Ask an Advisor: I Want to Roll Over My Money to a Roth IRA. How Do I Avoid Paying Taxes?

If I have a tax-deferred 401(k). Can I convert it to a Roth IRA without paying the deferred taxes when I roll it over?

-Tommy

Generally, the answer here is no. There’s typically no method to totally dodge taxes on a Roth conversion. Eventually, Uncle Sam will come to collect on your tax-deferred retirement accounts – either when you execute a Roth conversion, withdraw funds or collect your required minimum distributions (RMDs).

That said, your inability to totally dodge taxes doesn’t translate to an inability to reduce them. Here are some savvy strategies to reduce your tax bill on a Roth conversion. (For more information on taxes and retirement, consider working with a financial advisor.)

Strategies to Reduce Your Tax Bill on a Roth Conversion

To reduce the tax consequences of rolling a tax-deferred account to a Roth, consider these methods:

Execute a Tax-Aware Partial Roth Conversion

One strategy for reducing the tax liability of a Roth conversion involves spacing out your rollovers over several years. To use this strategy, convert just enough to push your total income to the limits of your current tax bracket without entering the next bracket up. (For more information on taxes and retirement, consider working with a financial advisor.)

Roll Over Your Money in a Low-Tax Year

For many folks, a prime time for Roth conversions takes place during the years after retirement but before Social Security and RMDs kick in. Those can be relatively low-income years during which initiating a conversion can result in a triple benefit. Those benefits are: lower tax bills, reduced RMDs and future tax-free growth.

Speaking of timing, if you suspect tax rates will increase at the anticipated sunset of the Tax Cuts and Jobs Act or due to political machinations on Capitol Hill, making a Roth conversion now can be an option.

You’ll lock in your current tax rate and hopefully ride out any future increases. Keep in mind that nobody has a crystal ball, and this strategy involves making predictions about the future. (For more information on how tax policy may impact retirement planning, consider working with a financial advisor.)

Pay the Tax Wisely

Many experts recommend paying the tax on your Roth conversion with nonretirement assets. That’s opposed to withholding some of your retirement funds to pay the bill. This will allow you to move the greatest amount into your new Roth account and continue to watch it grow tax-free.

Work With a Financial Advisor

A financial advisor may be able to help you take a holistic look at your tax and retirement profile, identifying opportunities to minimize taxes while adhering to an investment philosophy that matches your life stage.

A good advisor can talk you through whether a Roth conversion makes sense right now. He or she can also discuss alternatives, such as converting your 401(k) into a traditional IRA, transitioning to a new employer’s 401(k) or making a partial conversion.

Tips for Handling Taxes in Retirement

Finding a financial advisor doesn’t have to be hard. SmartAsset’s free tool matches you with up to three vetted financial advisors who serve your area, and you can interview your advisor matches at no cost to decide which one is right for you. If you’re ready to find an advisor who can help you achieve your financial goals, get started now.
Consider a few advisors before settling on one. It’s important to make sure you find someone you trust to manage your money. As you consider your options, these are the questions you should ask an advisor to ensure you make the right choice.

Susannah Snider, CFP® is SmartAsset’s financial planning columnist and answers reader questions on personal finance topics. Got a question you’d like answered? Email AskAnAdvisor@smartasset.com and your question may be answered in a future column.

Please note that Susannah is not a participant in the SmartAdvisor Match platform and is an employee of SmartAsset.