The New Year has arrived, and with it brings a new opportunity to get more dollars into the much acclaimed Roth IRA. In the past, high-income earners have been restricted from converting a Traditional IRA into a Roth IRA. Beginning this year, there is no longer an income limitation preventing conversions, so many investors are evaluating the strategy of converting part, or all, of their Traditional IRA into a Roth IRA. However, many investors find themselves with more questions than answers. There are numerous factors to consider and conflicting opinions abound.

The key advantage to the Roth IRA is its ability to generate tax-free withdrawals. Unlike Traditional IRAs, there is no mandate that withdrawals begin at a certain age, so tax-free growth can continue For many years. This tax-free advantage comes at a price: money going into a Roth IRA is subject to income tax. Therefore, the first hurdle an investor needs to clear before converting to a Roth IRA is to pay the income tax owed from the conversion. Generally speaking, it is better to pay the tax with non-IRA dollars, and it is best to allow the new Roth IRA at minimum 5+ years of growth in order to re-coup from the tax hit.

Ideally, you would convert to a Roth IRA when your tax rate is lowest. While we don't know where tax rates are headed, we do know where they've been, and historically speaking they are low. Our current tax rates are set to increase next year when the "Bush Tax Cuts" expire, unless further legislation is enacted. With looming budget deficits, our government is faced with the challenge to generate additional revenue amidst high unemployment and continued economic frailty. Because of this, many believe that the tax cuts will be allowed to expire.

If you believe there is potential for higher taxes in the future, does this mean that you should rush to move all retirement assets to a Roth IRA? Not necessarily. Besides the fact that future tax rates are unknown, converting too much at a time may push you into a higher tax bracket, and may have other unintended tax consequences.

This strategy gets even more complicated when you consider that conversions that take place in 2010 can be added to the 2010 tax return as income, or split evenly between 2011 and 2012. While it may sound better to push the tax burden out, expiring tax cuts may increase tax rates in those years. Also, if you move forward on a conversion and then change your mind, you can. Called a recharacterization, this strategy allows you to put part, or all, of the converted capital back into a traditional IRA. 

Since the factors are complex, consider maintaining both a Traditional and Roth IRA. This will give you more flexibility and control to decide what retirement income to generate in the future. As with any tax-planning strategy, consult with a qualified Tax and Financial Advisor to evaluate the pros and cons to the conversion in regard to your specific situation.