Here’s why most US retirees with less than $2,000,000 should avoid Roth conversions

Roth conversions are widely considered to be financially advantageous. Financial advisors often recommend them, and online calculators often consider them a tax-saving strategy.

The idea behind it is simple: Pay taxes now, move savings from a pre-tax retirement account to a Roth account, and the funds can grow tax-free and be withdrawn later.

However, these calculations only tell part of the story. Roth conversions are more than just a tax strategy—they’re also bets on longevity, market performance, and long-term tax rates. In other words, this strategy works best if you’re in a low tax bracket today, in a higher tax bracket later, and live long enough to recoup the prepaid taxes.

For many people, especially those who retire later with less than $2 million in savings, the odds of a net gain are lower. Here is a closer look at the risks of converting to Rus.

If you pay taxes up front to convert assets from a 401(k) or traditional IRA to a Roth account, the assets must grow enough to offset the taxes paid.

For example, if you convert $100,000 and pay $20,000 in taxes, it may take several years for the remaining $80,000 to exceed $100,000 to recoup the cost of the taxes.

Generally speaking, the lower the withholding tax and the longer the investment horizon, the greater the potential return, according to a study published by the Financial Planning Association. (1)

Many financial advisors and online calculators assume a retirement age of 30 years, which provides ample time for switching strategies to reap rewards.

But actual retirement time is often shorter. If you retire at age 62, your life expectancy may be about 19.6 years; if you retire at age 67, your retirement age may be just over 16 years, according to the Social Security Administration’s actuarial tables. (2)

Depending on the taxes paid on the conversion, this may not be enough time to earn a substantial return.

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The core assumption of a Roth conversion is that you pay taxes now to avoid paying taxes in retirement. But if your current tax bracket is high, the trade-off may not be beneficial.

Consider a high-income corporate executive with a marginal tax rate of 32%. Any Roth conversions will be taxed at this rate. However, she expects her retirement income to come primarily from capital gains, so the effective retirement tax rate is 15%–18%.

Paying 32% today to avoid fees as high as 18% later is usually a bad trade-off. It’s rare for retirees to face the highest tax rate on every dollar they withdraw, but high earners often do this while working.

Given average life expectancy and the possibility of lower retirement tax rates, a Roth conversion may not be suitable for many current savers. However, those with significant pre-tax assets (perhaps more than $2 million) may benefit more from this strategy.

For investors with more than $2 million in pre-tax retirement accounts, a Roth conversion may be more attractive.

Substantial savings allow people to retire early, providing more time to enjoy the rewards of a Roth conversion. Retiring early and deferring Social Security benefits can also create a window to convert in a lower tax bracket.

Large pre-tax accounts also increase the risk of facing required minimum distributions (RMDs) later on, which could push you into a higher tax bracket, making switching more attractive.

The bottom line is that Roth conversions are not universally “tax efficient.” Whether this strategy is right for you depends on factors that online calculators can’t fully capture. Keep these in mind when planning your retirement.

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Financial Planning Association (1); Social Security Association (SSA) (2).

This article provides information only and should not be considered advice. It is provided without any warranty of any kind.