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Old 12-10-2008, 01:50 PM   #41
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Originally Posted by ERD50 View Post
I
So, anyone with a little tax smarts looks at those marginal tax brackets, and maybe even thinks they know what they mean. Well, I'm finding they mean far less than what they might indicate.

For example, say my income and other variables placed me in the 15% marginal bracket. ... as long as I stay within that magic 15% bracket that I would pay $15 in added tax for every $100 I convert ...
There are some people who don't even realize this. I've talked to
especially financially-naive people, otherwise reasonably intelligent,
who don't seem to understand tax brackets at all. To wit, they think
that if you move from the 15% into the 25% bracket, that it means that
suddenly ALL your income is taxed at 25%; it takes some care to gently
explain that no, only the income above the bracket boundary is taxed
at 25% !
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Old 12-10-2008, 02:06 PM   #42
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Originally Posted by SecondCor521 View Post
.... Minimizing taxes is probably one of the most profitable ways to spend one's time.

2Cor521
Not sure I'm being logical, but I'm mulling over the idea of staying with the same ultra expensive state-of-the-art dentist and having some extra (put-off) dental work done next year and then enjoying a bigger tax write off along with longer-lasting teeth. I'm also saving the eye exam and expensive glasses for January.

This could balance a Roth conversion with about $10,000 in health insurance premiums and other medical expenses. 2009 will be my first full year of retirement with minimal taxes due.
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Old 12-10-2008, 02:49 PM   #43
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I've never done my own taxes and my accountant isn't much help in helping me through some of the tax minefields. So, I've done my own research (this forum has helped immensely - thanks guys and gals!)

The intricate nuances covered in the original post and others added DO give pause as I consider yet another Trad to Roth conversion (I'm half way through the process, but haven't decided on a final amount yet).

I've put off SS (could start in a few months) to put off the taxation of SS issue for a while longer. But here's my bottom line (mentioned in another thread). Though we don't know what the tax laws will be in a few more years, it is clear that they will change and probably dramatically. My bet is that the rates will go up. Way up. Future pay out of SS and Medicare to Baby Boomers are just two obvious reasons I suggest this. Based on this assumption (that rates will be much higher by the time I'm 70 1/2) I'm trying to convert as much Trad to Roth as possible. My back of the envelope calc. suggests that it's a good move for me - this thread's excellent points not withstanding. If I had it to do all over, I would never have maxed out my 401(k) and Trad. IRAs. If for no other reason than that I am now at the mercy of the ever-changing tax code, 401(K) etc. were very possibly my biggest financial mistakes. I won't know until it's too late, but - did I mention that the tax codes are too complicated - and capricious!

End of rant!
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Old 12-10-2008, 03:41 PM   #44
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Originally Posted by RustyShackleford View Post
There are some people who don't even realize this. I've talked to
especially financially-naive people, otherwise reasonably intelligent,
who don't seem to understand tax brackets at all. To wit, they think
that if you move from the 15% into the 25% bracket, that it means that
suddenly ALL your income is taxed at 25%; it takes some care to gently
explain that no, only the income above the bracket boundary is taxed
at 25% !
Yes, I've had that same conversation with bright people. It is interesting to see just what the awareness level is out there. I assume that most people on this forum 'get' that, but I'm sure some don't.

And further down the line, I'm surprised at how many people don't 'get' that a tax refund is just getting change back. No different than paying at the cash register with a $1 on a $0.90 purchase and getting a dime, versus paying with a $20 and getting $19.10 in change. Well, there is a difference - you need to fill out paperwork and wait until the next year to get your change back

Quote:
Originally Posted by Koolau View Post
The intricate nuances covered in the original post and others added DO give pause as I consider yet another Trad to Roth conversion (I'm half way through the process, but haven't decided on a final amount yet).

...

Though we don't know what the tax laws will be in a few more years, it is clear that they will change and probably dramatically. My bet is that the rates will go up.
Well, don't let me discourage you!

I agree in general, I expect rates to go up, and that is why I have converted in the past. And I am contributing to Roths now, as DW has earned income. Everyone needs to run the numbers for themselves. It looks like it is the credits that limit me this year. I see how this is working now - my actual taxes get me up pretty far into the 15% bracket, but the credits are subtracted after that calculation. Once the credits are absorbed, I'm near the 25% bracket - so my curve is zero for a long way up, and then very sharply jumps up. But I have three kids, two in college, so there are a lot of credits, and I have high deductions (modest mortgage, health ins, and high prop tax).

It probably is far from this extreme for you.

Quote:
but - did I mention that the tax codes are too complicated - and capricious!
capricious! - nice add-on!

from wiktionary:
Quote:
capricious

Impulsive and unpredictable; determined by chance, impulse, or whim; as, a capricious winterstorm, stringent rulers often act capriciously.
Yep, that fits! Now, I'll probably use that word in a sentence 20 times over the next few days, and the wife & kid will give me funny looks. Well OK, they do that any way!


-ERD50
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Old 12-10-2008, 04:50 PM   #45
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The increase in taxation of SS is particularly insidious because unlike the income tax brackets themselves, the jump in tax rates is for the whole thing -- the ENTIRE benefit -- and not ONLY at the margin.

For a joint-filing couple, the AGI which triggers 85% taxation of SS is $44,000 (which, by the way, is in desperate need of inflation-indexing, but that's a side issue).

So if joint filers have an AGI of $43,500, let's say, and $20,000 of that comes from SS, then they pay tax on 50% of that $20K at a 15% rate. Their tax due from SS benefits is (0.15 * 0.5 * 20000) = $1,500.

Now they convert $1,000 from a Roth, still in the 15% tax bracket. Now their AGI is $44,500, and that means 85% of ALL their SS benefits -- not just the amount above the margins -- is taxable. The tax they now pay on SS is (0.15 * 0.85 * 20000) = $2,550.

By "converting" $1000, they pay $150 income tax for the conversion itself plus an extra $1,050 tax on their SS benefits. Adding $1000 to their AGI on the conversion results in a tax of $1,150. They are effectively in the 115% tax bracket on this conversion -- before any state income taxes!

So be careful out there. There are a lot of traps and pitfalls if you look only at marginal income tax brackets.
Ziggy......have you confirmed this w/ tax software? It's been a while since I looked at this but my impression is that is the transition is smooth and not a large step as you state. Your example is a little confusing to me. I think you do a pretest first to determine how much SS is going to be taxed. The pretest is like AGI (w/o SS) plus half of the SS. Then if that pretest amount
is between 32 and 44K, you take 50% of the excess over 32K. If the pretest amount is over 44K, you take 6K plus the 85% of the excess over 44K. So..if you're only a little over 44K, there is just a gradual increase, not a step increase in the amount exposed to tax. The real test would be to stick the example on TT or something like it.

edit: need to add tax exempt income to pretest number
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Old 12-10-2008, 05:05 PM   #46
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Originally Posted by ziggy29 View Post
The increase in taxation of SS is particularly insidious because unlike the income tax brackets themselves, the jump in tax rates is for the whole thing -- the ENTIRE benefit -- and not ONLY at the margin.

For a joint-filing couple, the AGI which triggers 85% taxation of SS is $44,000 (which, by the way, is in desperate need of inflation-indexing, but that's a side issue).

So if joint filers have an AGI of $43,500, let's say, and $20,000 of that comes from SS, then they pay tax on 50% of that $20K at a 15% rate. Their tax due from SS benefits is (0.15 * 0.5 * 20000) = $1,500.

Now they convert $1,000 from a Roth, still in the 15% tax bracket. Now their AGI is $44,500, and that means 85% of ALL their SS benefits -- not just the amount above the margins -- is taxable. The tax they now pay on SS is (0.15 * 0.85 * 20000) = $2,550.

By "converting" $1000, they pay $150 income tax for the conversion itself plus an extra $1,050 tax on their SS benefits. Adding $1000 to their AGI on the conversion results in a tax of $1,150. They are effectively in the 115% tax bracket on this conversion -- before any state income taxes!

So be careful out there. There are a lot of traps and pitfalls if you look only at marginal income tax brackets.
I think you should check your math with the SS Benefits Worksheet in the 1040 Instructions (it's also available on page 16 of Publication 915: http://www.irs.gov/pub/irs-pdf/p915.pdf)

The way I do the math, there are no cliffs.
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Old 12-10-2008, 11:37 PM   #47
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We are heading to the soap box for sure, ERD50.
Y'all come on over. I started a poll inspired by this thread.
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