The Roth Conversion Advice That Can Create a Bigger Tax Bill Than Expected

Roth conversions are frequently presented as one of retirement planning’s easiest decisions. Move money from a traditional retirement account into a Roth, pay the tax now and allow the assets to grow tax-free for the future.

The actual decision is far more complicated.

A conversion may reduce future required minimum distributions, give retirees greater control over taxable income and leave heirs assets that can often be withdrawn tax-free. It can also push a household into a higher tax bracket, increase Medicare premiums, make more Social Security taxable and consume cash that might be needed for retirement spending.

The strategy becomes even more confusing when inherited Roth accounts, pensions, rental income and multiple retirement dates are involved. Rules that apply to the original Roth owner do not always apply to a beneficiary, while advice that is appropriate for a retiree with $3 million may be dangerous for someone with a much smaller portfolio and a high spending target.

The question is not whether Roth accounts are valuable. It is whether paying tax today improves the household’s complete retirement plan.

A Roth Conversion Creates Income Before It Creates Flexibility

A Roth conversion moves money from a traditional IRA or another eligible tax-deferred retirement account into a Roth account. The converted amount is generally included in taxable income for the year, except to the extent that the distribution represents previously taxed basis.

That immediate tax bill is the price paid for future flexibility. Qualified Roth IRA withdrawals can generally be received tax-free, and the original Roth IRA owner is not required to take lifetime distributions. Traditional IRA owners, by contrast, generally must begin required minimum distributions at 73 under current law.

The years after employment ends but before Social Security and required distributions begin can create a useful conversion window. Salary may disappear while taxable income remains relatively low, allowing the retiree to recognize income deliberately rather than waiting for mandatory withdrawals later.

That does not mean the retiree should automatically convert to the top of the 12%, 22% or 24% bracket. A bracket is only one part of the calculation. Pension payments, dividends, rental profits, capital gains and part-time earnings all consume taxable-income space before the conversion begins.

The household must also consider state income tax, Medicare premium surcharges and the opportunity cost of using cash to pay the conversion tax. A transaction that appears attractive based only on the federal bracket may be far less compelling after those additional costs are included.

Required Distributions Can Turn a Tax-Deferred Account Into a Tax Problem

Traditional retirement accounts are often attractive during the working years because contributions may reduce current taxable income. The deduction can be especially valuable for workers in their highest-earning years.

The arrangement is a deferral, not an exemption.

Once required minimum distributions begin, the account owner may have to withdraw taxable money regardless of whether it is needed for spending. The amount is generally based on the prior year-end balance and an IRS life-expectancy factor. Large balances can therefore create substantial taxable distributions later in retirement.

A retiree with a pension, Social Security, dividends and rental income may already have significant taxable income before the first required distribution arrives. Adding a large RMD can push part of the household’s income into a higher bracket and create additional tax-related costs.

Conversions can reduce that future balance, but the benefit should be measured rather than assumed. A retiree expecting to remain in a relatively low bracket throughout retirement may gain little by voluntarily paying tax at a higher rate today. Someone likely to face much larger future distributions may benefit from spreading conversions across several lower-income years.

The goal is not to eliminate the traditional IRA. It is to prevent the account from becoming so large that future withdrawals dictate the household’s tax return.

Filling a Bracket Is Not the Same as Minimizing Taxes

Retirement advice frequently recommends converting enough each year to reach the top of a particular federal bracket. That approach is appealing because it produces a clear number.

It can also be misleading.

A conversion may cause long-term capital gains that would otherwise be taxed at a lower rate to become more expensive. It may increase the taxable portion of Social Security after benefits begin or move a Medicare beneficiary into a higher income-related premium tier. These interactions can create an effective marginal cost above the published tax rate.

The 24% bracket should not automatically be avoided, either. Paying 24% today may be sensible when the same money is likely to be taxed at 32% or 35% later. Conversely, converting merely because room remains in the 22% bracket may be a mistake when future withdrawals are expected to be taxed at 12%.

A useful analysis compares the full cost of converting now with the expected cost of leaving the money in the traditional account. Because future tax rates, returns and longevity cannot be known, the result should be tested under several scenarios rather than presented as one precise answer.

Market Declines Can Improve the Conversion Math

A market downturn can create an opportunity to convert investments at a lower taxable value.

Suppose a retiree wants to move 1,000 fund shares into a Roth IRA. At $100 a share, the conversion creates $100,000 of taxable income. If the fund falls to $75, the same number of shares can be moved while creating $75,000 of income.

If the investment later recovers inside the Roth, the rebound may occur in an account capable of providing tax-free qualified withdrawals.

The strategy is useful only when the conversion already fits the tax plan. A decline should not become an excuse to move an amount the household cannot afford or to make an investment decision based on a prediction that the market has reached its bottom.

A completed conversion generally cannot be reversed merely because prices continue falling. The tax remains due even when the converted investment loses additional value. Retirees should therefore focus on the tax bracket and long-term account strategy rather than trying to trade around short-term market movements.

Roth IRA Owners and Roth Beneficiaries Follow Different Rules

The original owner of a Roth IRA does not have to take required minimum distributions during life. That rule is one of the account’s greatest advantages. Beneficiaries are treated differently.

Most nonspouse beneficiaries who inherit a Roth IRA must empty the account by the end of the 10th year following the original owner’s death. Beneficiaries remain subject to post-death distribution rules even though the original owner had no lifetime RMD obligation.

The distribution deadline does not necessarily mean the withdrawals will be taxable. The Roth IRA’s five-year period is critical.

A qualified Roth IRA distribution generally requires that the five-year period beginning with the original owner’s first Roth IRA contribution or conversion has been satisfied, along with another qualifying condition. The beneficiary effectively inherits the original owner’s holding period rather than starting an entirely new five-year clock for the inherited account.

If the Roth IRA had already satisfied the five-year requirement before the owner’s death, distributions to the beneficiary are generally tax-free. When the account had not yet reached five years, contributions and converted principal may still receive different treatment from earnings, and distributions of earnings before the period is satisfied can be taxable.

A beneficiary should not assume that keeping an inherited Roth for five years after the inheritance automatically resolves every issue. The original owner’s account history, the date of the first Roth contribution and the beneficiary’s required distribution deadline must be reviewed together.

A New Conversion Does Not Always Start the Five-Year Rule People Fear

The phrase “five-year rule” is used for several different Roth requirements, which causes unnecessary confusion.

One five-year rule determines whether Roth IRA earnings qualify for tax-free treatment. That clock generally begins with the first tax year for which the owner made a contribution to any Roth IRA. A person who has held a Roth IRA for 25 years does not normally restart that qualified-distribution clock each time another conversion is completed.

A separate five-year rule may apply to converted amounts when someone under 59½ withdraws converted principal. Each conversion can carry its own five-year period for purposes of the additional early-distribution tax, unless another exception applies.

For a 72-year-old who has owned a Roth IRA for decades, the concern is generally not that every new conversion must remain untouched for another five years before any Roth withdrawal can be tax-free. The owner has already satisfied the age and account-duration requirements for qualified Roth distributions.

The distinction is important because generic warnings about “waiting five years” can lead older retirees to avoid useful conversions or misunderstand which dollars are restricted.

Pension Income Can Fund Spending, but IRA Contributions Require Compensation

Money is fungible, meaning a retiree can receive a pension deposit and use an equivalent amount of cash to make an IRA contribution. Eligibility for that contribution still depends on having taxable compensation.

Pension income by itself does not qualify as compensation for an IRA contribution. Wages, salary, commissions and net self-employment income generally do. A married person filing jointly may also qualify for a spousal IRA contribution based on a working spouse’s compensation, subject to the applicable limits and eligibility rules.

For 2026, the combined traditional and Roth IRA contribution limit is $7,500. People age 50 or older may contribute an additional $1,100, bringing the total to $8,600, provided they have enough qualifying compensation.

A retiree with pension income and part-time employment may therefore remain eligible. Someone receiving only a pension, Social Security and investment income generally cannot create eligibility merely by transferring pension dollars into a Roth IRA.

A Roth conversion is different. Conversions do not require earned income and are not limited by the annual IRA contribution ceiling. That is why a retiree who cannot make a new Roth contribution may still be able to convert part of a traditional account.

A Pension Can Make a Higher Spending Level More Sustainable

Retirement readiness should not be measured only by the investment portfolio.

Consider someone retiring at 60 with $3 million. A 4% initial portfolio withdrawal would provide $120,000 during the first year. If the retiree also receives a pension and later begins Social Security, the portfolio may eventually need to provide far less than that amount.

Suppose a pension supplies $60,000 and Social Security later adds $40,000. A household spending $140,000 would eventually need only $40,000 from investments before taxes and other adjustments. That represents a much smaller withdrawal burden than asking the portfolio to provide the full $140,000 indefinitely.

The early years may still be demanding if the pension or Social Security begins later. A retirement plan must model each year rather than averaging all income across the household’s lifetime. Spending between 60 and 70 may be funded very differently from spending after both guaranteed-income sources begin.

This is why a simple 4% calculation can be too conservative in one period and too aggressive in another. The relevant measure is the portfolio withdrawal required each year after pension, Social Security, rental income and taxes are included.

Delaying Social Security Can Strengthen Later Retirement Income

For people born in 1960 or later, delaying Social Security from full retirement age at 67 until 70 increases the monthly benefit to 124% of the full-retirement-age amount. The increase stops at 70.

That larger payment can reduce the amount needed from investments later in retirement and may increase the survivor benefit available to a spouse. It can also make larger Roth conversions possible during the years before Social Security begins because the household has one fewer source of taxable income.

The trade-off is that the retiree must fund spending during the delay. If doing so requires excessive portfolio withdrawals during a market decline, claiming earlier may produce a stronger overall result even though the monthly Social Security check is smaller.

The claiming and conversion strategies should therefore be evaluated together. Delaying Social Security may create a larger conversion window, but the household must still have enough liquid assets to pay living expenses and conversion taxes without placing the portfolio under excessive pressure.

Retirement Software Is Useful Only When the Assumptions Are Visible

A spreadsheet or professional financial-planning program can model pensions, Social Security, investment withdrawals, inflation and tax consequences across several decades. These tools are valuable because retirement cash flow changes over time and cannot be understood from one account balance.

The output is only as reliable as the assumptions.

A projection using 8% investment returns, low inflation and stable discretionary spending may show that nearly any retirement succeeds. A more conservative analysis may reveal that the plan depends heavily on favorable markets during the first decade.

Retirees should understand the assumptions used for portfolio returns, inflation, Social Security, pension increases, taxes, life expectancy and major expenses. They should also examine poor-market scenarios rather than focusing only on an average projection.

Professional software does not eliminate uncertainty. It makes the uncertainty easier to organize and test.

A 4% Withdrawal Rate Is a Starting Point, Not a Verdict

The traditional 4% rule estimates a first-year withdrawal equal to 4% of the portfolio, followed by inflation adjustments. It can provide a useful reference point for someone retiring around 60 with a diversified portfolio and a long planning horizon.

It should not be applied without considering guaranteed income and spending flexibility.

A retiree whose pension and Social Security eventually cover most essential expenses may be able to spend more from the portfolio during the early, active years. Another retiree with no pension and high fixed expenses may need a more conservative starting rate.

The portfolio’s tax composition also matters. Spending $120,000 from a traditional IRA does not produce the same after-tax income as withdrawing $120,000 from a qualified Roth account. A brokerage withdrawal may include both cost basis and taxable gain.

Retirement spending should therefore be modeled after taxes and across time. A single withdrawal percentage cannot capture a pension beginning at 65, Social Security at 70 or a mortgage ending several years later.

Flexible Spending Can Protect the Plan During Weak Markets

Retirees often divide expenses into needs and wants. Housing, food, insurance and basic medical care are difficult to reduce quickly. Travel, gifts, vehicle upgrades and major home projects may be more flexible.

This distinction can protect the portfolio during a downturn. A retiree who temporarily reduces discretionary spending avoids selling as many investments while prices are depressed. Once markets recover, some of the postponed spending may resume.

The strategy should not be used to justify a plan that works only when travel and recreation are eliminated for long periods. The household should have enough dependable income and stable assets to cover essential costs without constant sacrifice.

A spending buffer can also be created through cash, short-term bonds or other liquid assets. The purpose is not to avoid all stock sales indefinitely but to give the household more control over when they occur.

Debt Decisions Depend on the Rate and the Retirement Cash Flow

Paying off debt before retirement can reduce required monthly spending and create psychological comfort. It is especially compelling when the interest rate is high or the payment would otherwise require substantial portfolio withdrawals.

A low-rate mortgage is a more complicated decision. Paying it off may require selling appreciated investments, creating taxable gains or withdrawing a large amount from a traditional IRA. The resulting tax cost can exceed the financial benefit of eliminating the loan immediately.

Using required minimum distributions or rental income to cover future payments may work when those income sources are dependable and the household has sufficient cash flow. The debt should not be retained merely to preserve investments when the payment creates stress or exposes the retiree to an unacceptable risk.

The correct comparison includes the loan’s after-tax cost, investment risk, liquidity and the value the household places on entering retirement debt-free.

UTMAs and 529 Plans Serve Different Purposes

A Uniform Transfers to Minors Act account belongs irrevocably to the child. The adult custodian manages the account until the beneficiary reaches the age established under state law, but the assets cannot simply be redirected to another child.

Selling appreciated investments inside the UTMA can create taxable gains attributable to the minor, potentially subject to the rules commonly known as the kiddie tax. Moving the proceeds into a custodial 529 plan may provide tax-advantaged growth for qualified education expenses, but the money remains the child’s property.

A standard parent-owned 529 generally allows the account owner to change beneficiaries among eligible family members. A custodial 529 funded from UTMA assets is more restrictive because the underlying money already belongs to the original child.

The transfer can be useful when education is the intended purpose, but it does not erase the custodial ownership or necessarily avoid tax on gains realized before the money enters the 529.

Buying a Car and Leasing One Solve Different Problems

Buying is often less expensive over a long ownership period because the consumer eventually owns an asset and can continue driving after payments end. Leasing may produce a lower monthly payment and make it easier to change vehicles frequently, but the driver generally builds no ownership and must comply with mileage and condition requirements.

The correct decision depends on behavior.

Someone who keeps a vehicle for eight or 10 years may benefit from purchasing. A driver who wants a new model every few years and values predictable warranty coverage may reasonably prefer leasing, even when it costs more over time.

Retirees should evaluate the complete cost, including financing, insurance, maintenance, taxes and the frequency of replacement. A luxury vehicle payment can consume retirement cash flow long after the initial excitement fades.

The decision should support the lifestyle plan rather than being justified by whether a lease or loan creates the smaller advertised monthly number.

Tax Diversification Creates Options No Single Account Can Provide

A retirement plan is more adaptable when assets are distributed among traditional retirement accounts, Roth accounts and taxable investments.

Traditional accounts can provide deductions during high-income working years. Roth accounts can produce tax-free qualified withdrawals and reduce future RMD exposure. Taxable accounts offer access without retirement-plan distribution restrictions and may receive favorable long-term capital-gains treatment.

Holding all wealth in one account type can make future income difficult to manage. A retiree with only traditional IRA money must generally create taxable income whenever spending increases. Someone with Roth and brokerage assets can select the source that produces the most favorable result for that year.

Tax diversification does not require converting every traditional dollar. It requires enough variety that the household can respond to changes in spending, tax law and Medicare costs.

Retirement Planning Is More Than Tax Reduction

A Roth conversion can improve a financial plan, but a technically efficient tax strategy may still be a poor retirement strategy when it consumes liquidity or discourages the household from spending on meaningful goals.

Someone with a secure pension, substantial Social Security and a well-funded portfolio may not need to optimize every tax dollar. The more important decision may be whether the household can travel, help family or retire earlier without threatening long-term security.

Another household may require aggressive tax planning because future RMDs are projected to be large and heirs are likely to inherit traditional accounts during their own peak earning years.

The plan should begin with the desired lifestyle, essential spending and income sources. Roth conversions, debt payments and account withdrawals are then organized around those priorities.

The strongest strategy is rarely the one that produces the lowest tax bill in a single year. It is the one that provides sustainable income, sufficient liquidity and enough flexibility to adjust as markets, tax rules and life circumstances change.

Roth conversions are one tool in that system. Their value comes not from moving the largest possible amount, but from moving the right amount during the years when doing so improves the retirement as a whole.

Intended for educational purposes only. Opinions expressed are not intended as investment advice or to predict future performance. Past performance does not guarantee future results. Neither the information presented, nor any opinion expressed constitutes a solicitation for the purchase or sale of any security. Consult your financial professional before making any investment decisions. Opinions expressed are subject to change without notice.

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• Investment Advisory and Financial Planning Services are offered through Pure Financial Advisors, LLC. A Registered Investment Advisor.

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• Opinions expressed are subject to change without notice and are not intended as investment advice or to predict future performance.

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• Intended for educational purposes only and are not intended as individualized advice or a guarantee that you will achieve a desired result. Before implementing any strategies discussed you should consult your tax and financial advisors.