This may not be of value to very many, but for those few it may be VERY valuable. For those with a “traditional” IRA or a “rollover” IRA, you may be one of the people that it’s VERY valuable for. As we’ve covered before in our “Do the minimum” retirement post, there is one major difference between a traditional (or rollover) IRA and a Roth IRA. With a traditional, the earnings of the money in the account are tax deferred. With a Roth IRA, they are tax free. This is a large advantage of the Roth for those that will have large amounts of appreciation in their IRA accounts. The traditional IRA does have something in its favor however, and that is it reduces your taxable income for the current year. For example, if you make $50,000 and contribute $5,000 to your traditional IRA, you will pay taxes on $45,000.

It’s popular opinion that for those opening a new IRA, a Roth is the way to go. But for many of us, we may have opened up our IRA prior to the creation of the Roth IRA. A more common occurrence is the existence of what is known as a “rollover IRA.” In my case, I created a rollover IRA when I left a previous employer and I had a 401(k) account that needed to be handled. Because a 401(k) and a rollover IRA are both tax deferred accounts, the money can be migrated over without having to pay any taxes in the current year.

At the time I really couldn’t afford to make a conversion from 401(k) to Roth IRA because of the tax bill it would cause me. But over the past few years, I have found it increasingly difficult to manage two pools of money, two independent accounts, with one common goal and time horizon. Seeing as I am now 32 years old, I’ve got roughly three decades of investing to go before I will be taking withdrawals from my IRA accounts. I just don’t think I could put up with the dual accounts any longer.

So what changed in 2010 that makes me write this post? There are new rules in 2010 that allow for those who previously would not have met the requirements to convert, to do so. The good news on the tax front, is that even though you are making the conversion in 2010, you can pay the taxes over the next three years, which makes the conversion a little easier to stomach.

For those with a long term time horizon, the conversion makes a lot of sense. Paying some taxes now to save on the gains you will make over decades and decades of investing, will pay (no pun intended) dividends in the future.

Other posts of interest

• My current financial holdings
• Do the minimum when it comes to retirement
• How could I have forgotten Ford?
• The week in review