A Roth conversion refers to taking all or part of the account balance of any existing pre-tax retirement account and moving it to a Roth account within the same plan. Plans do not need to offer Roth accounts or allow Roth conversions, but they are available.
Most 401(k) plans are traditional 401(k) plans where the money contributed to the plan is deducted from your taxable income for the year. The tax is only deferred, however. Taxes will be paid in the year that you withdraw the money from the plan. With a Roth 401(k), you cannot deduct the contribution and you will pay taxes on it in the year you contribute. When it is time to withdraw the money, it will be tax-free.
Roth conversions are popular for those who think they will be in a higher tax bracket during retirements. By converting now, you’ll pay taxes at a lower rate and enjoy tax-free income when your rate is higher. However, you’ll owe income tax on any money that is converted. For example, if you converted $50,000 of your account to Roth and were in the 24% tax bracket, you’d owe $12,000 in taxes in the year of conversion. You would need to be able to have the cash to pay the taxes on the conversion.
Should you convert to a Roth? It would be nice if we had a crystal ball that could see into the future and predict how future taxes might look. Until then, consult with your tax professional and investment advisor to see if a Roth conversion makes sense for you.