Conversion to Roth 401(k) can be a great option if you anticipate earning more in retirement than what you’re earning at the moment. So how to convert to a Roth 401(k)?
For some employees, this isn’t even an option. That said, you should check your plan administrator or employer to see if converting your traditional 401(k) to Roth 401(k) is an option in the first place.
If you can convert, the first thing you should calculate is the tax you will owe when the conversion happens. Since your traditional 401(k) retirement account is filled with pre-tax dollars, converting them to Roth 401(k) will make you pay tax on the amount earned. If the taxes are too much to bear and you can’t pay the tax bill, you surely want to wait until you can pay.
How to calculate Roth 401(k) conversion taxes?
Once you decide to convert to Roth 401(k), the process of it will vary from company to company. But generally, the companies who allow their employees to convert traditional 401(k) to Roth 401(k) will have the plan administrator to handle it. This won’t be the challenging part though, the taxes will.
Assume you’re in the 24 percent tax bracket. If you move $100,000 to Roth 401(k), you will owe $24,000 in taxes. You should only do this if you expect to be in a higher tax bracket than the 24 percent bracket. So, if you don’t expect to be in the 32, 35, or 37 percent tax bracket, there is not really a point to the conversion.
The biggest difference between a traditional 401(k) and Roth 401(k) is how the money is taxed. If you stick with Roth 401(k), you will immediately pay taxes on the amount contributed whereas, with a traditional 401(k), you get a tax break as you’ll pay taxes on your withdrawals. See the early withdrawal penalty for 401(k) retirement accounts.