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Old 03-10-2008, 11:11 AM   #21
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Originally Posted by baldeagle View Post
jIMho -- Actually, my earlier answer is somewhat relevant. In particular, I found that for my two "winner" scenarios, I could convert all the way up to age 80 and still avoid the 25% bracket. After that, however, I was stuck in it forever.

I didn't run a scenario of a few heavy early conversions, though it's easy enough to do, but it took really big annual conversions (filling nearly half the 25% bracket) for 7 years before age 70.5 in order to stay out of the 25% bracket thereafter.
More than likely you did not account for inflating the tax bracket cap? Or did you?

If you could stay in 15% bracket until age 80, I would take those chances.

Compare what you did in second comment ("a few heavy early conversions") and make them heavier, sooner.

Then run another model which does a huge conversion when you are aged 69 (convert at last possible year before turning 70.5) and again make this a single heavy conversion- maybe to extent of capping out 28% tax bracket.

Make a decision- is it better to pay into 28% tax bracket for 1-5 years (to convert) so you can stay in 15% bracket there after, or better to stay in 15% tax bracket now, moving into 25% bracket at age 70.5.

Pay taxes now or pay later?
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Old 03-10-2008, 11:18 AM   #22
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Originally Posted by megacorp-firee View Post
I am starting to develop a love/hate relationship re: this board.
There are some good thinkers and a lot of great information here. The support is also wonderful.
However, sometimes I get overwhelmed with the amount of things one 'should' be considering as well as the alternatives. This thread is an example. Without exceeding the precision of the model, I have also tried to analyze how to take withdrawals and am getting a bit frustrated.
OK, venting is over ... here is my situation;

If I don't convert 401k to IRA to Roth, then at 70 1/2 (because of fully taxable pension and my current fixed income investments) I will be pushed into the 28% tax bracket (which is where I was when w*rking).
With my pension and fixed income and no conversion I am in the upper 1/3 of the 15% bracket.
I have run a ss with different scenarios (amounts to convert) and have found that if I convert a 'considerable' amount, I will end up in the 25% bracket (about the beginning of the upper 1/3 again). RMD will also continue @ 70 1/2 at approximately the same withdrawal and tax rate.

Benefit of converting is that, by 70 1/2:
I will have about 1/2 my 401k/IRA converted to Roth and therefore growing tax free forever

Drawbacks of converting:
a) I am paying more taxes up front, than I would if I did not convert.
b) Cumulative tax breakeven seems to be at age 90, when my tax savings start kicking in.
c) my (ballpark) analysis shows the value of the portfolio under condition i) 'doing nothing' is always greater than option ii) Roth conversions starting immediately. Even though at age 70 1/2 I am paying a fortune in fed income taxes due to rmd amount.

Conclusion: I think (he says hesitantly) that I have found the same as baldeagle. Roth conversion is not the best bet for those with substantial taxable pensions.

... but I am so unsure of this ....

Here is the part where that is frustrating me. I am not sure I have accounted for all of the RELEVANT (rather than clutter) variables. I did not include inflation, since it is relatively the same for both scenarios. I did not take in consideration NPV, since I don't remember how to ... and I am not sure that it is relevant (again relativity). In any case, NPV would benefit not paying more taxes up front I would think.
I also am thinking I don't know what I don't know.

Critiques please. Thank you.


megacorp- how from from doing this are you (time wise?). It might make more sense to get money in a taxable account, because income from long term capital gains and dividends do not increase taxable income (tax bracket).

Example 1:

If you withdraw 180k from an IRA, a portion of the 180k is taxed at 28% level.

Example 2 if you withdraw 62k from IRA/Pension, that is taxed at 15% level. If you supplement this with 120k of income from Roths, taxable accounts and similar (which do not increase taxable income) then the taxable accounts are taxed at 5% (because you are in 15% bracket based on taxable income).

Example 2 requires some planning- you need to set aside money in taxable accounts to maintain an income stream which is larger than the IRA/pension stream.
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Old 03-10-2008, 08:33 PM   #23
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jIMOh -- Catching up on your comments...

Yes, my model does account for inflation. I can change it for every year if I want, but in the runs I reported I used the same amount every year in each scenario. Then I then ran three scenarios.

From a tax point of view, every year I inflated all three tax brackets -- 10, 15, and 25% -- and inflated deductions and exemptions as well. I also inflated annual income requirements and SS payments. I don't think I left anything out.

I tried your idea of a few big conversions, one early and one late. The later one at age 69 was deep into the 28% bracket, near the top. However, it did not improve over taking smaller, steady conversions near the top of the 25% bracket from age 63 until age 70.5. By "improve" I mean I eventually got back into the 25% bracket again and stayed there.

My success metrics for this exercise were to determine what conversion amounts, and when, gave portfolio the greatest value in good times and bad. For my particular situation, there seems to be a "sweet spot" in all this. It seems to be made of:

1. Convert as much as possible as early as possible
2. But not over the 15% bracket
3. Because the additional taxes (nearly double the rate) take too big a bite too early
4. Making it take too long for the portfolio to recover
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Old 03-11-2008, 01:25 AM   #24
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Originally Posted by jIMOh View Post
megacorp- how from from doing this are you (time wise?). It might make more sense to get money in a taxable account, because income from long term capital gains and dividends do not increase taxable income (tax bracket).

Example 1:

If you withdraw 180k from an IRA, a portion of the 180k is taxed at 28% level.

Example 2 if you withdraw 62k from IRA/Pension, that is taxed at 15% level. If you supplement this with 120k of income from Roths, taxable accounts and similar (which do not increase taxable income) then the taxable accounts are taxed at 5% (because you are in 15% bracket based on taxable income).

Example 2 requires some planning- you need to set aside money in taxable accounts to maintain an income stream which is larger than the IRA/pension stream.
JiMoh, I'm now FIREd (since last June). I was looking at doing conversions starting this year. However, as I look at this closer, it seems that with my taxable pension, I can't convert much without driving myself into higher tax brackets (25%).

I don't fully understand your example #2. How do you get a 5% tax if you're taking 120K out of ROTH (no tax), taxable accounts?

My 401k represents about 2/3 of my portfolio. I don't have the luxury of large taxable account funds. So it looks like I'm locked into a NON Roth conversion strategy.
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Old 03-11-2008, 09:05 AM   #25
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Originally Posted by megacorp-firee View Post
JiMoh, I'm now FIREd (since last June). I was looking at doing conversions starting this year. However, as I look at this closer, it seems that with my taxable pension, I can't convert much without driving myself into higher tax brackets (25%).

I don't fully understand your example #2. How do you get a 5% tax if you're taking 120K out of ROTH (no tax), taxable accounts?

My 401k represents about 2/3 of my portfolio. I don't have the luxury of large taxable account funds. So it looks like I'm locked into a NON Roth conversion strategy.
Long term capital gains and dividends are taxed at 5% (under present tax code) for people in 10% and 15% tax brackets.

As for the conversions- it's a tax trade off/ task risk issue. Maybe conversions now have you pay a 25% tax- what tax will be paid on RMDs?

If RMDs push income into 28% tax bracket, then paying 25% now isn't so bad.
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Old 03-11-2008, 09:32 AM   #26
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Long term capital gains and dividends are taxed at 5% (under present tax code) for people in 10% and 15% tax brackets.

.

Isn't the 5% now 0%?

Here's a link to an interesting (and long) article on Roth conversions.
I will confess to not going through and understanding all the examples
in detail yet. Perhaps some of you more ambitious folks can critique it
for the rest of us. It's from CCH so should be reputable.
http://tax.cchgroup.com/images/fot/J...bler-Bigge.pdf
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Old 03-11-2008, 10:29 AM   #27
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Originally Posted by kaneohe View Post
Isn't the 5% now 0%?

Here's a link to an interesting (and long) article on Roth conversions.
I will confess to not going through and understanding all the examples
in detail yet. Perhaps some of you more ambitious folks can critique it
for the rest of us. It's from CCH so should be reputable.
http://tax.cchgroup.com/images/fot/J...bler-Bigge.pdf
Brief excerpt

Based on the above factors, we have been able to isolate
the following four types of Roth IRA conversions:
1) Strategic conversions—take advantage of a
client’s long-term wealth transfer objectives.
2) Tactical conversions—take advantage of shortterm
client-specifi c income tax attributes which
are set to expire.
3) Opportunistic conversions—take advantage of
short-term stock market volatility, sector rotation
and rotation in asset classes.
4) Hedging conversions—take advantage of projected
future events which will result in the client being
subject to higher tax rates within the near future.
----------------
The article states several examples, some of which helped me. There are numerous examples (I think I saw 8 examples) with income levels, tax brackets and tax return differences.

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Old 03-11-2008, 06:03 PM   #28
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This has been such a useful discussion. Thank you all for your comments and questions.

I'm going to re-post over on the Diehards forum where I know some more retired folk are and see what else emerges.

Thanks again!
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Old 03-11-2008, 06:56 PM   #29
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We've done the Roth conversion routine to the max for the past few years. However, this year we will be taking advantage of the zero tax on cap gains if in the 15% bracket. So if you happen to fall into this category of (1) you can stay in the 15% bracket, (2) you have substantial cap gains, ... then take the cap gains this year and in 2009 and 2010 before this deal expires. If anything is left in the 15% bracket after you take cap gains then do the Roth conversion.

My guess is the 2010 break might not survive if the Democrats win but 2009 is probably too close for a change since the new admin won't be in until Feb 2009.
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Old 03-12-2008, 09:34 AM   #30
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As for the conversions- it's a tax trade off/ task risk issue. Maybe conversions now have you pay a 25% tax- what tax will be paid on RMDs?

If RMDs push income into 28% tax bracket, then paying 25% now isn't so bad.
The math doesn't work. Paying a bunch of money in taxes each year (conversions @ 25%) makes the yearly value of my portfolio progressively less then if I just wait until rmd and then pay big taxes. So the growth of the larger number and paying higher taxes at 70 1/2 is better than doing conversions now. As baldeagle's numbers also showed.

Conclusion: if you have a large taxable pension then conversions at a higher (25% rate) don't look as attractive.
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Old 03-12-2008, 09:48 AM   #31
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Originally Posted by megacorp-firee View Post
The math doesn't work. Paying a bunch of money in taxes each year (conversions @ 25%) makes the yearly value of my portfolio progressively less then if I just wait until rmd and then pay big taxes. So the growth of the larger number and paying higher taxes at 70 1/2 is better than doing conversions now. As baldeagle's numbers also showed.

Conclusion: if you have a large taxable pension then conversions at a higher (25% rate) don't look as attractive.
If the pension+RMD puts you into 25% tax bracket, the other option would be to CAP OUT the 25% tax bracket and convert the excess.

Example- 100k of taxable income from pension and rmd. 25% bracket caps at 135k, I believe. This gives you 35k of assets to convert without incurring a higher tax liability (you would pay 25% tax on rmd the following year on this amount anyway).

Over time the capping of 25% tax bracket would drop the rmd+pension into 15% bracket range (assuming pension alone is not enough to be taxed at 25%). This would be point I would stop doing conversions in 25% bracket and look to only cap out 15% bracket (as discussed already). If the pension keeps you inside the 25% bracket by itself, capping the tax bracket still makes sense because I THINK federal taxes are lower than estate taxes in many states, and even if this is not an issue, you have at least removed the "required" part from the minimum distributions needed.
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Old 03-12-2008, 09:52 AM   #32
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Not to belittle your analysis efforts, which are very good by the way, but I seem to be reading quite a bit of angst into your posts over this dilemma. Might I suggest that you take a step back, take a deep breath, and repeat after me: "A large taxable pension is not a bad thing!"

t.r.
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Old 03-12-2008, 10:26 AM   #33
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Not to belittle your analysis efforts, which are very good by the way, but I seem to be reading quite a bit of angst into your posts over this dilemma. Might I suggest that you take a step back, take a deep breath, and repeat after me: "A large taxable pension is not a bad thing!"

t.r.
t.r. not sure if you are directing your comments to me. If so, you're reading ability is a bit off. No angst whatsoever ... just trying to figure out (since baldeagle got me looking at it from another angle) what the best strategy would be to maximize my portfolio.
By giving more info as posts come in, you get more POVs so you can make an educated decision.
Yes you are right ... a large taxable pension is A GREAT THING.
If your comments are directed at baldeagle (since he had the good analysis), then my apologies for butting in
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Old 03-12-2008, 11:30 AM   #34
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m-f, Sort of directing my comment to the thread in general; probably would have been better to keep quiet. Saw all of the energy being expended (which is really a good thing) on this analysis and wanted to make a statement on how great a large taxable pension is. In my real life I know lots of people who spend a lot of energy complaining about paying taxes and I think they forget sometimes how many people wish they had to pay taxes!
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Old 03-12-2008, 12:10 PM   #35
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m-f, Sort of directing my comment to the thread in general; probably would have been better to keep quiet. Saw all of the energy being expended (which is really a good thing) on this analysis and wanted to make a statement on how great a large taxable pension is. In my real life I know lots of people who spend a lot of energy complaining about paying taxes and I think they forget sometimes how many people wish they had to pay taxes!
Making money and not paying taxes on it has been the american way since 1776.

We even had a party in Boston harbor to celebrate this (how come that is not a national holiday?).

Americans are really englishman which did not want to pay taxes. Or that's our founding fathers anyway.
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Old 03-12-2008, 12:45 PM   #36
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megacorp - I am a ways from FIRE and I haven't done super-detailed analysis, but in my reading (here, and elsewhere), and in discussions with my father (FIRED early, has a pension, has a big IRA), I think your conclusion is valid.

Of course everyone's situation is different, but with a sizeable taxable pension, you won't be able to convert much, if any, at the lower tax brackets, so your tax savings won't be very much over the years, and you'll likely still have a large IRA balance when RMDs start.

I plan to look into this more when I get closer to FIRE, but for now, I have high taxes built into my spreadsheet of future income needs.
Yeah, but if you're a Federal CSRS employee (or have a similar pension program) that offers you the ability to take taxable dollars and purchase additional pension amounts (and later rollover these so-called pension amounts to a Roth in 2010 when the income caps are removed), then you might be to avoid a lot of the pain with RMDs even with large IRA/401K balances.
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Old 03-12-2008, 03:07 PM   #37
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I'll look into this scenario as well. I am 10 years away from retirement, although I am in the 25% bracket, so I can top off now. This is not something that I considered. I wonder if some conversions done in 2010 would make it worth my while (from former employer 401ks to rollover Roths)? I'll have to set up a spreadsheet and run some numbers.

My projected mix (without any rollover) will be 60 pretax401k,30 Roth IRA, 10 reg tax.
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Old 03-13-2008, 04:26 AM   #38
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m-f, Sort of directing my comment to the thread in general; probably would have been better to keep quiet. Saw all of the energy being expended (which is really a good thing) on this analysis and wanted to make a statement on how great a large taxable pension is. In my real life I know lots of people who spend a lot of energy complaining about paying taxes and I think they forget sometimes how many people wish they had to pay taxes!
no worries ... IMO just as it is our obligation to LBYM and save for retirement, it is our obligation NOT to squander our hard earned funds in taxes we don't have to pay. I already have charitable organizations that I give to and the FED Guvmnt is not one of them (nor should they be).

I am not prone to whining, I am on this forum to learn from others. We all can benefit from each others knowledge and experience.
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Old 03-13-2008, 09:00 AM   #39
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here's an interesting Roth conversion calculator (also by CCH).
Roth IRA Conversion
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Old 03-13-2008, 09:04 AM   #40
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I'll look into this scenario as well. I am 10 years away from retirement, although I am in the 25% bracket, so I can top off now. This is not something that I considered. I wonder if some conversions done in 2010 would make it worth my while (from former employer 401ks to rollover Roths)? I'll have to set up a spreadsheet and run some numbers.

My projected mix (without any rollover) will be 60 pretax401k,30 Roth IRA, 10 reg tax.
As you start forumlating the strategy to withdraw, consider this:

Roth conversions have a 5 year rule. Meaning what you convert now can be withdrawn penalty free for 5 years. Starting now might help, but you cannot convert a 401k to a Roth- if you are still working. If you do find a way to do this, please post it here.
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