Taking money out of taxable IRA's first

[dtbach]

I just turned 60 and DW is 55. We have about 1.6M in liquid assets (brokerages, IRAs and Roth IRAs). I retired about 2 years ago and DW is planning to work another 2 years. I am also getting a military pension now.

In 10 years I will start taking SS and so will DW. Total income from SS and military pension will be about 70K.

I am currently pulling $ from both brokerage and taxable IRA (mine) at a 3.5% rate (counting all assets).

My question is, should I pull all of the 3.5% out of my taxable IRAs at this time? I will obviously drain them fairly fast but will let the other assets grow. My reasoning is that right now I can claim kids, mortgage, etc so might as well pull the taxable assets now. In addition, this will make required IRA withdrawals at 70 fairly small.

My strategy is to pull assets from taxable IRAs first, taxable brokerage assets second and ROTH last.

Your comments would be appreciated.

 

[Animorph]

You should be taking advantage of your low tax rates, but do it by living off your taxable accounts and Roth converting as much of your traditional IRA as you can and still stay within the 15% tax bracket. Every dollar you pull out of your IRA now is a dollar that could go into a Roth IRA and avoid future capital gains and dividend taxes. If effect you are still drawing down your IRA, but in the process you are transferring some of your taxable funds into the non-taxable Roth account. You get the same RMD lowering effect as well. Ideally you want to pull everything from your IRA within the 15% tax bracket.

 

[Stanley]

The traditional advice was to first drain the regular non IRA accounts, then the regular IRA accounts and finally the ROTH IRA accounts. I am not sure this is always a good idea. We run into things like the minimum required withdrawals that may force us to withdraw money we don't need from an IRA and boost our taxes. And we turn tax favored capital gains into regular income in regular IRA's so maybe we should drain them first? On the other hand our IRA money does grow tax advantaged and that means every dollar we earn is fully able to earn another dollar. Still, I think moving regular IRA money to Roth IRA's if done at the lowest tax brackets can be a good thing. I would not do it if I had to hand 25% to Uncle Sam. 15% max.

 

[karluk]

You should be taking advantage of your low tax rates, but do it by living off your taxable accounts and Roth converting as much of your traditional IRA as you can and still stay within the 15% tax bracket. Every dollar you pull out of your IRA now is a dollar that could go into a Roth IRA and avoid future capital gains and dividend taxes. If effect you are still drawing down your IRA, but in the process you are transferring some of your taxable funds into the non-taxable Roth account. You get the same RMD lowering effect as well. Ideally you want to pull everything from your IRA within the 15% tax bracket.

If I had to give only a single, one-size-fits-all piece of advice, it would be to follow Animorph's suggestion to live off of your taxable investments and convert as much of your traditional IRA to a Roth as possible while still remaining in the 15% tax bracket. But I can think of scenarios where this strategy would backfire, so you should be aware of the pitfalls in case they apply to you:

1. Suppose your taxable accounts are all stocks or mutual funds with sizeable unrealized capital gains, and that selling these investments and realizing the gains would put you close to the top of the 15% tax bracket. Then you wouldn't have any maneuvering room to make annual Roth conversions. You would then be in danger of maintaining such a large balance in your traditional IRAs that future RMDs would push you into the 25% tax bracket. In this situation you would probably be better off withdrawing part or all of your living expenses from your traditional IRA in order to reduce its balance prior to the onset of RMDs.

2. We all sincerely hope that our investments increase in value over the long run, but this isn't guaranteed. Suppose that you pursue the strategy of making Roth conversions and make investments with the amount converted that lose money over the long haul. Investments with long term losses would be better placed in either a taxable account or a traditional IRA.

 

[RetiringAt55]

You should be taking advantage of your low tax rates, but do it by living off your taxable accounts and Roth converting as much of your traditional IRA as you can and still stay within the 15% tax bracket. Every dollar you pull out of your IRA now is a dollar that could go into a Roth IRA and avoid future capital gains and dividend taxes. If effect you are still drawing down your IRA, but in the process you are transferring some of your taxable funds into the non-taxable Roth account. You get the same RMD lowering effect as well. Ideally you want to pull everything from your IRA within the 15% tax bracket.

+1
I agree especially because your wife is younger than you. If/when she is widowed she will be in a higher tax bracket. The conventional advice about tax bracket going down is just not always true, especially for people who were socking it away in tax deferred accounts while working. Those RMDs could kill her tax wise.