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Roth or Traditional 401K?
Old 04-18-2019, 10:42 AM   #1
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Roth or Traditional 401K?

We have been maxing out our traditional 401Ks for years and have accumulated quite a bit of money in them. It's going to hurt us when we have to take RMD's. As we are retiring early (51 and 53), I am planning to pull money out before RMD's are required and we may also do some roth conversions if we are in a low tax bracket in the early years. Plus, I will pull money out for HSA contributions.

That said, I'm thinking we should switch to Roth 401K contributions for the next 4 years. We are in a high tax bracket right now but, based on the RMD calculators, it looks like our income will be about the same (or even more) in retirement.

Thoughts? Should we take the tax hit now or later? Any other ways to reduce RMD's other than get a part time job that has a 401k (not an option for us)?

Here are some numbers if it helps:

RMD at 70.5 would be approx $185,000
SS Income if we wait until 70 would be about $55,000 in today's dollars
We will have a life insurance policy that will pay ~$100k a year for 10 years starting at age 70 (not subject to any taxes)

Current taxable income is $200k which would go to $240,000 if we do Roth 401K.
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Old 04-18-2019, 10:51 AM   #2
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Our RMDs are nowhere near as high as yours will be but given the current tax law I have been moving money from regular IRAs to Roth IRA.
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Old 04-18-2019, 10:57 AM   #3
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The advantage of deferred income is to not pay a higher income tax while working, and defer the income, and thus the taxes, to when you'll have lower taxes. If you aren't getting any benefit out of deferring income, I wouldn't do it.

Do the conversions you plan to do before RMDs change the picture at all, wrt to income level now vs. in retirement?
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Old 04-18-2019, 11:13 AM   #4
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Originally Posted by Brat View Post
Our RMDs are nowhere near as high as yours will be but given the current tax law I have been moving money from regular IRAs to Roth IRA.
Thanks! I just called our finance person to ask about converting our after tax IRA's to Roth.

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Originally Posted by RunningBum View Post
The advantage of deferred income is to not pay a higher income tax while working, and defer the income, and thus the taxes, to when you'll have lower taxes. If you aren't getting any benefit out of deferring income, I wouldn't do it.

Do the conversions you plan to do before RMDs change the picture at all, wrt to income level now vs. in retirement?
It goes down about $25k a year in retirement.
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Old 04-18-2019, 11:28 AM   #5
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I'm thinking we should switch to Roth 401K contributions for the next 4 years. We are in a high tax bracket right now but, based on the RMD calculators, it looks like our income will be about the same (or even more) in retirement.
If you are correct that your tax bracket will be higher in retirement than it is now, then it makes sense to use a Roth 401k now, while you are still in a lower bracket.
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Old 04-18-2019, 12:15 PM   #6
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If your marginal tax bracket today is the same or less than your tax rate in retirement then Roth is preferable. The tIRA/Roth IRA (or 401k) decision is solely a tax arbitrage play.
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Old 04-18-2019, 01:56 PM   #7
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If there's a company match, I'd just contribute the minimum to get that. You'll likely come out ahead, even after taxes. Then go with the ROTH, or taxable investements, where you may be able to exclude a large portion of LTCGs from taxes.
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Old 04-18-2019, 02:15 PM   #8
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Quote:
Originally Posted by mtbikelover View Post
We have been maxing out our traditional 401Ks for years and have accumulated quite a bit of money in them. It's going to hurt us when we have to take RMD's. As we are retiring early (51 and 53), I am planning to pull money out before RMD's are required and we may also do some roth conversions if we are in a low tax bracket in the early years. Plus, I will pull money out for HSA contributions.
My husband has been doing Roth 401k for several years, for similar reasons. How are you contributing to your HSA now? Payroll deductions avoid FICA and Medicare tax on the contributions.
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Old 04-19-2019, 08:35 AM   #9
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Based on your RMD #, you have over $4.8M in tax deferred. Conversions will barely dent that, but anything is better than nothing. You’re right, you should have been in a Roth, and contributing after tax long ago.
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Old 04-19-2019, 09:02 AM   #10
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I agree, your RMD tax torpedo is aimed straight at you later in life. Since the tax rates will be equal if not higher later, do Roth now. Once you retire, you can do more conversions to take advantage of lower tax bracket rates; just remember that the tax money due can't come out of the pre-tax account without paying the 10% penalty on the mount for taxes. So you will need some after-tax money to pay the tax due on the conversions.
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Old 04-19-2019, 09:12 AM   #11
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And don't forget, once you are no longer working convert the Roth 401k to a Roth IRA to prevent needing to make RMD's and lose the tax free growth.
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Old 04-19-2019, 09:22 AM   #12
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Originally Posted by CRLLS View Post
And don't forget, once you are no longer working convert the Roth 401k to a Roth IRA to prevent needing to make RMD's and lose the tax free growth.

Good to remember (that Roth 40x plans are subject to RMD). I believe a rollover (vs conversion) is what you want.
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Old 04-19-2019, 09:34 AM   #13
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I've tried to write a response for this question and I keep deleting it.
I think you are asking the wrong question. You really need a plan. You did not list taxable accounts balances for one. What is the living $ plan from RE to 59.5yo? What will your taxable income be after RE but before RMD?
What will your taxes look like after the first of you pass away? What $ do you not need for a long time?

What we have done most here would choke at.

I've seen a relative widowed more than a decade ago and the higher rates are swamping her.

I don't know what growth rate you used for your IRA, but with 2 decades it might be easier to deal with now if that is the right choice.

You need a retirement plan that include spending, tax allocation, investment allocation and other things. All the best intentions of posters here may be right on the questions they are answering. But they may not have the data to give the right answer if there is one.
The real life problem has too many "if this happens" or "when this happens" that there might not be a right answer to the whole problem.

Or if you prefer an answer to your question I would need to know what you planned tax allocation for your assets?
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Old 04-19-2019, 03:20 PM   #14
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I pulled the plug last year and for final 5 or 6 years of work I sent all contributions to Roth 401K. Company match was in regular 401K. I figure my income will go down as I pay less taxes and don't have same 25% going into retirement funds but either way, I would have done the Roth anyway just to have some options if taxes go up. I have only about 20% in Roth at this point but hope to do some conversions at 22% rate just to have the taxes paid. More for peace of mind that I don't have to worry about taxes or SS/Medicare costs going higher than need be.
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Old 04-19-2019, 03:53 PM   #15
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Originally Posted by bingybear View Post
You really need a plan. You did not list taxable accounts balances for one.
I have a very detailed plan on multiple sheets of an excel workbook. I've been tracking my expenses/returns for the last 15 years and have a cash flow plan in my spreadsheet. I just made the mistake of not planning the right amount for RMDs.

Current ages 47 wife, 49 husband. PLan to retire in 4 years.

Here are the numbers if it helps provide feedback:

Retirement Savings $2.55M
401K $955,733
Roth IRA $112,400
IRA's (after tax $) $57,000
Rollover IRA's $891,383
Trading accounts $231,000
Annuities (after tax $) $66,500
Cash/CD's (all earning 2.5%) $250,000
HSA $30,000

2 Kids start college in the next 3-5 years
529 Plans $220k

Other sources of income in retirement
WL Insurance, $100k income beginning at wife age 71, 10 years
Wife SS age 70 $35k todays dollars
Husband SS age 70 $25k todays dollars
Pensions $100k wife age 51
$100k wife age 52
$100k wife age 53
$100k wife age 54
$35k wife age 62
Sale of business $60k husband age 53

Retirement budget $152k todays dollars, net of taxes
Inflation percent 1.2%
Estimated 30% fed+state taxes in my spreadsheet

One time expenses not in budget above
RV+SUV $100k year 1 of retirement
Wife's AWD car $40k year 3 of retirement
Ski Club Membership $200k year 4 of retirement

Annual Income today $425k gross, annual income in retirement $7k hobby/fun business

Annual retirement savings $144k
$60k regular 401k, $40k after tax 401k,
$7k HSA
$12k IRA (after tax)
$25k cash/trading accounts/annuities
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Old 04-21-2019, 05:56 AM   #16
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I have a spreadsheet too. Mine simulates are assets, spending, taxes roth conversion, embedded gains, taxes, tax basis of TIRAs, etc. About every thing I could think of that was important. I can run "what-if" analysis.. just.

I have not automated events like death of a spouse. I need to run segmented runs. I'm just getting lazy. I know someone who planned using just TIRA's and then a spouse passed (a decade ago). Figure out what happens to taxes when tax filing goes from MFJ to single for yourself.

If you're planning to provide a legacy using stretch IRAs and the secure act passes?
What happens if you inherit later in life (it may ore may not be likely for you.

Go look at the demographics of an assisted living facility.

What other life events are likely in your case?

The problem is this is not a well posed problem. You know some things (we all die), but not how or when. We do not know if someone will need LTC... and so on.

This is more of a stochastic problem in engineering or business planning when there are multiple potential outcomes with varying outcomes. You need to decide if over the long term how much you want in roths based on the cost to you. And when to buy is based on time and cost as it could be cheaper if you do it just after retirement if you did not create a highly taxable income stream.

I know someone who planned with the " deferred" approach and has been widowed about a decade. Tax hell from what I can see. I don't see what can be done at this point.
That is why I ask "what is your plan?" I don't see the right question to be "should I switch to roths 401k?" but "how much should I allocate to the roth tax allocation considering the cost.

This is why I ask what your plan is for tax allocations for your retirement.
IIRC some have noted that you may have done the right thing with deferring and it may be correct.
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Old 04-21-2019, 06:52 AM   #17
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Quote:
Originally Posted by mtbikelover View Post
I have a very detailed plan on multiple sheets of an excel workbook. I've been tracking my expenses/returns for the last 15 years and have a cash flow plan in my spreadsheet. I just made the mistake of not planning the right amount for RMDs.

Current ages 47 wife, 49 husband. PLan to retire in 4 years.

Here are the numbers if it helps provide feedback:

Retirement Savings $2.55M
401K $955,733
Roth IRA $112,400
IRA's (after tax $) $57,000
Rollover IRA's $891,383
Trading accounts $231,000
Annuities (after tax $) $66,500
Cash/CD's (all earning 2.5%) $250,000
HSA $30,000

2 Kids start college in the next 3-5 years
529 Plans $220k

Other sources of income in retirement
WL Insurance, $100k income beginning at wife age 71, 10 years
Wife SS age 70 $35k todays dollars
Husband SS age 70 $25k todays dollars
Pensions $100k wife age 51
$100k wife age 52
$100k wife age 53
$100k wife age 54
$35k wife age 62
Sale of business $60k husband age 53

Retirement budget $152k todays dollars, net of taxes
Inflation percent 1.2%
Estimated 30% fed+state taxes in my spreadsheet

One time expenses not in budget above
RV+SUV $100k year 1 of retirement
Wife's AWD car $40k year 3 of retirement
Ski Club Membership $200k year 4 of retirement

Annual Income today $425k gross, annual income in retirement $7k hobby/fun business

Annual retirement savings $144k
$60k regular 401k, $40k after tax 401k,
$7k HSA
$12k IRA (after tax)
$25k cash/trading accounts/annuities
I'll admit that I didn't add up everything, but a few numbers jump out at me:

1) $220K for two kids heading to college in the 3-5 years is really not a lot depending on your aspirations for funding their schooling. Given your income/assets you will get nada in terms of need based aid.

2) 1.2% inflation is a very low rate. Inflation is the enemy over the long term

3) $152K annual @ 3.5% SWD implies a nest egg of ~$4.3M...and your $152K is after taxes. That means gross distributions will need to be even higher than $152K. Perhaps more like $185K? This suggests a very aggressive withdrawal strategy.

4) You have some nice additions to the portfolio from pensions, etc and are planning on later-in-life SS infusions, but that is partially offset by large one-time expenses.

You obviously think about this a lot, so it probably all solves, but I would pressure test those assumptions.

My $0.02.
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Old 04-21-2019, 07:46 AM   #18
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My $0.02

Spend down your tax deferred monies as much as feasible before age 70.5 ( soon could be 72). Consuming now would beat past age 70 anyway 😉
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Old 04-22-2019, 03:12 PM   #19
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I'll admit that I didn't add up everything, but a few numbers jump out at me:

1) $220K for two kids heading to college in the 3-5 years is really not a lot depending on your aspirations for funding their schooling. Given your income/assets you will get nada in terms of need based aid.
My plan is to fund 4 years fully at a state school. I took our states highest priced college to use as the estimate. I did not plan for any financial aid. We have great state schools so if they want to go out of state, they will need to take out some loans. I also was worried about having too much in a 529 and figured if i really needed to pay some more, I could do that with other money. The amount right now with only a 4% annual growth will cover $30-32K per year.

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2) 1.2% inflation is a very low rate. Inflation is the enemy over the long term
I went back and forth on this. I started at a much higher rate. I've been tracking my expenses (everything down to the penny) for the last 10-15 years and I'm not seeing much more than this in terms of my overall expenses other than in areas I've increased on purpose (like travel and more organic, higher quality foods). 25% of our retirement budget will be our Colorado mortgage and there is no inflation on a mortgage if we do a 30 year.
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