I was about to give you one answer. Then I re-read your post and I think I’m going to give you another answer.
But the real answer is no one has a crystal ball and can tell you what the best answer is going to be for your future circumstances (including what happens to taxes the future).
I’m biased toward the Roth because
- I think taxes will go up in the future
- I like knowing that when I take the money out of the Roth I get to keep it all (no taxes)
- I like the added flexibility the Roth provides
I was going to go down the path already suggested that you max out your pre-tax 401K savings and then convert Traditional to Roth while you are in a lower tax bracket (enough to max out your 15% tax bracket).
But then I re-read your bullet 4. And now I’m reading that you will only be in a lower bracket because you are pulling from you taxable account (only growth portion of what you pull is taxable). So I assume that if you pull the same amount from your Traditional Retirement account that you would be back in the 28% bracket. I’m also kind of reading between the lines that while you may be in a lower tax bracket by using your un-sheltered account, you don’t have much room left for conversions. Additionally if you do a conversion, you would need to also pull enough money from your un-sheltered accounts to cover the additional tax caused by the conversion which would also move you closer to the 15% bracket limit. The current 0% tax on long term capital gains is sweet and I wouldn’t want to do anything to mess that up.
Do you have any pension that will kick in either immediately or at a certain age? Then there is the issue of social security benefits and how where you draw your money factors into your taxes.
If it were me (and I read your situation correctly), I would max out all Roth avenues available to me – meaning maxing out your 401K Roth and you and your wife’s Roth IRAs (if eligible – sounds like you are not) – this year and next.
I would then also continue the route of converting Traditional to Roth maximizing the 15% tax bracket if you can. That way when things like pensions (if applicable), social security income, and RMDs (which will now be lower due to the Roth conversions) kick in you will have some flexibility with your tax-free savings to optimize your future taxes.
Re-re-reading your post, you said you are currently in the 28% bracket and you would be lower after you ER (at least initially) – lower 15% or lower 25%? If you are only lowering to the 25% bracket I might be tempted to do something really radical and max out the 25% bracket with conversions. I would probably also play with the way I cashed things in so that one year I would max out the 25% bracket (long term capital gains + withdrawals from Traditional accounts + conversions) – then the next year draw only from the unsheltered accounts to max out the 15% tax bracket. If I need more money the 2nd year than what I can pull to keep in the 15% bracket, then I would pull enough money the prior year to cover the delta. So the first year I max out the 25% bracket and the 2nd year I pay no taxes.
I’m also kind of tempted to pull living expenses from the Traditional accounts during years that the 25% bracket is maxed so that I can save the capital gains for years in the 15% bracket – but I also don’t know how long the favorable tax on long term capital gains will stick around.
I don’t know what portion of my ramblings apply to you, but hopefully it gives you some ideas.
