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Roth IRA Conversions and Tax Loopholes that May Apply at the State and Local Level

Roth IRA Conversions and Tax Loopholes that May Apply at the State and Local Level

August 30, 2023

One of my top tax-smart investing strategies is to contribute to either a traditional or Roth individual retirement account (IRA) each year if you are eligible to do so.  If you contribute to a traditional IRA, you may see a tax savings in the current year, since contributions could be tax-deductible in the year that they are made.  If you qualify and choose a Roth IRA contribution instead, you will not receive a current year tax savings, but you may earn tax-free income and receive tax-free withdrawals throughout your retirement years.

The question of whether to use a traditional or Roth retirement account essentially comes down to whether you expect to be in a higher or lower tax bracket in your retirement years.  If you believe your tax bracket will be lower in retirement, you may want to contribute to a traditional IRA, but if you expect it to be higher, you may want to contribute to a Roth IRA.  If you are concerned about the out-of-control spending in Washington and expect significant tax increases in the future, this is yet another reason for contributing to a Roth.  In addition, the younger you are, the more significant the tax savings would be throughout your lifetime through the power of compounding.

Things can get a bit more complicated, however, when you consider contribution and salary limitations.  For 2023, the IRA contribution limit is $6,500 per taxpayer, with a $1,000 catch-up provision for individuals aged 50 and over.  The Roth IRA modified adjusted gross income limits for 2023 are $153,000 for single or $228,000 for married filing jointly, and if you make less than that, you may be in a phase out zone.  This means that you won’t be able to directly contribute the full amount, or maybe any at all, to a Roth IRA if you are a high-income earner.

If your salary is above these limits, you can choose to do a Roth conversion.  The most tax-smart strategy to do a Roth conversion depends on your age, salary, and personal financial circumstances.  It is extremely important that you do not attempt to implement this strategy on your own, since one misstep could result in a significant tax liability, as well as IRS penalties.

There could also be some special state and local tax loopholes depending on your resident state that you must consider in the Roth conversion decision-making process.

For example, a New York State resident or non-resident would be required to report their Roth conversion as part of their adjusted gross income (AGI) on both their federal and state tax returns in the year of the conversion.  However, if you are at least 59 ½ years old, New York allows you to exclude up to $20,000 in total pension, IRA, or annuity income.  Whether you convert or take a distribution, you may save NY state and city income taxes on up to $20,000 of this income.

If you would like to discuss the possibility of implementing a Roth conversion, please call my office to schedule a phone meeting with me. I will be happy to analyze your tax and investment situation so we can determine whether implementing an annual tax-smart Roth conversion strategy is right for you.

John J. Vento, CPA, MBA, CFP®

President & CEO

Financial Advisor