CLIENT KNOWLEDGE BASE

    ROTH Conversions

    When the stock market dips...don't panic! At Anomaly, we see these temporary dips as opportunities for tax strategy and planning.

    Strategic tax moves can help position your retirement portfolio for both short and long-term benefits. 
    One such opportunity arises through Roth IRA conversions which is the process of transferring funds from a Traditional IRA (or another eligible retirement account) into a Roth IRA. Below is an overview of why market downturns can make Roth conversions especially appealing, along with the tax advantages you can expect both now and in the future.


    1. 1

      What Is a Roth Conversion?

      A Roth conversion involves taking the assets from a Traditional IRA (pre-tax funds), paying taxes on the amount converted, and then depositing those funds into a Roth IRA. 

      Future growth in the Roth account is generally tax-free, and you will also benefit from tax-free withdrawals in retirement, provided certain holding periods and age requirements are met.
    2. 2

      Why Convert During a Stock Market Downturn?

      1. Reduced Taxable Amount
        1.  During a stock market decline, the value of your Traditional IRA may be temporarily lower. Because you owe income tax on the fair market value of the assets you convert, a lower account balance means a smaller tax bill for the conversion. If and when the market recovers, those gains happen inside the Roth IRA and they’re typically tax-free.
      2. Long-Term Compounding
        1.  By moving funds into a Roth IRA during a downturn, you position them to potentially rebound in a tax-free environment. Over the long term, those assets can compound, and the growth remains tax-free as long as you follow IRS rules (e.g., no withdrawals before age 59½, unless certain exceptions apply, and meeting the five-year holding requirement).
      3. Flexibility for Retirement Planning
        1.  RMDs are dreaded for those with Traditional accounts!  Roth IRAs do not have required minimum distributions (RMDs) for the original owner. In contrast, Traditional IRAs require you to start taking distributions by a certain age, which can inadvertently push you into higher tax brackets later. A Roth conversion strategy, especially when executed during lower asset values, can reduce the total amount eventually subject to RMDs while simultaneously boosting your tax-free retirement income sources.
    3. 3

      Tax Considerations


      1. Immediate Tax Impact
        1.  The primary drawback of a Roth conversion is the upfront tax bill: the amount you convert is included in your taxable income for that year. Strategically, if your other income sources are limited or if the lower market valuation decreases your account balance, you may be able to minimize this liability.
          1. However, the tax is LOWER than is would be had you converted during a time when the stock prices or markets were booming. 
      2. Impact on Your Tax Bracket
        1. Depending on the size of the conversion, your taxable income could rise enough to push you into a higher marginal tax bracket. 
          1. Coordinating the timing and amount of each conversion can help you avoid large spikes in your annual tax liability.
      3. Estate Planning Benefits
        1.  If you have heirs, remember that inherited Roth IRAs allow for continued tax-free growth, subject to certain payout rules
    4. 4

      Timing Your Conversion

      1. Observation Period
        1.  Trying to “time the market” is never foolproof, but you can watch for market dips and use them as opportunities to convert at lower share prices.  
      2. Annual Conversion Strategy
        1.  Rather than doing one large conversion, some individuals choose to convert portions of their Traditional IRA each year. This approach helps manage tax brackets and offers flexibility to adapt to changing tax laws and market conditions.
    5. 5

      Weighing the Pros and Cons

      While a down market can provide a compelling financial advantage for Roth conversions, it is essential to evaluate how the conversion affects your immediate cash flow, annual tax bracket, and overall retirement goals. 

      Some individuals may find that although the tax rate is lower on a depressed portfolio, they still prefer to keep funds in a Traditional IRA, especially if they anticipate a lower tax rate in retirement or have liquidity needs.

      Next Steps:
      1. Discuss your current portfolio and potential Roth conversion strategy with your Anomaly Project Manager.
      2. Determine if a Roth conversion in a down market could help reduce your future tax liabilities.
      3. Plan the conversion amount or amounts in a way that supports your overall retirement timeline and long-term objectives.
      4. Review our other KBs and think about Oil/Gas or STRs as a way to offset the conversion income
    If you still have a question, we’re here to help. Contact us