As 2015 nears its end, take a moment to reflect upon the year. If a drop in income put you in a lower tax bracket this year, perhaps because of a job loss or just a temporary gap in employment, you may want to consider converting money from a traditional individual retirement account to a Roth IRA.
It’s often one of the less obvious financial-planning maneuvers that can create greater tax efficiency — but you need to do it before the end of the year to get a break on your 2015 taxes.
A Roth IRA has tax benefits for long-term retirement investing. Unlike a traditional IRA, which lets you build up pre-tax money in a retirement account, a Roth IRA allows you to build after-tax savings that you can generally withdraw tax-free in retirement.
So while you get no income tax break when you put money into a Roth, you pay no taxes upon withdrawal — as long as you have held any Roth IRA for at least five years and are at least age 59 1/2.
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“Converting will give you much more control over your tax planning in retirement, as you will have the option to take withdrawals from your tax-free Roth IRA,” said David A. Littell, professor of taxation at the American College of Financial Services.
Dec 31, not April 15
By converting in a year when your income may have fallen and you’re in a lower tax bracket, you’ll pay less tax on the money that you convert. The deadline for Roth conversions is Dec. 31, not April 15 as with regular Roth IRA contributions.
Many financial experts say it’s a great opportunity to pay tax in the year that you’re in a lower tax bracket. IRA expert Jeffrey Levine, of Ed Slott and Co., notes the money to be converted must leave the traditional IRA (or similar account) by the last day of the year.
Even if the money does not arrive to the Roth IRA until 2016, as long as it is moved out of the traditional IRA by year end, it can still be a 2015 conversion reported on your 2015 tax return.