requirement. This is why it isn’t permitted by the IRS.
If you are interested in pursuing a Roth conversion, you must satisfy your RMD for the year before you do that, since a Roth conversion doesn’t count as an RMD. Any amount you want to convert beyond the RMD is then eligible for a Roth conversion. Of course, this assumes that it meets the eligibility criteria for a Roth conversion.
If you don't need to use your RMD from your IRA for living expenses, then you can reinvest them in a Roth IRA. The fund you use to contribute to a Roth IRA can come from any available source. However, you must be careful and adhere to the contribution limits and earned income requirements when making contributions.
For the 2022 tax year, you can contribute up to $7,000 annually to your IRAs if you are 50 or older. This limit increases to $7,500 in 2023. These contribution limits apply to the combined total of contributions made to both traditional and Roth IRAs. If you are under 50, the limits are $1,000 less.
The IRS requires that your Roth IRA contribution for the year be covered by sufficient earned income. However, the good news is that the actual source of the contribution doesn't have to be from your paycheck.
Always keep in mind that the amount you convert to a Roth IRA will be treated as taxable income for the year in which the conversion occurs. You'll need to pay taxes at your current ordinary income tax rate.
Why Are Roth Conversions Beneficial?
Roth conversions are an attractive process because Roth IRAs grow tax-free and qualified withdrawals are also tax-free. Roth IRAs don’t have RMDs, so you can just let your contributions grow tax-free. If you pass away and your IRA is inherited, your beneficiaries won’t have to pay taxes on distributions.
Roth IRAs are important because they can help those who take advantage of Social Security benefits. Social Security benefits are taxable once you hit the income threshold. Roth IRAs won’t take you beyond that threshold. Completing a Roth conversion before you start getting your Social Security benefits can help you save money.
Options for Reinvesting or Converting an RMD You Don’t Need
If you have an RMD and you are looking to do something with it, then you can explore options like a 529 savings plan. However, if you are looking to do it yourself, you need to be aware of penalties like IRMAA (income-related monthly adjustment amounts). This is a Medicare penalty that higher-income individuals need to pay for Medicare Part B (medical insurance) and Medicare Part D (prescription drug coverage).
Consulting with a financial advisor or tax advisor can help you determine what strategies you should take if want a Roth conversion or RMD reinvestment options. You need to have the right strategy for your specific financial situation.
A Roth conversion may not be suitable for your situation. The primary goal in converting retirement assets into a Roth IRA is to reduce the future tax liability on the distributions you take in retirement, or on the distributions of your beneficiaries. The information provided is to help you determine whether or not a Roth IRA conversion may be appropriate for your particular circumstances. Please review your retirement savings, tax, and legacy planning strategies with your legal/tax advisor to be sure a Roth IRA conversion fits into your planning strategies.
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Stewart Willis is the founder and president of Asset Preservation Wealth & Tax, a financial planning firm in Phoenix, Arizona. Investment advisory services offered through Foundations Investment Advisors, LLC, an SEC registered investment adviser.
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