By: Sean Gallagher, CFP®
When markets fall, most investors see losses. Some savvy investors see the opportunity to buy equities at depressed prices. Our planning team often sees another opportunity: a temporary sale on future tax-free growth.
That may sound counterintuitive, but some of the best tax planning opportunities arise during periods of market volatility. One strategy we frequently discuss with clients is a Roth conversion. While it requires paying taxes today, it can create significant tax savings over the course of retirement when used thoughtfully.
As with many financial planning decisions, the value of a Roth conversion depends less on the strategy itself and more on the timing. Like refinancing a mortgage, Roth conversions allow you to take advantage of favorable conditions when they arise. The key is not trying to predict the future. It is recognizing opportunities and acting when the conditions make sense.
Let's walk through what a Roth conversion is, when it can be beneficial, and how to think about timing.
What Is a Roth Conversion and Why Is It So Powerful?
A Roth conversion involves moving money from a Traditional IRA or other pre-tax retirement account into a Roth IRA. The amount converted is included in your taxable income for that year, meaning you pay income tax now in exchange for future tax-free growth and tax-free qualified withdrawals.
At first glance, voluntarily paying more tax may not sound appealing. However, Roth conversions are not about paying more tax. They are about deciding when you pay tax.
Some of the biggest advantages include:
Future investment growth can be withdrawn tax-free.
Roth IRAs are not subject to Required Minimum Distributions (RMDs), allowing assets to continue growing if you do not need the money.
Lower pre-tax retirement balances can reduce future taxable RMDs.
Greater flexibility when deciding where to withdraw retirement income.
Potential tax advantages for beneficiaries who inherit Roth assets.
Rather than having future tax bills dictated by Required Minimum Distributions and changing tax laws, Roth conversions give investors more control over their lifetime tax picture.
This is one reason we often encourage clients to think beyond annual tax filing. As we discussed in our article, Beyond Tax Filing: Building a Year-Round Tax Strategy, proactive planning throughout the year often creates opportunities that simply are not available after December 31.
When Do Roth Conversions Make Sense?
Roth conversions can be incredibly valuable, but they are not appropriate for everyone or every year.
Some of the best opportunities occur when your taxable income is temporarily lower than usual. Common examples include:
The years between retirement and the start of Social Security or Required Minimum Distributions.
A year after leaving a job or during a career transition.
Business owners are experiencing an unusually low-income year.
Years with large deductions that reduce taxable income.
Investors who expect to be in a higher tax bracket later in retirement.
Many retirees experience what planners call a "tax valley." Income drops after employment ends, but before Social Security benefits and Required Minimum Distributions begin. Those years often provide an ideal window to gradually convert portions of a Traditional IRA at relatively low tax rates.
On the other hand, Roth conversions are not always the right answer.
You may want to avoid or limit conversions if:
The conversion would push you into a significantly higher tax bracket.
You would need to use IRA assets themselves to pay the tax.
The additional income would significantly increase Medicare IRMAA premiums.
It would cause more of your Social Security benefits to become taxable.
It would phase out valuable tax deductions or credits.
Every conversion should be evaluated within the context of your overall financial plan. A strategy that saves taxes over your lifetime may still be a poor decision if it creates unnecessary taxes today.
How Should You Think About Timing Roth Conversions?
One of the biggest misconceptions is that Roth conversions are primarily a year-end tax strategy.
In reality, opportunities often appear throughout the year.
For example, imagine your Traditional IRA is invested in a diversified portfolio worth $100,000. After a market correction, the value temporarily falls to $80,000.
If you convert during the decline, you pay income tax on $80,000 instead of $100,000. Assuming the market eventually recovers, that recovery occurs inside the Roth IRA, where future growth can potentially be withdrawn tax-free.
Of course, no one knows exactly when markets will bottom. The goal is not to time the market perfectly. Rather, temporary declines can create attractive tax planning opportunities for long-term investors who were already considering a Roth conversion.
This idea aligns with another principle we often discuss with clients: market volatility is not always something to fear. As we explain in Stop Watching the Dips – Start Watching the Decades, short-term declines frequently create long-term opportunities for disciplined investors.
Market declines are only one piece of the timing equation.
Timing also matters from a tax perspective. Instead of completing one large conversion in December, many investors benefit from monitoring their income throughout the year. Mid-year tax projections allow you to estimate where your taxable income will land and determine how much room remains within your current tax bracket.
Rather than accidentally crossing into a higher bracket, many advisors focus on "filling up" the current bracket before stopping. This often results in multiple smaller conversions over several years rather than a single large conversion.
That long-term approach is often where the greatest value comes from.
Rather than asking, "Should I convert my entire IRA this year?" a better question is, "How much should I convert this year as part of a multi-year tax strategy?"
By gradually converting assets over time, investors can coordinate conversions with retirement, Social Security claiming, Required Minimum Distributions, charitable giving, and other income sources. The result is often a smoother lifetime tax picture, lower lifetime taxes, and greater flexibility throughout retirement.
Final Thoughts
Roth conversions are one of the few planning strategies that allow you to proactively shape your future tax bill rather than simply reacting to it.
They are not appropriate every year, nor for every investor. However, when timed well, particularly during lower-income years or periods of market weakness, they can create meaningful long-term value.
My wife and I are set to close on our first home in just a few days. During the mortgage process, our broker and I were discussing how their team monitors interest rates after closing and the types of rate declines that typically justify refinancing. The goal is not to refinance every year or predict exactly when rates will fall. Instead, it's about recognizing when the opportunity becomes compelling enough to act.
I think about Roth conversions much the same way.
Rather than trying to guess what tax rates or markets will do next year, it often makes more sense to monitor for favorable planning opportunities over time. Maybe it's a lower-income year after retirement, a temporary market decline, or a year where deductions create additional room within your tax bracket. When those opportunities arise, a Roth conversion can become a powerful way to improve your long-term financial plan.
The best tax strategies are rarely one-time decisions. More often, they result from consistently watching for opportunities and acting when the conditions are right.
Sean Gallagher is a CERTIFIED FINANCIAL PLANNER™ at HIGHLAND Financial Advisors, a Fee-Only financial planning firm that offers comprehensive financial planning, retirement planning, and investment management. Sean graduated from Virginia Tech’s financial planning program in 2018 and successfully passed the CFP® national exam in 2019. As a Financial Planner at HIGHLAND Financial Advisors, Sean works on developing comprehensive financial plans and investment management for all clients.
The foregoing content reflects the opinions of Highland Financial Advisors, LLC, and is subject to change at any time without notice. Content provided herein is for informational purposes only and should not be used or construed as investment advice or a recommendation regarding the purchase or sale of any security. There is no guarantee that the statements, opinions, or forecasts provided herein will prove to be correct.
Past performance may not be indicative of future results. Indices are not available for direct investment. Any investor who attempts to mimic the performance of an index would incur fees and expenses, which would reduce returns.
Securities investing involves risk, including the potential for loss of principal. There is no assurance that any investment plan or strategy will be successful or that markets will act as they have in the past.
The above article was written with the assistance of artificial intelligence (AI).