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To 72t or not to 72t, that is the question.
Old 05-17-2011, 11:27 AM   #1
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To 72t or not to 72t, that is the question.

Funding the gap between ER and 59.5 is an interesting problem as there are so many options. I hope to ER next year at 50 and I will have enough in after tax investments and rental income to make it to 59.5. However, if I do this I will have to spend down my after tax money, but I can also do IRA to ROTH rollovers up to the 15% tax limit.

Alternately I could leave the money in the IRA to compound.

Another option would be to do a 72t from my IRA up to the 15% tax level and preserve my after tax savings, but loose the tax deferred compounding.

So what option would you choose?
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Old 05-17-2011, 11:45 AM   #2
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I would and did choose to spend after tax money (no 72t). Defering taxes is good and Roth conversions are even better.
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Old 05-17-2011, 11:51 AM   #3
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I am also hoping to retire at 50 but I will need to do a 72t to make it work because I will not have enough in after tax money to make it to 59.5. I am hoping they drop the age below 59.5 to encourage more people to retire early and thus free up jobs for all the unemployed.

Anybody know why 59.5 is the magic age where you are allowed to withdraw 401K money?
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Old 05-17-2011, 11:52 AM   #4
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FYI, your second choice "leave money in IRA to compound" also has multiple further choices. Namely, you can choose to start taking 72t distributions any time in the next 10 years. So you can leave the money in the IRA now and always wait a year or three to start 72t's if it makes sense at that point.

If you leave all the money in IRA's, will you be facing large RMD's in 20 years? That would guide my thinking in your situation.

I would make sure to use up at least the 10% bracket and some or all of the 15% bracket each year by 72t distros and/or Roth conversions.

Edit to add: Have your heard of the ORP calculator? http://www.i-orp.com/ It is designed to help you with tax planning between IRAs and taxable accounts.
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Old 05-17-2011, 12:01 PM   #5
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After-tax money and Roth conversions up to the top of the tax bracket, even well after 59.5. I think it holds out until about age 65, depending on how much longer DW refuses to retire.
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Old 05-17-2011, 03:32 PM   #6
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This was one of the decisions I faced recently when approaching ER/ESR. I decided to spend down the taxable account first, which should get me through to 59.5 (many thanks to Firecalc for that.) I'll be converting a little IRA to ROTH each year as well.

I like the idea of leaving the ROTH and IRA accounts to grow tax-free and would rather not have to bother with a 72(t).
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Old 05-17-2011, 06:22 PM   #7
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One situation that makes a 72t very attractive - higher income that occurs several years after ER. Granted, this is likely not the norm for most folks.

For us, we'll have a big income bump 4-6 years after we ER. Rolling over 100% of our 401k's and maxing our possible 72t withdrawal - even though we don't need it - allows it to be taxed at a lower rate when withdrawn, than if we waited until 59.5.
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Old 05-17-2011, 10:21 PM   #8
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One situation that makes a 72t very attractive - higher income that occurs several years after ER. Granted, this is likely not the norm for most folks.

For us, we'll have a big income bump 4-6 years after we ER. Rolling over 100% of our 401k's and maxing our possible 72t withdrawal - even though we don't need it - allows it to be taxed at a lower rate when withdrawn, than if we waited until 59.5.
From 50 to 59.5 I'll live off rental income and taxable savings and do IRA to ROTH rollovers. At 59.5 I'll start withdrawing from the IRA. I'll defer SS until 70 so that I can spend down the IRA before RMDs begin.
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Old 05-17-2011, 10:49 PM   #9
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Quote:
Originally Posted by nun View Post
From 50 to 59.5 I'll live off rental income and taxable savings and do IRA to ROTH rollovers. At 59.5 I'll start withdrawing from the IRA. I'll defer SS until 70 so that I can spend down the IRA before RMDs begin.
I think this is the most sensible approach, unless you are in a situation where your assets heavily weighted toward an IRA say 30% taxable,70% deferred. I think generally speaking you are better of deferring withdrawing money from retirement accounts.

72(t) are nice to have option if you need them but probably not worth the trouble to set up if you don't. Having said that I wish I had been smarter the last couple of years and taken better advantage of the low tax bracket I was in because of the market crash, and drop in interest rates. In hindsight setting up a 72(t) and/or converting more of my IRA to a Roth in order to tax advantage of the 15% tax bracket would have been smarter.
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Old 05-18-2011, 09:36 AM   #10
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I think this is the most sensible approach, unless you are in a situation where your assets heavily weighted toward an IRA say 30% taxable,70% deferred. I think generally speaking you are better of deferring withdrawing money from retirement accounts.

72(t) are nice to have option if you need them but probably not worth the trouble to set up if you don't. Having said that I wish I had been smarter the last couple of years and taken better advantage of the low tax bracket I was in because of the market crash, and drop in interest rates. In hindsight setting up a 72(t) and/or converting more of my IRA to a Roth in order to tax advantage of the 15% tax bracket would have been smarter.
My assets are mostly in tax deferred accounts, but I have rental income to supplement the money I'll take from taxable accounts to live on.

Once my mortgage is paid off I'll need $35k a year to live on. $15k comes from rent, so my taxable accounts will have to provide $20k. Taxable investment returns should provide $8k in the first year using 4% return, and I'll have to spend $12k of principal. So my taxable income, interest, gains etc will be $15k+$8k. Using the standard deductions that means I can rollover about $20k from the IRA to a ROTH, declaring it as income and stay in the 15% tax bracket. My actual tax rate will be around 14%. Smaller rollovers would give me an even lower actual tax rate.

By the time I get to 59.5 I should have rolled over around $200k into the ROTH. The balance in my IRA will probably be close to what I started out with when I was 50 as gains will have kept pace with all the rollovers.

Now I'll start taking $20k (plus inflation) from the IRA, but the balance will probably not be dropping that much. So if my goal is to reduce my IRA balance so that RMDs won't be an issue it looks like I should increase my rollover and withdrawal amounts to maybe $30k or $40k a year.......If I take $40k a year out of my IRA with 4% return the balance will be zero when I'm 68 and my tax rate will be 16.5%. This will leave me free to take just what I need from my ROTH to live on and I won't get bumped up into a higher tax bracket than necessary when I take SS at 70.
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Old 05-18-2011, 10:16 AM   #11
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My DW and I are in a similar situation as we are 65% tax deferred and 35% taxabe. In working the plan to get us to 59.5 it became apperent we could not get there on taxble accounts alone. After running the numbers in our scenario I came up with Rollover to Roth to the extent of lowest tax bracket in the years we have no SS income or RMD.

With both 72T and Rollover to Roth being taxable events I want to be able to choose how much $$ each year which the rollover to Roth provides.

The biggest issue I have with 72T was once you start you have to take the anual income and it is set did not want to risk having to sell assets in the case of a down turn like we had in 2008.

If I did not need the $$ prior to 59.5 I would only do the rollover if I was
confident that my tax rate was going to be higher later otherwise the lost opportunity on the taxes paid early offsets gains of tax free growth in my case.
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Old 05-18-2011, 11:03 AM   #12
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If I did not need the $$ prior to 59.5 I would only do the rollover if I was
confident that my tax rate was going to be higher later otherwise the lost opportunity on the taxes paid early offsets gains of tax free growth in my case.
Getting as much into ROTH is important to me as I will probably be moving to the UK in my 60s. ROTHs are also tax free in the UK so having most of my money in those will be good given the higher income tax rates in the UK.
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Old 05-18-2011, 05:50 PM   #13
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Since it hasn't be plugged yet. Anybody looking at setting up a 72(t) should checkout
72t.Net | SEPP Plans | IRC Section 72(t) | 72t Distribution | IRC Section 72(q) | yyyZ.Com the guy running the site is a real expert who has gotten private letter rulings from the IRS on the subject.
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