Wall Street Journal had an article the other day discussing the pros and cons of recharacterizing your Traditional IRA to a Roth IRA. The thinking is that you can take advantage of lower taxes due to the big hits the market has taken. If you move your Traditional to a Roth, you will have to pay taxes on what is being converted. Since that amount is (most likely) lower than it has been, your tax penalty will be lower. Below is an example from the article:

For an investor in the 28% tax bracket who had a $10,000 traditional IRA a year ago, for example, conversion back then would have led to a $2,800 tax bite. If the value of that account has fallen to $6,000, the federal income tax would be $1,680.

Talk about making lemonade out of lemons. That converted amount can begin to grow tax free. The great thing about this conversion is that it’s just paper losses at this point. You still have X amount of shares. If you are not planning to retire in the near future, this could be a good option. Having a Roth also means no penalty for not withdrawing. Traditional IRA require you to begin taking minimum distributions at when you are 70.5 years young. This does not apply to a Roth account.

Before you go running to your account to make changes, you also have other things to consider. Your current vs future tax rate can also have an impact on your portfolio potential. Not knowing what your tax rate when you retire can impact your decision. T Rowe Price has an IRA coversion calculator that you can use to determine if this option is right for you. You should also be aware that next year (2010)  if you choose to make the conversion from Traditional to Roth, you will be able to split the taxes between 2011 and 2012. This is very helpful for those who don’t have cash on hand or who want to plan ahead.

Finally, you should also check to make sure you are eligible. For years before 2010, if your modified adjusted gross income is greater than $100,000, you can’t convert a Traditional IRA to a Roth IRA.

Anyone planning on making a switch this year?