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Are my Roth conversion pros/cons correct?
03-17-2023, 08:01 PM
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#1
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Recycles dryer sheets
Join Date: Feb 2023
Location: San Francisco
Posts: 55
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Are my Roth conversion pros/cons correct?
Are there any advantages for my converting a Sep-IRA into a Roth (based on following characteristics)?
I'm trying to decide if it's even worth using my brain cells to pursue it.
Situation:
-I am over 60
-I live in a very high taxed state
-I don't have earned income (job)
-I live off LT Gains cashed out yearly about $40,000 (no fed taxes, but high state taxes)
Converting Ira into Roth...
Pros:
When I need to spend my Roth, it is free from state taxes (and fed)
Cons:
I would lose my 0% Federal tax perk for living on my long term capital gains (because I would have to start paying for "earned" income taxes to convert it).
--
Confession: You can probably accuse me of looking into this just because I'm sick of paying high state taxes. Between state, property, county, city and sales taxes, I see little in return. I just got billed $1,600 for an unasked-for sidewalk repair in front of my house. To me, that also a tax. (Where does all the tax money go?)
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03-17-2023, 08:16 PM
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#2
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Give me a museum and I'll fill it. (Picasso) Give me a forum ...
Join Date: Jun 2007
Posts: 12,665
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You're only looking at a small piece of the picture. Roth conversions are mostly a tax arbitrage play, paying the tax to convert now in anticipation of higher income and taxes in retirement especially after you start collecting SS and have to take RMDs. Usually the window for converting is after retiring early and before you start SS & RMDs but you should do calculations for your situation, not someone else's.
Try to estimate your future taxes, and see how that compares with the marginal rate of converting now, which includes the 15% LTCG rate when conversions dollars start pushing equal amounts of LTCG dollars into being taxed. If you think you might move from your high tax state, factor that into your estimated future tax.
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03-17-2023, 10:44 PM
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#3
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Give me a museum and I'll fill it. (Picasso) Give me a forum ...
Join Date: May 2008
Location: No fixed abode
Posts: 8,461
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I think the better option would be to move to a lower tax state, and leave everything else as it is.
__________________
"Good judgment comes from experience. Experience comes from bad judgement." - Anonymous (not Will Rogers or Sam Clemens)
DW and I - FIREd at 50 (7/06), living off assets
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03-17-2023, 10:45 PM
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#4
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Full time employment: Posting here.
Join Date: Aug 2013
Location: New Jersey
Posts: 538
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Assuming you are single, you can have up to $58475 in LTCG for 2023 at the 0% rate. Looks like there’s room to do some RothIRA conversions at a low tax rate. Plug the numbers into this years tax program to confirm.
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03-17-2023, 10:55 PM
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#5
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Thinks s/he gets paid by the post
Join Date: Feb 2003
Posts: 2,302
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Quote:
Originally Posted by RunningBum
............ Roth conversions are mostly a tax arbitrage play, paying the tax to convert now in anticipation of higher income and taxes in retirement especially after you start collecting SS and have to take RMDs. Usually the window for converting is after retiring early and before you start SS & RMDs but you should do calculations for your situation, not someone else's.
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This is an excellent summation, and in very few words.
Some years ago, somehow, not sure why now, DW and I fell off the Roth conversion wagon for a few years. We started chasing minimizing Fed tax of the then-PRESENT. Down in the lowest tax bracket. Eventually, reading continuing Roth conversion discussions on this forum, we realized the error of our ways, and got back up on the conversion wagon. Unfortunately, we lost some wagon capacity and trips with it we could never get back as the years to go to the close of the "window" decreased. Time waits for no man (nor woman, nor early retiree!).
__________________
-- Telly, the D-I-Y guy --
Two fools dancing on the hands of time
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03-18-2023, 03:05 AM
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#6
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Give me a museum and I'll fill it. (Picasso) Give me a forum ...
Join Date: Nov 2010
Location: Sarasota, FL & Vermont
Posts: 33,632
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Do you have any plans to move now that you are retired? If so, you could be less aggressive with Roth conversions while you are still in CA but get more aggressive later. If not, then you are stuck with paying CA their due.
Depending on how much in Roth conversions that you do, you may not "lose" your 0% LTCG federal tax benefit. For example, if a 60yo single taxpayer's only income in 2023 was $40,000 of LTCG then you could have as much as $18,475 of Roth conversion and only pay $462.50 in federal taxes (2.5%).
However, from that point onwards for each $1 of Roth conversion you would pay the ordinary tax rate and 15% on LTCG pushed from 0% to 15%, so the next $40,000 would be taxed at 25% (10% ordinary + 15% LTCG) or 27% (12% ordinary +15% LTCG) and anything after that at just ordinary rates.
Where you say $40,000 of LTCG, I assume that the proceeds are substantially higher than $40,000 if your LTCG is $40,000. If you didn't do any LTCG you could have as much as $58,575 of tIRA withdrawals to the top of the 12% tax bracket and only pay 8.79% in Federal tax on those withdrawals and leave your taxable account to grow. tIRA withdrawals have a similar benefit to Roth conversions in that both reduce RMDs the same way.
As others have written, Roth conversions ae simply a tax arbitration play... sort of like the old Fram oil filters commercial... pay me now or pay me later. For most people, if they wait then when RMDs hit they are collecting SS and the taxes can get very onerous since the RMDs can also cause more SS to be taxable with marginal rates on RMDs as high as 40.7% (22% * 185%) ... so better to pay 8.79% now than pay 40.7% later. That is why many posters delay SS until they are 70... to milk the Roth conversions cow for all that it is worth, not to mention the higher SS benefit for delaying.
A good tool to look at scenarios for you is https://www.irscalculators.com/tax-calculator or Turbo Tax's What-If worksheet.
I will admit that I am curious how/why the city can bill you for a sidewalk repair in front of your house unless you are responsible for maintaining the sidewalk and failed to do so... but I would think that in most cases the sidewalk is a public sidewalk on the city's easement so they would be responsible for the repairs. If you are responsible for the repairs it suggests that the sidewal is your property so anyone using the sidewalk is trespassing. But I do reaize that California and San Francisco are "different".
__________________
If something cannot endure laughter.... it cannot endure.
Patience is the art of concealing your impatience.
Slow and steady wins the race.
Retired Jan 2012 at age 56
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03-18-2023, 07:14 AM
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#7
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Give me a museum and I'll fill it. (Picasso) Give me a forum ...
Join Date: Jun 2007
Posts: 12,665
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When looking at future tax rates, don't forget to factor in SS taxation. RMDs might push not only CGs into being taxed, but also SS, which pushed even more CGs into taxation. Your marginal rate could approach 50% in federal tax alone.
My sister got hit with a bill for sidewalk repair years ago. Not California. The google shows a lot of places that do. Not saying I understand why, just that they do. It reminds me of the dreaded "street repairs" card in monopoly.
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03-18-2023, 07:17 AM
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#8
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Give me a museum and I'll fill it. (Picasso) Give me a forum ...
Join Date: Jan 2008
Location: NC
Posts: 19,355
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Quote:
Originally Posted by RunningBum
You're only looking at a small piece of the picture. Roth conversions are mostly a tax arbitrage play, paying the tax to convert now in anticipation of higher income and taxes in retirement especially after you start collecting SS and have to take RMDs. Usually the window for converting is after retiring early and before you start SS & RMDs but you should do calculations for your situation, not someone else's.
Try to estimate your future taxes, and see how that compares with the marginal rate of converting now, which includes the 15% LTCG rate when conversions dollars start pushing equal amounts of LTCG dollars into being taxed. If you think you might move from your high tax state, factor that into your estimated future tax.
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+1. Well summarized, you have to do the math including all the tax implications to optimize Roth conversions.
And needless to say, CA/SF taxes!!! We considered retiring in San Diego, but once we looked into real estate and taxes that idea was dropped…
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No one agrees with other people's opinions; they merely agree with their own opinions -- expressed by somebody else. Sydney Tremayne
Retired Jun 2011 at age 57
Target AA: 50% equity funds / 40% bonds / 10% cash
Target WR: Approx 2.5% Approx 20% SI (secure income, SS only)
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