Roth Conversion Calculator

To determine if converting some or all IRA assets into Roth IRA assets is beneficial, one must consider several factors. These include the current income tax rate versus the expected future tax rate, the investment horizon, and the individual's risk tolerance. If the current tax rate is lower than the expected future tax rate, converting to a Roth IRA may be advantageous as it allows for tax-free withdrawals in retirement. Additionally, the investment horizon and risk tolerance will impact the growth potential of the converted assets. It is also important to consider the expected lifetime and withdrawal rate to ensure that the conversion aligns with long-term financial goals.

To make the conversion decision, one must calculate the terminal values of assets after they have grown at an assumed rate of return, \( R \), and in the case of taxable assets, incorporating the taxes on investment earnings.

Roth assets \( RA \), are equal to the fraction, \( CA \), of total assets, \( TA \), that are to be converted. Mathematically, this is expressed as \( RA = TA \cdot CA \).

Because converting IRA assets to Roth IRA assets is a taxable event, we assume that the tax impact is available in cash. It is further assumed that the tax impact will be grown at the same rate, \(R\), as the IRA and Roth assets but because they are taxable, a tax efficiency ratio, \( TER \), is applied to \(R\). The taxable assets, \( T \), are equal to \( TA \cdot CA \cdot IT \), where \( IT \) is the marginal income tax rate.

Now that the IRA, Roth, and taxable assets have been calculated, they must be compounded over the investment horizon, \( IH \). After compounding, it is assumed the assets are liquidated into cash. At liquidation, assets in an IRA account must be taxed at their expected income tax rate, \( EIT \).

\( LR = RA \cdot (1 + R)^{IH} \)
\( LIRA = (TA - RA) \cdot (1 + R)^{IH} \cdot (1 - EIT) \)
\( LTA = TA \cdot (1 + R)^{IH} \cdot (1 - EIT) \)
\( LT = TA \cdot (1 + TER \cdot R)^{IH} \)

Finally, one can compare terminal values. If Roth and remaining IRA assets are greater than the combined total and taxable assets, then converting to a Roth IRA is beneficial. Mathematically, this is expressed as \( LR + LIRA > LT + LTA \).