Roth IRAs Are Great for Almost Everyone

The time is certainly right for many investors to consider converting their traditional IRAs into Roth IRAs. But that consideration requires a careful assessment of your particular circumstances -- and not everyone will benefit.

On Monday, we talked about a few scenarios in which most people would benefit from converting (see Preaching to the Unconverted.) Now let's look at a few cases in which the Roth conversion may not be a good idea.

With traditional IRAs, investors get a tax break on their contributions but owe income tax on everything they withdraw. With Roth IRAs, though, the taxation is essentially reversed -- your contributions are taxed (in other words, there's not deduction), but qualified withdrawals are not. ("Qualified" withdrawals refer to any gain that your initial investments earn: Your after-tax contributions can be withdrawn at any time for any reason without additional tax or penalty.)

For a withdrawal to be "qualified," the Roth must have been open for at least five years and you must be 59 1/2 or older, disabled or a beneficiary. You can also take out up to $10,000 of gain tax-free if you're using the money to buy a home. That $10,000 is a lifetime limit, not an annual one, and the home can be for you, your children or grandchildren, provided that you haven't bought a new home in the last two years.

An additional bonus of Roth IRA concerns mandatory distributions -- there aren't any. Traditional IRAs require that their owners start withdrawing a prescribed amount annually once they turn 70 1/2. Roth IRAs, though, have no such restrictions, making them particularly attractive as an estate planning tool.

Keep in mind, though, that the money that you move from a traditional IRA into a Roth IRA counts as income -- even though you're just switching it between accounts -- and you will owe ordinary income tax on that amount. If the amount is relatively small, or if your income tax bracket is lower this year than you expect it will be in the future, it will likely pay to convert. (Only taxpayers with modified adjusted gross income of less than $100,000 are eligible to convert their traditional IRAs to a Roth.)