I am semi-ER and am in a gap situation (6 years) before I receive a nice pension. I have played around with ORP and with several scenarios (I use age 100 as the end). Bottom line, I will see a significant increase in my yearly spend rate ability if I convert my IRAs to Roths. In ORP they show a 'bite the bullet' approach with transitioning the IRA to Roth in two years before I receive the pension with a large tax consequence of course. They then show the spending done out of the Roth at the end of my life.
I’m surprised by how quickly the room for a Roth IRA conversion disappears after a pension starts. We’re hustling to finish ours before my spouse’s Reserve pension starts, even if the savings appear to be tax-neutral.
So, my questions - in the ORP model they show me spending my Roth at the end of my life and not earlier. Do you know the reason for that?
Our CPA said usually Roth dollars are the last to be spent, because people leave money in Roths since the growth is tax-free. Therefore many times Roths end up mainly benefitting the heirs.
I also think it’s about the inheritance. Normally a surviving spouse would take over the Roth and not pay any taxes on the inherited distributions.
I don’t understand Roth IRAs well enough to know what happens if the surviving spouse doesn’t spend the money (or doesn’t inherit the Roth IRA). Are Roth IRA distributions taxable when an adult child inherits? Are they taxable when some other person inherits? Are they taxable when a minor child inherits, or could they be put into a 529 or UGMA?
Another reason for ORP’s behavior could be “saving” the Roth distribution to (1) let the account compound without additional taxes and (2) for any late-in-life expenses like long-term care. If you needed to spend an additional $100K/year then you could withdraw it from the Roth with no tax implications. If you had to spend that additional $100K/year from long-term capital gains then it’d be taxed.
Even worse, raising your spending could raise your AGI and trigger the higher Medicare premium IRMAA “tax”.
https://www.kitces.com/blog/irmaa-m...-premium-surcharges-new-2018-magi-thresholds/
When I became my father’s conservator and simply rebalanced his assets, the boost to his AGI also triggered IRMAA:
https://the-military-guide.com/how-i-cost-my-dad-over-2000-in-medicare-benefits/
IMy next question, I am planning on smoothing out the IRA to Roth conversion over the six years and maybe a bit more into my pension stage - does that make sense?
You’d want to get it done in your lowest income-tax brackets, and you’ll certainly raise your income when you start taking your pension. It makes more sense to spread the conversions out over six years (and finish the year before your pension starts?) instead of just two years. We’ve been converting traditional TSPs and traditional IRAs into Roth IRAs since 2002, and we’ll finish the last increment this year.
Lastly, has anyone come up with a good AA? I am sort of in Nords situation where with the upcoming pension being a big bond, so I could be a lot more risky in my portfolio. I currently use the offered 'lifestrategy-like' funds with later end dates (2040 or so).
Mathematically you could go >90% equities with your other assets, especially because the (imperfect) analogy for an inflation-adjusted federal pension is the income from a portfolio of 30-year TIPS or I bonds.
Considering the emotions of behavioral financial psychology, the volatility of a high-equity portfolio can be impressive. You’d feel bad if a recession hit the year after you went from a L2040 fund to a S&P500 index or total stock market index and whacked the balance by 25%. It’d recover in another 5-10 years, but you’d still feel bad about it.
A compromise would be moving to the equivalent of an L2050 fund or (if they’re offered) an L2060 fund.
A third (more difficult) option would be going to >90% equities and trying to learn to ignore volatility in the portfolio, especially if you end up living from pension & Social Security (and an occasional Roth IRA withdrawal).
I helped Nords write his book a long time ago on the Reservist chapter.
You sure did, and thank you again! The posts on the Reserve pension system (and on calculating a Reserve pension) are still the site’s heaviest traffic. It’s been that way every month for over five years.
Even in this gap situation, it shows I can spend much more than I do now.
I am not yet comfortable with trusting that. The earning and saving habit is severely ingrained.
It’s hard to change the frugal habits that got you to FI, no matter what the math says. I’m still going through that emotional adjustment process myself.
I’ll point out that 16 years of cost-of-living adjustments (the same COLA as the Social Security CPI COLA) have raised my military pension by nearly 40%. That 40% includes three years of zero COLA.
I’d rather live in a world where I have a small COLA (low inflation) than a big COLA (1970s-1980s), yet even a bunch of small COLAs add up.
To raise your income even higher, would you be receiving any untaxed VA disability compensation with that? If your VA disability rating is <50% then the disability compensation offsets your pension, but it still dramatically lowers your federal income taxes.
If your VA disability rating is 50% or higher, then your disability compensation no longer offsets your military pension but instead becomes Concurrent Retirement and Disability Pay, so it’d be added to your pension.
https://themilitarywallet.com/concurrent-receipt-military-retirement-pay/
CRDP is not a good thing (nobody wants a VA disability rating of at least 50%) but if you start at a 30% VA disability rating and your joints get steadily worse (osteoarthritis) then you’d hit 50% and CRDP in a regrettably short time. My tinnitus and bilateral knee ACL tears are already a total of a 30% VA disability rating, and osteoarthritis can steadily reduce the joint’s flexibility (and mobility) to raise the disability rating. I’m also inexorably approaching a 10% disability rating for hearing loss, which is pretty common among vets who’ve been around engine noise (even with hearing protection).
Or if Congress eliminates the offset between military pensions and VA disability compensation, then your income would rise by a few hundred dollars per month.
Apparently researchers think that the spending reluctance of frugality is so common (and so severe) among women retirees that they’ve named it “Bag Lady Syndrome”. Maybe this is just media hype, but a search for that phrase returns over 10M results.
I will have TRICARE as my insurance - although your point about Medicare and the premium for higher incomes is spot on.
Yep, and that means your health-insurance premiums will drop for a few years until Medicare (with bigger premiums) & Tricare For Life (with no premiums) kick in at age 65. So your initial spending might actually drop when your pension starts and then at age 65 you could offset your Medicare premiums with Social Security distributions. (Or delay SS to age 70.) The net effect is that you still end up with more annual income.
Good “problems” to have. You’re not looking at yachts and private jets, but you’re absolutely able to enjoy cruises and travel-hacking first-class airfare. The key is getting comfortable with the spending (and the volatility).
Let's say you have $2M left: $1M in taxable, with $500K basis, and $1M in Roth. Say you will only spend $1M.
If you spend from taxable, and your cap gains are taxed at 15% (because of SS and pension benefits, perhaps), you will pay $75K in fed taxes on that $500K LTCG. Possibly more in state taxes. So you must pull an additional $75K out of your Roth. Your heir gets $925K in an inherited Roth. Gains on this account for your heir will be tax free, but MRDs are required and it will eventually wind up in taxable, where gains will be taxed.
If you spend from the Roth, the Roth is gone, but you don't have to dip into taxable. Your heir gets $1M in a taxable account, with $1M in basis. Future gains will be taxed.
I'm not really sure which is better to inherit. I suppose the heir could probably make more that $75K in tax free investment gains in the Roth to make up the difference, before the Roth gets converted? I thought I was making a case for using the Roth first, but maybe I'm wrong, and it's better to leave the Roth for last, even over highly appreciated taxable holdings?
I think that if a spouse won’t inherit a Roth IRA, this makes a good case for the Roth IRA owner to spend down the Roth IRA and let the taxable accounts be inherited with a basis step-up.
When I started managing my father’s assets, he was 77 years old, already a widower, and had already spent his IRA. His only remaining investment accounts were taxable ones. He and I never had a discussion about it, but I suspect that tax issue is why he spent his IRA before RMDs. When he died, his taxable assets passed with a humongous step-up in basis. He’d held some of those taxable shares for over 25 years.
