If you're taking a long break from work, considering rolling over your Traditional 401k into a Roth IRA.
Converting your savings into a Roth IRA account has three advantages: it will grow interest free, you'll be able to withdraw tax-free, and you can withdraw within five years of the conversion without an early withdrawal penalty.
But there's a downside: a Roth conversion is a taxable event. If you have $100,000 in your Traditional 401k and do a conversion, the IRS will consider this an additional $100,000 in income and tax it appropriately. This value is added to your regular income — which means it'll probably be taxed at the highest brackets.
If your income for the year is significantly low though (due to a sabbatical), it's the perfect time to convert some or all of your Traditional 401k. The money you convert will be taxed at the lower tax brackets, since you've received a smaller amount in regular income already.
- Should You Make a Roth Conversion or Not
- Current US Tax Brackets
- NerdWallet's How to Do a Roth IRA Conversion
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