Another decision to be made...

[trapperjohn]

I've been a fanatic at saving for retirement over the years, and I've made good investment choices. I now have a large tIRA invested in a diversified portfolio of VG index funds.

I understand the advantages of a Roth vs tIRA. The funds are in a tIRA because Roth's didn't exist when I first started saving, and much of the money was saved in a pre-tax 401(k) and then rolled over when I left megacorp.

I'm 58 and plan to retire in about 5 years, with DW to retire a few years after that. Once retired, DW and I will only need to use a small part of these funds on a yearly basis because of available pensions and SS. Both firecalc and other retirement calculators predict that these funds will probably grow over time (even while I take yearly withdrawals).

Since these funds are in a tIRA, when I turn 70.5, I'll have to start taking required minimum withdrawals and paying much larger taxes because of those withdrawals. I don't want to touch the funds until I'm at least 59.5 to avoid early withdrawal penalties, but we'd prefer to save the money for emergencies or to pass on to our adult children.

I understand the various strategies like 72t withdrawals, gradual transfer of funds to a Roth, and limiting transfers so that they don't kick us into a higher tax bracket. I’m open to using any and all of these strategies. I also have heard that you should not convert tIRA funds unless you have money from another source to pay the resulting taxes. In our case, we do NOT have enough additional funds to pay those taxes.

So we find ourselves in a sort of a weird situation. We’re thankful that we were able to save so much over the years, but I think we are looking at a very large tax bill in the future, and being forced to withdraw funds that we really don’t need.

Any thoughts?

 

[RetireAge50]

Since you have excess, maybe retire now! That way you can spend the money and will not have to give it away in taxes.

 

[kaneohe]

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[ I also have heard that you should not convert tIRA funds unless you have money from another source to pay the resulting taxes. In our case, we do NOT have enough additional funds to pay those taxes.

This rule pertains mostly to the pre-59.5 case where a withdrawal from TIRA to pay taxes (and not the conversion) is subject to a 10% penalty. That penalty goes away after 59.5 so doing a Roth conversion at that point using TIRA funds to pay the tax is not worse that not doing a conversion (assuming the same tax rate applies). Of course, paying the tax w/ outside funds is even better.

Ex: pre-59.5, 15% tax rate

120 TIRA------>100 Roth; pay 15% tax on 120 withdrawal = 18 plus
10% penalty on 20 not converted = 2 for total tax of 20
Assume in N yrs, Roth doubles to 200

120 TIRA left alone. Assume in N yrs, TIRA doubles to 240; pay 15% tax on
that 240 = 36, leaving after tax 204 which is slightly better than the Roth.

Ex: post 59.5, 15% tax rate

117.647 TIRA ------> 100Roth which doubles in N yrs to 200

117.647 TIRA left alone ; in N yrs doubles to 235.294 and after 15% tax,
leaves 200.

EXERCISE of paying w/ outside funds left as exercise for OP but should result
in Roth better

 

[BigFoot48]

trapper, your situation reminds me of our own in many ways, except I retired at 50 and did use the 72(t) provision to make penalty-free withdrawals from my IRA prior to 59.5.

Unfortunately I kept putting off modeling the Roth conversion process until after I had started SS benefits for both of us at age 62. When I did the model a year later I found the SS income limited the amount I could convert and stay within the 15% bracket, effectively making it a break-even proposition. Since I liked paying zero Fed taxes anyway, I have opted not to make any conversions.

I recommend you start analyzing the Roth conversion well before your retirement so you can perhaps make a better decision on when to start SS (although there are many other factors that influence that choice). We also don't have children so didn't have to consider them in making a Roth conversion decision.

Although I didn't come here to post about my model, I'm attracted to posts on the Roth conversion topic so feel compelled to provide it. It's a great way to start the analysis process and is available and explained on the Bogleheads forum. The link to it is in an earlier post I made here today (#14): http://www.early-retirement.org/forums/f28/er-roth-conversion-plan-67646.html