There's a reason Roth conversions are a big part of many people's retirement strategy. If you earned too much money most of your career to contribute to a Roth IRA, a Roth conversion allows you to move funds into one of these accounts so you can enjoy certain benefits later on. These include tax-free withdrawals and avoiding required minimum distributions (RMDs).
Your 60s may be a good time to consider Roth conversions if you're easing into retirement with part-time work and are in a lower tax bracket than you've been in previous years. But if you're 63 and are planning a Roth conversion, there's a hidden trap you might fall into if you aren't careful.
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A spike in your income could spell trouble
When you do a Roth conversion, the money you move over is added to your taxable income. And a large conversion could leave you with a large IRS bill. For this reason, you need to plan for a Roth conversion carefully.
But that's not the only pitfall to be mindful of. See, an increase in your income may do more than just raise your tax bill that year. It could also cost you the form of higher Medicare premiums two years later.
Each year, there's a standard monthly premium Medicare enrollees are charged for Part B. But higher earners can be subject to surcharges on their Part B premiums known as income-related monthly adjustment amounts, or IRMAAs.
IRMAAs aren't based on current income, though. Rather, they're based on your income from two years prior.
Here's why large Roth conversions at age 63 can be dangerous. Age 65 is when Medicare eligibility generally begins. If you do a big Roth conversion at 63, and it increases your income substantially, you could end up facing IRMAAs if you sign up for Medicare two years later.
Time those Roth conversions carefully
Roth conversions can be a smart thing to do ahead of retirement. But it's important to time them carefully.
One good strategy is to figure out what amount you want to convert from a traditional retirement plan to a Roth and then space out your conversions over a years-long period. In other words, if you want to convert $500,000 to a Roth account, you may want to give yourself 10 years to do so, if possible, to minimize the tax hit and IRMAA risk each year.
The good news is that RMDs don't kick in until age 73 (or 75 for younger workers). So if you start doing conversions in your early 60s, you may be able to move over the sum you wish before RMDs begin, all the while keeping those conversions on the relatively small side each year.
