There are times when having cash in your investment account makes more sense than being fully invested. The amount of cash to have available at any given time varies when it comes to money management. There are times when being fully invested is appropriate and there are times that having as much as twenty percent cash makes sense. There will be times that having more than twenty percent cash is appropriate, but those scenarios do not happen that often. I field questions from clients for many reasons, but the one I have heard most lately is “Why do I have so much cash sitting around?â€
We raise cash for various reasons, but the biggest reason is that having cash on hand when markets become fully to overvalued can create a significant opportunity to take advantage of market corrections. If you have read any of my previous articles, you may remember that market corrections of ten percent or more happen quite often. In fact, these types of corrections happen on average every eighteen months and usually last on average three to four months. The time to raise cash is not after the market has already corrected, but prior to the correction. Having cash on hand allows us to take advantage of assets being mispriced or undervalued and can have a significant impact on the volatility of your portfolio as well as the overall return on investment. When opportunities present themselves it’s much more difficult to raise cash to take advantage of these situations than it would be to already have the liquidity necessary to capitalize.
Today, the problem with the market is that bonds and equities are sitting at or near all-time highs. In fact, the bond market is probably a more risky play than the stock market at current levels. The thirty-year treasury is yielding a mere 2.95 percent. This means if you buy a thirty year bond from the United States government and own it to maturity, you will barely keep up with inflation. Does this sound like a good deal to you?  Keep in mind that as interest rates rise, the value of your bond drops. Are you willing to wait thirty years to get your money back should we move into long term rising interest rate environment?
Look, I am not saying go sell all your bonds and all your stocks. I am saying be prudent. Raising a little cash is not going to hurt you. It’s a smart time to have some cash sitting around, because opportunity will present itself and you need cash on hand to take advantage.
Am I eligible to Convert my Traditional IRA to a Roth IRA?
Converting your Traditional IRA to a Roth IRA can be one of the best financial decisions made when saving for retirement if done correctly. Prior to 2010 there was an income limit that restricted the conversion to a Roth IRA if your (AGI) was over $100,000. As of 2013, the income limitation does not exist for a conversion, but it still exists for contributions. This does not mean it will not come back in the future, but for 2013 and beyond anyone can convert an existing Traditional IRA to a Roth IRA regardless of income.
For example, someone has a Traditional IRA with $350,000 invested, that IRA can be converted to a Roth and all the taxes need to be paid for the tax year the conversion was completed. After converting to a Roth, the money grows tax-free. Paying the taxes on this money now might sound like a tough pill to swallow, but the potential tax savings down the road can be significant. Wouldn’t you rather pay taxes on $350,000 now than pay taxes on $1,000,000 in the future? One of the keys to doing this correctly is paying the taxes with funds outside of a qualified plan. Paying the taxes with money from the IRA defeats the purpose and will negate the full tax saving potential.
This is just one example of completing a Roth conversion. You can do partial conversions as well. This means you do not have to convert the entire account. You could develop a strategy of doing partial Roth conversions over multiple years. The key is to consult with your tax advisor or accountant to make sure the conversion will not put you into another tax bracket. Every dollar you convert is taxed at your ordinary income tax rate. This strategy works best for younger investors who have longer to allow the money to grow and compound. It can also work well for an older investor who is in a low tax bracket. Another reason to convert to a Roth is that Roth IRAs are not subject to the Required Minimum Distribution after you reach age 73. For those of you out there that do not plan to use your IRA money to live this can be a huge advantage when it comes to passing along your IRA to your beneficiaries. Roth IRAs continue to grow tax-free after the conversion and after you die. There are distribution requirements for the beneficiaries, but the distributions are tax-free as well.
This strategy might not be right for everyone. I would advise you to consult with a Certified Financial Planner™ or your tax advisor prior to taking advantage of this potentially large tax savings. One of the best times to complete a Roth conversion is when the value of your Traditional IRA has fallen due to a market correction like we experienced in 2022. If you have questions on this article or would like to schedule a free financial review. Please contact Jay Chapman at 772-320-9658 or email [email protected].
