401k to Roth IRA direct rollover

[Raymond01]

I've done some searches here to try to find threads where this has been discussed and I received 8000 hits. So.... sorry if this is a repeat of a question asked many times or perhaps someone can point me to a a thread discussion. Anyway, here is the question;

I retired 6 months ago and still have my 401k intact at Megacorp. I do not foresee needing that money within the next 15 years. I am 53 years old. Should I consider rolling over all or part of my 401k into a Roth IRA? It seems that his would have some upside since once it is converted, it can grow and be withdrawn tax free. Is it even feasible for someone under age 59 1/2 or would I incur a penalty? At the point where there is no penalty, should I move over parts of the 401k at a time so I do not go into a high tax bracket, which would happen if I did it all at once?

Thanks everyone.

 

[bingybear]

You can do it... but you do need to look at the tax rate on the conversions. When you convert, this will add income that will be taxed. If you need to withdraw 401k $ to pay the tax, you will be taxed on that money too and penalties since this was not rolled over. In addition, there are restrictions on withdraws from this new roth for 5 years.
you really need to estimate taxes at RMD time an taxes on the rollover to determine at what tax rate you will benefit from doing the rollover.
that said, if you are going to use the ACA plans for health insurance, you need to look at how this will effect subsidies that you may be eligible.
there are many moving parts in this decision process

 

[Raymond01]

Thanks for the input Bingybear. I would not need to use 401K money to pay for the conversion, I have money in a taxable account I could tap. Not using ACA as I have Megacorp retiree health insurance.

You said I need to estimate taxes at RMD time, so you mean when I turn 70 1/2? That's 17 years from now, not sure how accurate any estimate would be, but is there a calculator for that somewhere, or am I missing what you mean?

 

[jazz4cash]

Google IRA Conversion calculator. Schwab has one.


Sent from my iPhone using Early Retirement Forum

 

[gauss]

One strategy that I plan to use is to Roth Convert a portion each year between now and age 70 that will max out the income in my current tax bracket.

I want to fully take advantage of the lower tax brackets and to finish this before Social Security income comes online at age 70.

-gauss

 

[Alan]

One of the questions the OP asked is if he would pay penalties for doing Roth conversions before age 59 1/2 and the answer is no.

I've been doing Roth conversions for several years now ( I am now 60 ) and will continue to do so until all is converted as by age 70 we will be in a higher bracket due to another 4 pensions between us that will be on stream by then.

 

[hnzw_rui]

One of the questions the OP asked is if he would pay penalties for doing Roth conversions before age 59 1/2 and the answer is no.

That depends. bingybear's answer was more thorough: as long as you pay taxes from non-401k money, there's no penalty.

 

[seabourne]

I may be mistaken, but I was under the impression that he would need to do a two-step conversion: 401k=>IRA=>RothIRA

Is this not the case? If done in two steps, as well, there should be no tax or penalty for the conversion from 401k=>IRA, as they are both pre-tax accounts, and for purposes of managing the tax liability versus the available cash (to avoid a penalty withdrawal from the IRA to pay the taxes due) the second step can be done in pieces over years. The downside would be the 5 year timeline for tax free withdrawal being separate for each conversion event.

Am I incorrect on this? I'm a couple of years out from doing it myself, but want to be sure that I understand the procedures and risks for planning.

 

[Alan]

That depends. bingybear's answer was more thorough: as long as you pay taxes from non-401k money, there's no penalty.

I think the OP was referring to drawing funds from an IRA or 401k which can invoke a 10% penalty from the IRS if withdrawn before age 59 1/2. Doing a ROTH conversion is one of the mechanisms to avoid this penalty tax.

The OP should also realize that the funds are best transferred directly from fund to fund or brokerage to brokerage. If he has the funds paid to him from one brokerage, than he has a limited time to pay those funds into a ROTH without triggering the early withdrawal penalty of 10%.

 

[Alan]

I may be mistaken, but I was under the impression that he would need to do a two-step conversion: 401k=>IRA=>RothIRA

Is this not the case? If done in two steps, as well, there should be no tax or penalty for the conversion from 401k=>IRA, as they are both pre-tax accounts, and for purposes of managing the tax liability versus the available cash (to avoid a penalty withdrawal from the IRA to pay the taxes due) the second step can be done in pieces over years. The downside would be the 5 year timeline for tax free withdrawal being separate for each conversion event.

Am I incorrect on this? I'm a couple of years out from doing it myself, but want to be sure that I understand the procedures and risks for planning.

This is exactly what I did. At age 56 I had my 401k paid into an IRA and I had zero tax due. I then started doing IRA to Roth conversions, paying the regular income tax due out of non-IRA funds.

There is no 5 year time period for penalty free withdrawals once you hit age 59 1/2 so no need to worry about tracking the timeline of conversions after that age.

 

[Raymond01]

Outstanding input everyone, thanks. I guess now I just need to perform the calculations to make sure it is beneficial and to see how much I should convert each year to prevent going into a much higher tax bracket.

 

[Animorph]

I may be mistaken, but I was under the impression that he would need to do a two-step conversion: 401k=>IRA=>RothIRA

Is this not the case? If done in two steps, as well, there should be no tax or penalty for the conversion from 401k=>IRA, as they are both pre-tax accounts, and for purposes of managing the tax liability versus the available cash (to avoid a penalty withdrawal from the IRA to pay the taxes due) the second step can be done in pieces over years. The downside would be the 5 year timeline for tax free withdrawal being separate for each conversion event.

Am I incorrect on this? I'm a couple of years out from doing it myself, but want to be sure that I understand the procedures and risks for planning.

I'm doing rollovers this year from DW's 401k directly into Roth IRA's. I'll probably recharacterize some of it as well just to make it more complicated. The first rollover had some after-tax money as well as mostly pre-tax money since they wouldn't separate it out for us. That's the main reason it ended up in a Roth IRA, since I didn't want to risk putting after-tax money in a tIRA and then trying to get it into a Roth IRA. It can be done, the options for traditional and Roth rollovers were both on the 401k website, but I won't know how successful I was until tax time next year.

ETA: This is of course a Roth conversion for the pre-tax money, with taxes to be paid but no penalties. DW is 55.

 

[bingybear]

Thanks for the input Bingybear. I would not need to use 401K money to pay for the conversion, I have money in a taxable account I could tap. Not using ACA as I have Megacorp retiree health insurance.

You said I need to estimate taxes at RMD time, so you mean when I turn 70 1/2? That's 17 years from now, not sure how accurate any estimate would be, but is there a calculator for that somewhere, or am I missing what you mean?

fidelity RIP may work for that, or you can do a simple inflation adjusted gain for what you leave in your IRA/401k. Assume same tax rates on your estimated RMD for what is left in you IRA/401k. Do this with doing rollovers up to the max 15% bracket and not making rollovers. On your rollovers, use the same inflation adjusted gain.
Then compare the two.. which is better for you.

you should not get penalties if you roll over and pay the tax using after tax dollars.
For me, there is significant gain in doing this.

 

[seabourne]

This is exactly what I did. At age 56 I had my 401k paid into an IRA and I had zero tax due. I then started doing IRA to Roth conversions, paying the regular income tax due out of non-IRA funds.

There is no 5 year time period for penalty free withdrawals once you hit age 59 1/2 so no need to worry about tracking the timeline of conversions after that age.

Thanks, that helps. I'm anticipating having to track the 5-year clock on the conversions, as I'm currently 36 and planning to be out before 40.

 

[Raymond01]

I found that Schwab calculator that Jazz4cash mentioned, and it is straightforward and easy to use, so thanks for that.

Interestingly enough, no matter how I alter my inputs, it seems to show that I am better off sticking with a traditional IRA, or in some cases only slightly better off converting. I'll run the numbers every year, but this surprises me. Maybe I'm doing something wrong?