Understanding Roth IRA Conversions

Basic Rules

A Roth conversion is a transfer or rollover from an eligible retirement plan — such as a traditional IRA, Simple IRA, SEP IRA, qualified plan, including 401(k) plan, 403(b), or 457 governmental plan — to a Roth IRA. The funds can be received by the taxpayer and rolled into the Roth IRA within 60 days or transferred trustee-to-trustee. If the conversion is from a traditional IRA to a Roth IRA with the same trustee, the account owner can direct the trustee to transfer the funds or if the entire account is converted, the traditional IRA can be redesignated as a Roth IRA.

Conversion rules

1. The amount of the distribution that would have been included in income if it were not converted to a Roth IRA is included in income in the year of the conversion. That means that any part of the conversion that is attributable to basis is not included in income.

2. The 10% penalty tax on distributions before age 59½ does not apply.

3. The converted amount is treated the same as a regular Roth IRA contribution once the five-year period rule is met. The converted amount can then be withdrawn tax-free and penalty-free, regardless of the taxpayer’s age.

4. A Simple IRA will qualify for conversion only if a two-year period has elapsed since the taxpayer first participated in any Simple IRA of an employer.

5. Taxpayers age 72 or older cannot avoid the required minimum distribution (RMD) for the year by converting an eligible retirement plan to a Roth IRA.

Five-year period rule

To avoid a 10% penalty on distributions following a Roth IRA conversion, taxpayers who do not meet one of the penalty exceptions cannot take a distribution within the five-year period beginning with the first day of the tax year in which the conversion was made. Once the five-year period has expired, taxpayers can withdraw conversion amounts (but not earnings) without penalty regardless of their age. The tax-free and penalty-free withdrawal of the earnings portions is subject to the same rules as for Roth IRA contributions. Remember that each conversion amount has its own five-year period and must satisfy the five-year period rule to avoid the 10% early withdrawal penalty.

Example A. Beth, age 40, converts $50,000 from a traditional IRA into a Roth IRA on July 28, 2021. Beth will owe income tax on the converted amount, but no 10% penalty. If she withdraws $10,000 on or after January 1, 2026, the withdrawal is exempt from the 10% penalty even though Beth is under age 59½ at that time.

Variation: Beth takes the $10,000 withdrawal from the Roth IRA in 2022. The $10,000 withdrawal is subject to the 10% penalty because she has not satisfied the five-year period rule and she does not meet any of the regular exceptions to the 10% penalty tax.

Example B. Joe, age 59, converts a $25,000 traditional IRA into a Roth IRA. If he withdraws $10,000 the next year, the withdrawal is penalty free because Joe is over age 59½.

Converting an IRA with basis. To the extent that converted amounts include the basis (that is, previous nondeductible contributions) in a traditional IRA, the conversion is not taxable. Any subsequent withdrawal of such converted amount is not subject to tax or the 10% penalty, regardless of how long it was left in the Roth IRA before withdrawal.

Post-Conversion Distributions

When there has been a Roth conversion, distributions from a Roth IRA are treated as made in the following order.

1. From regular Roth IRA contributions.

2. From conversion and rollover contributions, on a first-in first-out (FIFO) basis. The previously taxed portion (amount included in income due to the conversion) of each of these contributions is considered distributed first.

3. From earnings.


Contributions to one type of IRA can be treated as having been made to a different type of IRA. This is called “recharacterizing the contribution.”

Effective January 1, 2018, pursuant to the TCJA, a conversion from a traditional IRA, SEP or Simple to a Roth IRA cannot be recharacterized. The law also prohibits recharacterizing amounts rolled over to a Roth IRA from other retirement plans, such as 401(k) or 403(b) plans.

Thus, recharacterization cannot be used to unwind a Roth conversion. However, recharacterization is still permitted with respect to other contributions. For example, an individual may make a contribution for a year to a Roth IRA and, before the due date for the individual’s income tax return for that year, recharacterize it as a contribution to a traditional IRA. In addition, an individual may still make a contribution to a traditional IRA and convert the traditional IRA to a Roth IRA, but the provision precludes the individual from later unwinding the conversion through a recharacterization.

If you have questions about turning your current IRA into a Roth IRA, contact me or any member of our tax services team. We can guide you through the process.

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