In 2010, there was a lot of commotion over the repeal of the $100,000 modified adjusted gross income limitation. With the reinstatement of the “Bush tax cuts”, Roth IRA conversions have once again become a powerful short-term and long-term income tax planning strategy, especially in 2011 and 2012.
Understanding Roth IRA conversions is not easy. The best way to truly understand and analyze Roth IRA conversions (and take advantage of its benefits) isn’t by following the rules of thumb or by devising some complicated mathematical formula to find an “optimum” conversion amount. Rather, the best way to understand Roth IRA conversions and analyze them properly is to develop several fairly straightforward spreadsheet with certain key concepts. The following is a summary of key variables that need to be identified and addressed in order to best analyze a Roth IRA conversion:
1. Asset mix (i.e., qualified versus nonqualified, liquid versus illiquid)
2. Traditional IRA balance
3. Time horizon
4. Current and future cash flow needs
5. Current tax rate versus projected future tax rate
6. Ability to pay the income tax with nonqualified funds
7. Estate planning objectives
