Basic math help for Roth Conversion

[Louis2]

I have been trying to read up on Trad IRA to Roth Conversion. I am recently ER with working spouse and soon to start pension. I will be in a relatively constant 25% tax bracket until I have to take RMD, then it will jump up to 28% and briefly 33%. I have a basic question: how many variables do I need to consider?

In the most simple example... all things being equal... equal returns in each account, no changes in US tax laws, not considering estate benefits...

Am I always better to to Roth Convert as much as I can pre-RMD-age without jumping up to the next tax bracket? Or is there another variable?

 

[Gumby]

Are you getting an ACA subsidy that will go away if you exceed the income threshold? http://www.hullfinancialplanning.co...make-you-pay-a-lot-more-for-health-insurance/

Will the increase in income trigger greater taxation of any Social Security benefits you are receiving? http://www.ssa.gov/planners/taxes.htm

I'd bet there are other factors, but those are two that jump out.

 

[Animorph]

My most general rule of thumb is to convert as much as you can up to the same rate you will pay when RMD's kick in. So 28% now is probably a good rate to convert, assuming enough conversions will avoid that 33% rate. Just watch out for all the other little tax glitches, Gumby's plus deduction rollbacks, 3.8% ACA tax, AMT, and many more. If these hit your RMD's as well, then no problem. But you should make sure the marginal rate you are really paying is less than or equal to the marginal rate you really will pay for RMD's. At your tax rates, you are probably right in the middle of all sorts of fun stuff.

 

[Lsbcal]

If you do your own taxes, then I suggest taking the current situation and running it through with the changes you anticipate. It can be pretty fast as generally only a few income items will change (at least for me).

Fill out a table going up to age 71. If you have a tax prep person, pay and have them do it.

A good reason to learn Turbo Tax if you aren't familiar with it.

 

[Louis2]

thanks to all. Good advice that I will follow up on. I do use Turbo Tax.

The math geek in me wants to find the "optimum" answer. I can definitely see that taking Roth distributions before I take RMD and social security results in a benefit. I'm trying to "prove" to myself that pushing up to the top of the 25% bracket is the way to maximize the benefit.

 

[panacea]

Are you getting an ACA subsidy that will go away if you exceed the income threshold? How the Obamacare Subsidy Threshold Could Affect You | Hull Financial Planning

Will the increase in income trigger greater taxation of any Social Security benefits you are receiving? Benefits Planner: Income Taxes And Your Social Security Benefits

I'd bet there are other factors, but those are two that jump out.

A third I can think of is accidentally increasing Medicare premiums if too much is converted at once... that is if the person was old enough to be on Medicare.

 

[Lsbcal]

...
I'm trying to "prove" to myself that pushing up to the top of the 25% bracket is the way to maximize the benefit.

When I fill out a table using TurboTax I find that I can easily get into the 25% to 30% bracket at RMD time. For us that is a combo of IRA distributions + SS and considering both Fed + State. Thankfully state doesn't tax SS.

So I'd imagine the 15% to 20% area now is a good place to target to get the benefits of a tax free income stream at RMD time. Of course, future government policy can make this strategy a bigger winner or a failure.

 

[kaneohe]

Note that even if you think you are in the 25% (or even 15%) tax bracket, if you have significant amount of LTCG/QDIV, you might find Roth conversions have a marginal tax rate of 30% until you lift all the LTCG/QDIV into a higher bracket. If you waited, the RMDs would have the same problem, but you might be able to do conversions at 25% or 28%. Of course, you'd have to worrry about the IRMAA Medicare adjustments mentioned previously too. Interesting problem............

 

[Animorph]

thanks to all. Good advice that I will follow up on. I do use Turbo Tax.

The math geek in me wants to find the "optimum" answer. I can definitely see that taking Roth distributions before I take RMD and social security results in a benefit. I'm trying to "prove" to myself that pushing up to the top of the 25% bracket is the way to maximize the benefit.

I've got a whole C program I've written to optimize this for me. It's a very complex problem. But the good news is that once the basic stuff that has already been mentioned is implemented, further optimization only results in a few hundred dollars of spending per year difference for me. Nice to know, but really a little excessive working for those last pennies per year optimums. Especially when the future isn't going to look anything like the constant market gains you have to assume to even take a crack at this optimization.

As has been mentioned in other similar threads, you also should consider that if one spouse dies, the taxes change to the single rates, and the RMD situation will look much worse. So it might be wise to convert a little more than the perfectly optimum amount.

 

[kaneohe]

As has been mentioned in other similar threads, you also should consider that if one spouse dies, the taxes change to the single rates, and the RMD situation will look much worse. So it might be wise to convert a little more than the perfectly optimum amount.

Even though I know this, it never seems to be in the foreground (I forget but know if someone reminds me) so it is useful if you keep mentioning it. Thanks.