Ed Slott: Roth Conversions Especially Attractive Before 2026

Key Takeaways

• Your IRA is an IOU to the IRS.
• An important concept for conversions is the idea of doing a series of conversions, staged conversions over several years versus all in one year. Once you convert, you will owe the tax even if your financial situation changes next year when the bill comes due.
• One question that comes up is whether the government could decide to change the rules related to Roth IRAs. Right now, they’re great assets for heirs to inherit. They don’t have required minimum distributions.

Christine Benz: Hi, I am Christine Benz from Morningstar. Whether to convert a traditional IRA to Roth is a perennially hot topic. Joining me to discuss whether it makes sense to convert IRA balances as 2023 winds down is tax- and retirement-planning expert, Ed Slott.

Ed, thank you so much for being here.

Ed Slott: Thanks, Christine. Great to be back.

What to Consider for IRA Conversions in 2023

Benz: Well, it’s great to have you. We want to talk about IRA conversions for people who are potentially eyeballing an IRA conversion in the waning days of 2023. Let’s just discuss the basic case for doing those conversions—why you would want to consider them.

Slott: Well, what you’re talking about when you say an “IRA conversion,” an IRA to a Roth, moving your IRA money, converting it to a Roth IRA, where it will remain income-tax-free for the rest of your life, and even under these new Secure Act rules, 10 years beyond to your beneficiaries, all growing tax-free. So, that’s what you get for your money. Why would anybody do it? I did it years ago in 2010 when they opened the floodgates. Remember, before 2010, many people—there was a rule that says if your income exceeded $100,000, you couldn’t convert. Well, Congress eliminated that rule, and they got a flood of money from people like me and everybody else because they gave you this great deal, which I know you and I talked about. If you were at my programs, I begged people to take that deal. That was the deal of the century. You paid no tax. I converted everything. You paid no tax in 2010, half in ‘11, half in ‘12. In essence, the government, because they needed money so bad, which they still do today, they gave everybody an interest-free loan to build a tax-free savings account. So, that was a good deal. But you had to pay the tax. Same thing goes now.

So, it’s a bet. That’s all the Roth conversion is. It’s a bet on where you think your future or the tax rates are, but more specifically, your future tax rates. If you believe your rates will be the same or higher, the Roth bet pays off. I think that’s a pretty good bet, especially when you see what’s going on in Congress and the budget deficits. I believe in math. I don’t know if they do. They keep kicking a can down the road, but the whole country is running on a credit card. At some point, the bill has got to get paid. I don’t know when that day is, but I don’t want to be the one caught in the soup when the music stops.

It just reminded me the minute I said that. I remember writing something like that, wasn’t the exact phrase, in one of my books, before publication, and there was a big note on there from the editor, I did a “double“ something, I forget what it’s called, a “mixed metaphor.” They said, cross it out. It must have been the dream of that editor, “Oh, look what I got, a mixed metaphor.” So, I just—that’s a mixed metaphor.

Anyway, so, you’re betting on future tax rates, your future rates going up. I think that’s a good bet. If you don’t do it, remember, the problem doesn’t go away. It’s not like you’re saving taxes. This tax bill on your IRA: It will be paid. It’s not if, but when. So, the whole key, the foundation of all good tax planning, it’s so simple: Always pay taxes when the rates are the lowest. I believe that, for many people, everybody may be different, but for many people, that’s right now. We’re in the historically lowest tax rates most people will ever see in their lifetime. And that’s only going to continue for ‘23, ‘24, and ‘25, then they’re slated to go up, unless they increase because of budget deficits, like I said, eventually, I believe they’re going to have to raise taxes, especially on the people with the largest incomes and the largest IRAs. So, not converting doesn’t mean the problem goes away because the IRA continues to grow. And then, you’ll be on what I call the “government plan.” I always tell people in consumer programs, I do, “You want your plan, not the government plan.” And they would always say, “But Ed, what is the government plan? Maybe I’m interested.” No, you’re not interested in that plan. That’s forced RMDs starting at age 73. Now, you’re not in control. By converting, you can control your tax rates. You can do a series of smaller Roth conversions over each year, over time, bringing down this taxable IRA.

Remember, a lot of your IRA is a debt owed back to the government. Your IRA is an IOU to the IRS. You know what I tell people in a lot of these seminars to make the point, I said, “You all understand, especially married couples, you have a joint account. You each own half. Your IRA is a joint account with Uncle Sam.” Here’s the difference. With a regular joint account, as I just said, you generally own half. You have a joint account with Uncle Sam where you don’t know what his half will be. That’s yet to be determined based on how much money the government needs at the time you take that money out. Now you do know what the rates are. You’re in control. And it’s harder to convert once you reach your RMD age, 73, because once you’re into RMDs, your RMDs, required minimum distributions, cannot be converted. They have to be taken, and those are the first moneys out. So, they have to be taken, but they can’t be converted. So, you’re paying tax on that money. Yes, once you satisfy the RMD, then the balance can be converted, but it’s going to cost more because you’ll have to take it out. The Roth conversion, I believe, is really just something I call “tax insurance.” You’re insuring against the uncertainty of what future higher tax rates could do in retirement to you. So, that’s the long and short of it. It’s a bet on future tax rates.

Staged IRA Conversions and Conversion Ladders

Benz: Right. So, you mentioned a couple of important concepts there. One is this idea of doing a series of conversions, staged conversions over several years versus all in one year. Let’s talk about that and also a term I sometimes hear in this context is “IRA conversion ladders.” Maybe you can address that. Is that basically phased conversions? Or what do you think of that?

Slott: I think it’s the same thing. I don’t like to use that term “laddering” because it almost sounds like the bond laddering, gets confusing. Conversions are based on your own brackets, so it could be different amounts every year. For example, one year you might say, “Oh look, how much room—I have the tax rates here. I always keep them—oh, look, how much room I have in the 22% bracket. This is incredible. I could convert another $50,000.” So, it could be different each year based on your projected income each year. But what I would tell people, maybe they don’t remember, but a few years back, the Tax Cuts and Jobs Act eliminated the ability to undo conversions. Conversions are permanent now. No backsies, no redos, no recharacterizations, what they were technically called. Once you convert, you will owe the tax, even if your financial situation changes next year when the bill comes due. So, what I would do is look at it now, but do not pull the trigger until I would say the first week in December when you have the best idea, the best projection of what it’s going to cost you. Everybody knows Roths are the greatest account to have for a time because they’re tax-free. The only question is, How much are you willing to pay for it?

Benz: Ed, I wanted to ask you about older IRA owners. You mentioned that you can’t convert your required minimum distributions, but maybe you can talk about the general concept of older adults, perhaps people who are already retired, maybe of RMD age. Does it make sense for them to convert and how can they assess whether conversions might make sense in their situation?

Slott: That’s a great question and one of the most common questions I get from older people. “Should I convert? I’m 75 or 80.” And basically, I said it depends on who you’re converting for. If you’re converting for yourself, well, the cost upfront, given your shorter life expectancy, may not be worth it over that time. But if you’re doing it for estate planning, for your beneficiaries, then it might pay even though they have to empty it out generally at the end of 10 years after death. What you’re doing with a Roth conversion, you’re doing it for them, for your children and grandchildren. So, when they inherit, they inherit an income-tax-free retirement account and under the Secure rules, they can wait till the end of the 10th year after death to take out everything—they’re required to take out everything at the end of the 10th year after death—but all growing accumulating income tax-free.

The other benefit to you—let’s say you converted everything, not that I’m saying to do that, but whatever you convert, it reduces your IRA balance and reduces your RMDs on that IRA balance. So, in effect, it reduces your taxable income for the years you convert—well, for the years you convert, it increases your income for the years you convert. But in years after that, when your IRA is lower, it could reduce your tax bill. But if you’re older, you’re generally doing it for your children and grandchildren, giving them essentially a gift of a tax-free Roth IRA.

Could the Government Reverse the Tax Treatment to Roth IRA Assets?

Benz: One question that comes up in this context is whether the government could decide to change the rules related to Roth IRAs. Right now, as you mentioned, they’re great assets for heirs to inherit. They don’t have required minimum distributions. Withdrawals aren’t taxable. So, the question is, could the government reverse the currently quite generous tax treatment of Roth IRA assets?

Slott: Sounds like you’ve been to my seminars. You’re asking all the questions that everybody asks. And that is—every one I think I’ve said is the number-one question, but this is the number-one question when I talk about Roths, because I’m a big Roth fan. I love having it all tax-free forever and never having to worry about RMDs and all the complications for beneficiaries. But I always get somebody that says, not as nicely as you said it, but they’ll say something, “Yeah, this Roth stuff is good, but can I trust the government to keep their word that it will always be tax-free?” And I was, “Of course, you can’t trust them.” The CPAs, we have a saying: Tax laws are written in pencil.

But I’m going to give you the secret that Congress doesn’t want anybody to know. Don’t worry about it. Congress loves Roth IRAs. I mean loves, addicted, that kind of love, Roth IRAs. Lucky for us, they’re the worst financial planners on earth because they’re so shortsighted. They work in 10-year budget cycles. They love Roths. Why do you think they went Roth crazy in Secure 2.0? They added Roth in plans for matching, Roth catch-up contributions, 529 to Roth, Roth SEP IRAs, Roth Simple IRAs, all under one big heading in Secure 2.0 called “revenue provisions.” It brings in money. It helps pay for everything else. So, luckily for us, they’re so shortsighted. Remember, the only money that can get into Roth is already taxed money. So, Congress is addicted. They look at the Roth IRA as a revenue source. So, I don’t think they’re going to kill their golden goose. Like I said before, when I talked about when I converted back in 2010, they saw all that money coming in. Ever since they saw that, they started expanding Roth 401(k) and Roth 403(b)s. Because every time they did it, it brought in money. So, I don’t think they’re going to kill the golden goose. You don’t have to worry about that. They could trim around the edges, maybe with people with large buildups. But if they ever go too far and make the Roth conversion not worth it, they’re going to shoot themselves in the foot. So, I don’t think they’re going to do that. So, I don’t think you have to worry. And the other reason you don’t have to worry now—because we work with the laws we have now. Now we have great laws, low tax rates, take advantage of them and get that money out when rates are low.

Benz: Well, Ed, it’s always great to get your wisdom on IRAs. Thank you so much for being here.

Slott: Thanks, Christine.

Benz: Thanks for watching. I’m Christine Benz for Morningstar.

Watch “What You Need to Know About Inherited IRAs” for more from Christine Benz.

What You Need to Know About Inherited IRAs