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Late to the game, re: Roth IRAs
Old 06-08-2013, 01:52 AM   #1
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Late to the game, re: Roth IRAs

My wife and I are looking at ER in two years. I'll be 56 and she'll be 62. Assuming my wife takes SS at 62, my non-COLA pension at 56 (about $28K/yr), drawing down an inherited tIRA from my parent ($105K, main source of the inheritance), and $400K invested in a Vanguard muni bond fund, all of our initial ER expenses will be covered. The plan is to draw down the inherited tIRA until I reach age 62, then start SS to effectively replace the inherited tIRA. Based on the rest of the portfolio, I may delay SS.

This will leave us with about $900K (conservative) in a money market account to invest, use for emergencies, and put toward the increasing living costs not covered primarily because of the non-COLA pension.

In addition, we expect to have about $1.1M total in our 401(k) plans at ER, with the total split almost 50/50 between the two of us. I have been reading about Roth IRAs, and I have seen comments from many suggesting that the conversion of a traditional IRA (we would need to move the 401(k)s to tIRAs first, I suppose) to a Roth IRA be done after starting ER. I am guessing the main reason would be lower tax rates due to no income streams from working. But in our case, we'll have SS, a taxable pension, and an inherited tIRA generating taxable income.

I can't imagine trying to convert the tIRAs to Roth IRAs all at once as $1M+ would generate a huge tax bill. At the same time, the funds converted into a Roth IRA need to be there for at least 5 years before they can be used without tax consequences. And in my wife's case, she would be 8 years away from needing to take RMDs from her tIRA, so I would guess we wouldn't want the conversion to take that long unless the plan was to only partially convert the tIRAs to Roth IRAs.

I've run the numbers, and even if we left the funds in tIRAs, we would have more than enough to live through retirement (been estimating age 90 - don't expect it for either of us). The issue would be the inheritance of the remaining assets to our only child, who will be 23 at the time of our ER. In addition to having more money available late in life by converting to Roth IRAs, it would be a lot easier on our child if/when they become inherited assets.

Speaking as someone who is dealing with a non-spouse inherited tIRA, forced RMDs when you don't need the money are a pain, particularly when you are still working. It's one of the reasons why I want to draw it down as if I were starting SS at age 56. I also don't want my wife or child to have to deal with possibility of inheriting it from me.

Sorry, this is quite long winded. I probably could have streamlined this to ask what are our options for converting the tIRA assets to Roth IRAs. We have a large enough taxable account to deal with the taxes for the conversions. But for the amounts we are dealing with, I don't know whether we do this in 3 years, 5 years, or right up to the time we are 69 before RMDs kick in on the tIRAs.
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Old 06-08-2013, 02:57 AM   #2
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Do you both have Roths now? If not, you each might want to open and fund accounts now to start the 5 yr clock on your first Roth. After you turn 59.5,
that is the only clock that matters:
************************************************** ********
see this partial table by kawill from the fairmark.com site:

for Roth withdrawals:

OVER AGE 59.5
LESS THAN FIVE YEARS SINCE OPENING FIRST ROTH IRA

Contributions: Tax-No ;Penalty-No
Conversions: Tax-No; Penalty-No (Taxable Portion)
Conversions: Tax-No; Penalty-No (Nontaxable Portion)
Earnings: Tax-Yes ;Penalty-No

OVER AGE 59.5
FIVE YEARS OR MORE SINCE OPENING FIRST ROTH IRA

All Distributions Are Qualified

No Taxes
No Penalties
************************************************** ***********

Once you turn 59.5, there are no more 5 yr clocks on your conversions.
If your first Roth is < 5 yrs old, withdrawal of earnings will be taxed;
However, the ordering rules say that withdrawals are considered to be contributions first, then conversions, and earnings last so it is likely that reasonable withdrawals will allow the Roth to age to 5 yrs before you get to earnings at which point, all distributions are qualified.

You may want to consider delaying SS (and possibly the pension) if you can survive w/o them. That would give you a lot more space for the Roth conversions at reasonable tax rates. A common rule used is to convert
up to the top of the 15% bracket. If you file income taxes jointly w/ std deduction, that gives you 90+K of AGI space you can fill with conversions and other income.
You should try to keep the conversion tax rate no higher than what you would pay if forced to take RMDs later from the TIRAs.

Have you seen this site which claims to maximize spendable income in retirement:
http://i-orp.com/
To many, it seems to be heavy on Roth conversions.
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Old 06-08-2013, 09:31 AM   #3
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Quote:
Originally Posted by kaneohe View Post
.....You may want to consider delaying SS (and possibly the pension) if you can survive w/o them. That would give you a lot more space for the Roth conversions at reasonable tax rates. A common rule used is to convert up to the top of the 15% bracket. If you file income taxes jointly w/ std deduction, that gives you 90+K of AGI space you can fill with conversions and other income.

You should try to keep the conversion tax rate no higher than what you would pay if forced to take RMDs later from the TIRAs......
+1 Once I tap out 0% capital gains taxes in my taxable portfolio (about 2-3 years depending on market performance) my plan is to convert tIRA to Roth to bring my O-MAGI up to 400% FPL (rather than the top of the 15% bracket). For me, the economic cost of the tax and the foregone Obamacare HI subsidies make conversions from 400% FPL to the top of the 15% bracket very costly. Once I'm on Medicare, then I can bump back up to the top of the 15% bracket.
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Old 06-08-2013, 10:11 AM   #4
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Quote:
Originally Posted by pb4uski View Post
+1 Once I tap out 0% capital gains taxes in my taxable portfolio (about 2-3 years depending on market performance) my plan is to convert tIRA to Roth to bring my O-MAGI up to 400% FPL (rather than the top of the 15% bracket). For me, the economic cost of the tax and the foregone Obamacare HI subsidies make conversions from 400% FPL to the top of the 15% bracket very costly. Once I'm on Medicare, then I can bump back up to the top of the 15% bracket.
pb4uski,

I am also reading this thread with interest. DW and I are on our OMY. Our plan is similar to yours though we have Muni bond funds in our taxable account. This might push us out of 400% FPL for ACA when we do Roth conversion.

I guess we should liquidate Muni bond funds somewhere along the line first.
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Old 06-08-2013, 12:17 PM   #5
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Quote:
Originally Posted by kaneohe View Post
You may want to consider delaying SS (and possibly the pension) if you can survive w/o them. That would give you a lot more space for the Roth conversions at reasonable tax rates. A common rule used is to convert up to the top of the 15% bracket. If you file income taxes jointly w/ std deduction, that gives you 90+K of AGI space you can fill with conversions and other income.
We could probably delay SS, but the pension would be another story. If I did delay the pension, it would increase until I turn 60 (4 years into ER). Once 60, it doesn't increase. In addition, taking the pension allows us to obtain retiree health insurance with my last emplorer. While not free, the premiums and deductibles seem reasonable compared to what I observed on ehealthinsurance.com. Being able to have this health insurance offsets whatever increase there is with the pension through 60. It turns into a Medicare supplemental plan for each of us at 65.

Quote:
Originally Posted by kaneohe View Post
You should try to keep the conversion tax rate no higher than what you would pay if forced to take RMDs later from the TIRAs.
Well, by the time my wife and I are forced to take RMDs in the same years, we would be well into the 25% bracket, and when my wife's in her early 80s and me my mid 70s, I got us in the 28% bracket. If one of us doesn't make it that far and the other has to RMD those assets as Single, ouch. This of course assumes the tax rates don't change in the next 15+ years. Anyone else willing to make that bet?
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Old 06-08-2013, 12:32 PM   #6
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Since you are the younger one, you should convert your DW's tIRA/401ks to Roths first to avoid her higher RMD's each year.

It's all tax based. 25% to 28% with RMD's is pretty high. If you can equal or better that now, do a partial Roth conversion to fill up your current tax bracket. One different way to look at it is that you use your tIRA/401k as needed for income, but can take the opportunity to characterize it as a Roth conversion instead and move some of your after-tax money into the Roth where the gains are no longer taxed.
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Old 06-09-2013, 02:57 PM   #7
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Years ago I estimated what our income and tax bracket we would be in during the age 70 and over. I figured we would always be in the 25% or higher bracket. Therefore, after DW and I retired (income dropped) we started converting tIRAs to ROTHs up to the max of the 25% bracket each year. During this time I have held off taking SS and DW has delayed her pension so we can maximize our yearly conversion. By the time I turn 70 we will have our conversions complete and will not have to deal with RMDs. At this time I will take SS (at 70) and she will take hers at 62.
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