Roth Conversion

[petsetc]

An unsolicited suggestion

For those of you who either have not yet started drawing Social Security or are in a low tax bracket, you should consider doing a Roth conversion to minimize future tax liability.

If you are already drawing Social Security, remember that a Roth conversion increases your income and therefore will increase the portion of Social Security that is taxed.

Why do a Roth conversion?
Because there is a good chance that taxes will be higher in the future …
Because once converted, the money grows tax free …
Because distribution to heirs is tax free to them …
Because ...

I use the prior year’s Turbo Tax to do a mock-up to evaluate whether and how much to convert – based on how much more I’m willing to pay in taxes.

I wish I had been more aggressive in doing conversions prior to taking Social Security.

Important - Roth conversions must be completed prior to the end of the calendar year.

JMHO

[tophcfa]

An unsolicited suggestion

For those of you who either have not yet started drawing Social Security or are in a low tax bracket, you should consider doing a Roth conversion to minimize future tax liability.

If you are already drawing Social Security, remember that a Roth conversion increases your income and therefore will increase the portion of Social Security that is taxed.

Why do a Roth conversion?
Because there is a good chance that taxes will be higher in the future …
Because once converted, the money grows tax free …
Because distribution to heirs is tax free to them …
Because ...

I use the prior year’s Turbo Tax to do a mock-up to evaluate whether and how much to convert – based on how much more I’m willing to pay in taxes.

I wish I had been more aggressive in doing conversions prior to taking Social Security.

Important - Roth conversions must be completed prior to the end of the calendar year.

JMHO

All very good points, but also consider that if you aren’t yet eligible for Medicare and are getting health care through Obamacare, converting to a Roth will increase your income and could either reduce, or whip out, any tax credits you get toward your health insurance.

[Boomer]

Getting this done before hitting RMD age can be especially helpful. Once that age hits, you have to take your RMD before you can do a conversion to Roth.

When you are of RMD age, that’s past Medicare age, and a conversion then could throw you into IRMAA’s clutches. But it could still be a good idea to do a conversion anyway.

I think if you do them while you are in a lower tax bracket, you will be very glad down the road……But just because you are older, conversions to Roth should not be off the table. There are just more things to be aware of like IRMAA, and about how using QCDs for part of an RMD can help with the AGI.

Yep. There’s still time to see what 2022 says about what you should/could do.

Boomer

Note: That’s a typo in the subject line. — that ‘or’ on the end now makes no sense. I bumped the iPad. I wish we could correct subject lines or titles here, but I guess it’s a quirk of the system that we can’t.

[retiredguy123]

Getting this done before hitting RMD age can be especially helpful. Once that age hits, you have to take your RMD before you can do a conversion to Roth.

When you are of RMD age, that’s past Medicare age, and a conversion then could throw you into IRMAA’s clutches. But it could still be a good idea to do a conversion anyway.

I think if you do them while you are in a lower tax bracket, you will be very glad down the road……But just because you are older, conversions to Roth should not be off the table. There are just more things to be aware of like IRMAA, and about how using QCDs for part of an RMD can help with the AGI.

Yep. There’s still time to see what 2022 says about what you should/could do.

Boomer

Note: That’s a typo in the subject line. — that ‘or’ on the end now makes no sense. I bumped the iPad. I wish we could correct subject lines or titles here, but I guess it’s a quirk of the system that we can’t.
I think you can edit the title of a post or a thread by clicking on "edit" and then "go advanced".

[Babubhat]

There is no reason to pay tax on RMD if the amount is material and you are willing to do a little work. Follow the rich tax strategies

[Boomer]

I think you can edit the title of a post or a thread by clicking on "edit" and then "go advanced".


retiredguy123!

Thank you!

I just followed your direction and voila! The mistake in my title/subject heading disappeared!

I have been around here forever and had never even once paid attention to that “go advanced” thing. Thank you for starting my day off with learning something.

Boomer

[CoachKandSportsguy]

An unsolicited suggestion

For those of you who either have not yet started drawing Social Security or are in a low tax bracket, you should consider doing a Roth conversion to minimize future tax liability.

JMHO

The above is a cost minimization strategy as opposed to a wealth maximization strategy. One point to remember, is that the recovery period from the loss of tax payments is highly variable and at times needs substantial amount of time to recover.

using a 8 percent historical average return on a portfolio, and using a high tax bracket of say 35% to move a significant portion or if you aren't in a low tax bracket which many people aren't, the recovery time is almost 5 years, and that 5 years is not a guarantee, just a long term average where some periods have been substantially longer.

The current environment is one where the recovery period is definitely longer than the average.

finance guy

[retiredguy123]

If you are able to convert all of your retirement assets into a Roth, it will help your heirs in two ways. One, they will owe no income taxes. And two, they will not need to hire a tax expert to handle the withdrawal and tax process.

If your traditional IRA, like mine, consists of a combination of pre-tax deposits and after-tax deposits, you, or your heirs, can exclude the after-tax deposits from your taxable income when you withdraw the money. If that is the case, you need to provide your heirs with a copy of your last IRS Form 8606 so they don't mistakenly pay tax on 100 percent of the account. If you have been retired for many years, the last Form 8606 may have been prepared years ago. It can be an important document that should be kept with your will. And, if you inherit a large traditional IRA, you should review the deceased's tax returns to see if they ever filed a Form 8606.

There is another thing to consider if you have a traditional IRA. If you move into an assisted living facility or a nursing home, a large percentage of the cost will be tax deductible medical expenses. In the case of a nursing home, 100 percent is tax deductible. And, it could be about 60 percent in assisted living. So, that could be another way to avoid tax on your IRA.

[CoachKandSportsguy]

IAnd, if you inherit a large traditional IRA, you should review the deceased's tax returns to see if they ever filed a Form 8606.

If you move into an assisted living facility or a nursing home, a large percentage of the cost will be tax deductible medical expenses. And, it could be about 60 percent in assisted living. So, that could be another way to avoid tax on your IRA.

Excellent points about alternatives which are helpful. My mom is 96, and in assisted living, and am draining her IRAs at zero taxes to pay for memory care assisted living, prior to paying with personal assets. . . and even then , I have the option to move her to a all government paid facility after the IRA is drained, as their monies are all in trusts.

There are no known assets planners who can tell you how long you will live and how you will live. That is an unknown which no one knows. A car accident tomorrow or out living your assets are both possible outcomes with only probability estimates.

good luck. . and the future is always uncertain, don't ever think otherwise.

[Stu from NYC]

There is an opportunity cost in paying taxes earlier than you have to.

For example if you paid 25% in taxes to convert to a roth that 25% is no longer earning you a return.

[Maker]

There is an opportunity cost in paying taxes earlier than you have to.

For example if you paid 25% in taxes to convert to a roth that 25% is no longer earning you a return.

That's not quite right.
Let's say you have $1000 in IRA. Earns 10% ($100). In one year that's now $1100. Withdraw it and pay 25% tax, you get $825.
Instead convert to roth and pay 25% tax today. You have $750 in the roth. Earns 10% ($75). In one year that's now $8250. Withdraw it and pay no tax, you get the exact same $825.

The variable is what tax rates are you encountering today vs the future. Will other income (social security) be taxed? And inheritance issues.
It's great to have tax free money in a roth in case you encounter a big expense that would otherwise require IRA assets withdrawn at a much higher tax bracket.

[Romad]

An unsolicited suggestion

For those of you who either have not yet started drawing Social Security or are in a low tax bracket, you should consider doing a Roth conversion to minimize future tax liability.

If you are already drawing Social Security, remember that a Roth conversion increases your income and therefore will increase the portion of Social Security that is taxed.

Why do a Roth conversion?
Because there is a good chance that taxes will be higher in the future …
Because once converted, the money grows tax free …
Because distribution to heirs is tax free to them …
Because ...

I use the prior year’s Turbo Tax to do a mock-up to evaluate whether and how much to convert – based on how much more I’m willing to pay in taxes.

I wish I had been more aggressive in doing conversions prior to taking Social Security.

Important - Roth conversions must be completed prior to the end of the calendar year.

JMHO

If you are 63 or older, the increased income could affect your Medicare cost as Part B is means tested based one one’s AGI from 2 years ago.

[PersonOfInterest]

Sadly the Retirement accounts that were to yield tax savings in retirement didn't work out in many cases. Many individuals took tax savings when they deposited into Traditional IRA accounts in anticipation that when they took the funds out after retirement that they would be in a lower tax bracket and therefore pay less tax on the funds that become 'income' when withdrawn. The majority of those who are now, or soon to be, retired are Not in a lower tax bracket. Some, in fact, may be in a higher tax bracket in retirement than they were when they were contributing to their IRAs.

[rsmurano]

IMO, the best time to do a Roth conversion is when the stock market/your holdings are down 30-50% then you aren’t paying all the capital gains as you would be paying if the market was high. If we enter a deep recession next year and the market tanks, then it might be right to do it.

Remember there are other issues when doing this conversion. You can’t take any money out of it for 5 years. Also, the income you generate on this conversion you will have to be in that tax bracket for 2 years paying higher Medicare premiums, after 2 years they use your current income.

For me, I would only consider this conversion if I was caught in the stock market and it dropped 50%, and I had enough money in my taxable accounts to hold me over until I can withdraw from the Roth.

Also remember they adjusted the age you have to take rmd out now. I think for me it’s 75 years old. In the next 8 years, they might adjust it even higher

[petsetc]

IMO, the best time to do a Roth conversion is when the stock market/your holdings are down 30-50% then you aren’t paying all the capital gains as you would be paying if the market was high. If we enter a deep recession next year and the market tanks, then it might be right to do it.

Remember there are other issues when doing this conversion. You can’t take any money out of it for 5 years. Also, the income you generate on this conversion you will have to be in that tax bracket for 2 years paying higher Medicare premiums, after 2 years they use your current income.

For me, I would only consider this conversion if I was caught in the stock market and it dropped 50%, and I had enough money in my taxable accounts to hold me over until I can withdraw from the Roth.

Also remember they adjusted the age you have to take rmd out now. I think for me it’s 75 years old. In the next 8 years, they might adjust it even higher

Respectfully, there is no capital gains considerations in a Roth conversion since the withdrawal from a TIRA is treated as ordinary income.

Also, the 5 year period is only applies to the converted funds, not to the entire Roth balance and the 5 yr count begins on Jan 1 of the year of the conversion. For a Dec, 2022 conversion the year count begins Jan 1, 2022.

[retiredguy123]

IMO, the best time to do a Roth conversion is when the stock market/your holdings are down 30-50% then you aren’t paying all the capital gains as you would be paying if the market was high. If we enter a deep recession next year and the market tanks, then it might be right to do it.

Remember there are other issues when doing this conversion. You can’t take any money out of it for 5 years. Also, the income you generate on this conversion you will have to be in that tax bracket for 2 years paying higher Medicare premiums, after 2 years they use your current income.

For me, I would only consider this conversion if I was caught in the stock market and it dropped 50%, and I had enough money in my taxable accounts to hold me over until I can withdraw from the Roth.

Also remember they adjusted the age you have to take rmd out now. I think for me it’s 75 years old. In the next 8 years, they might adjust it even higher
I agree that it is better to do a Roth conversion when your account is low because you will pay a lower tax, and hopefully, the money will recover the losses tax free in the Roth. But, you never pay capital gains tax on a traditional IRA. Everything you withdraw is taxed as ordinary income.

[Janie123]

IMO, the best time to do a Roth conversion is when the stock market/your holdings are down 30-50% then you aren’t paying all the capital gains as you would be paying if the market was high. If we enter a deep recession next year and the market tanks, then it might be right to do it.

Remember there are other issues when doing this conversion. You can’t take any money out of it for 5 years. Also, the income you generate on this conversion you will have to be in that tax bracket for 2 years paying higher Medicare premiums, after 2 years they use your current income.

For me, I would only consider this conversion if I was caught in the stock market and it dropped 50%, and I had enough money in my taxable accounts to hold me over until I can withdraw from the Roth.

Also remember they adjusted the age you have to take rmd out now. I think for me it’s 75 years old. In the next 8 years, they might adjust it even higher
Couple of things… you don’t have to convert ALL of your IRA assets. Keep some in traditional IRAs and pull it out at low tax rates.

You can withdraw any converted dollars if you are over 59.5 and if the Roth IRA has been open for 5 years dated to Jan 1 of the year it was opened. I just opened mine last year and will only be doing a ladder conversion of about 1/3 before I start taking ACA healthcare money, then do more when I am 65+. I feel the 20+ years of zero tax growth will far exceed the higher IRMAA costs.

Plus I am thinking about the wife after I die and she is filing taxes as a single or the other way around with RMDs are coming out with more money than one person can spend in a year.

Also, RMDs are still 72.5, Congress is thinking about increasing to 75 but that has not been put into law yet.

One major gotcha is converting 401k Roth to Roth IRA. You can withdraw the Roth 491k now but when it hits the Roth IRA, the 5 year wait time on account opening kicks in.

[HJBeck]

I agree with you. Don't understand why your saying the Roth Conversion needs to be done prior to the end of the year. We have been doing incremental Roth Conversions every year for the last 6-7 years, always converting no more than an amount that would keep us in the same tax bracket.

[CoachKandSportsguy]

hopefully , the money will recover the losses tax free in the Roth.

Hopium is not a good strategy. transferring when the market is low or high makes no difference in the outcome of building wealth because the wealth building outcome depends upon the choice of investments and their returns in the future, not whether the market is high or low at this point in time. If you pick the same investments in the Roth as the IRA, there is no difference in the wealth building outcome whether the market is high or low.

The only advantage to transferring when the market is lower is that you can move a larger proportion of the total from the IRA to a ROTH, that is all.. . .

please don't confuse a tax/cost minimization strategy with a wealth building strategy, the two are not the same. The more successful you are, the more taxes will be paid, with no other changes, the current tax structures remaining the same. Wanting to be less investment successful to pay less taxes is regressive thinking..

[retiredguy123]

One argument often made against doing a Roth conversion is that you can delay paying taxes and keep money invested in a traditional IRA, and, therefore, earn more income on your investments over time. But, any investment income made in a traditional IRA will eventually be taxed at your ordinary income tax rate. If you convert the money into a Roth, you can still have the same amount of money invested (assuming that you use non-IRA money to pay the taxes, which is allowed). However, the Roth investment income, dollar for dollar, is worth more than the traditional IRA investment income because it is never subject to income tax. So, when evaluating whether or not to do a Roth conversion, you need to consider both your tax rate and your potential for investment income over time. It could be that your overall net after-tax return will be higher if you do the Roth conversion. You really need to do the math.

[CoachKandSportsguy]

One argument often made against doing a Roth conversion is that you can delay paying taxes and keep money invested in a traditional IRA, and, therefore, earn more income on your investments over time. But, any investment income made in a traditional IRA will eventually be taxed at your ordinary income tax rate. If you convert the money into a Roth, you can still have the same amount of money invested (assuming that you use non-IRA money to pay the taxes, which is allowed). However, the Roth investment income, dollar for dollar, is worth more than the traditional IRA investment income because it is never subject to income tax. So, when evaluating whether or not to do a Roth conversion, you need to consider both your tax rate and your potential for investment income over time. It could be that your overall net after-tax return will be higher if you do the Roth conversion. You really need to do the math.

Fact check, TRUE

The biggest unknown in the future is the tax rates in the future, and future changes in tax laws just like changes to RMD ages. . . what congress giveth, congress can taketh away

[CoachKandSportsguy]

And $4 a week in a lottery ticket per week is a viable strategy over the long term, with an unmatchable ROI. . .

the same difference between the cost and return of a spy and a battleship

finance guy