25 Jul What happens when you convert an IRA to a Roth IRA?

Q. After a Roth conversation, how do you calculate the five-year holding period? When does the holding period start and end? And if you make other conversions to a Roth IRA, do you start a new five-year period or does first transaction cover later conversions?
— Investor

A. Many people decide to convert their traditional IRAs to Roth IRAs.

When it happens, you would pay taxes on the conversion, but then your money will grow free of tax, and it will remain tax-free when you make withdrawals after the so-called five-year holding period.

The five-year holding period for Roth conversions is the point after which withdrawals of the conversion amount would no longer be subject to the 10% early withdrawal penalty, said Alex Vaccarella, a certified financial planner with Wealth Enhancement Group in Warren.

He said the holding period is a calendar year limit deemed to have begun on Jan. 1 of the year of the conversion.

For example, even if you wait until Dec. 31, 2022 to make a conversion, the year 2022 will count as one of the five years, he said. You will be able to take penalty-free withdrawals on the converted amount beginning in 2027.

Vaccarella said each conversion has its own five-year holding period.

“Interestingly, because distributions from Roth IRAs are never subject to the early withdrawal penalty after the owner is age 59½, there is effectively no five-year holding period after that age,” he said. “To confuse things even further, Roth contributions also have a separate five-year holding period that works slightly differently and is satisfied once for all future contributions.”

If you’re planning to take money out of a converted IRA, we recommend you meet with your tax advisor so you can be sure of how your account withdrawals will be considered.

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This story was originally published on July 25, 2022.

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