Roth contributions and conversions

We’re often asked if Roth contributions and conversions are a good idea. The answer, of course, is “it depends.” There are so many factors and unique circumstances that this can be good, great, neutral, bad or terrible! Generally speaking, and all other things being equal, believe it or not, it doesn’t make any difference – that is, if tax rates stay the same, and you accurately factor in the current tax savings or losses and future tax savings or losses, then it all washes out. There is, however, an important caveat to this point, and that is, if you can afford to maximize the Roth contributions (i.e. making the after-tax contributions and paying the tax on them does not impact your ability to make them), then Roth contributions are generally going to leave you with more money at the end of the day. That’s because a Roth IRA (or plan) dollar is worth more than a regular IRA (or plan) dollar and contributing those dollars is like making larger tax-favored contributions. (If that doesn’t make sense, write me and I’ll send you a spreadsheet that might demonstrate it better.)

Otherwise, the answers are somewhat intuitive – if you believe that your own tax rates will be higher when the money comes out than when the money goes in, then Roth contributions make sense, and vice versa – if you expect your own rates to be lower when the money comes out, then you’re better off making regular deductible IRA or plan contributions. (I think most of us believe that rates in general are going up, but it is the rates that you pay that are relevant.)

As far as converting existing pre-tax IRA or plan accounts – I find it tough to pay, or recommend that someone else pay, large taxes voluntarily sooner than necessary, unless there is a truly compelling reason for it, like being in a low bracket temporarily (possibly due to other investment or business losses). I figure that I can control, to some extent, the taxable distributions on the back end, and would generally not be anxious to do conversions now, at least not large conversions.