Good article on Tax free Roth Withdrawals

[VanWinkle]

I read this article from Ed Slott this morning and found it to be enlightening for tax free Roth withdrawals. It does a good job of explaining the 5 year Roth conversion rule that is so confusing to many. My apologies if someone already posted this.

https://www.irahelp.com/slottreport/...n-5-easy-steps


VW

[Telly]

Thanks, VanWinkle!

That's a great explanation. It clearly separates and explains the 5-year rule business, there are TWO 5-year rules. It was always confusing to me.
It's been a while since I was 59 1/2, and I have not tapped any of my Roth. But now I have a link that I can pass on to others of a younger age.

[Gumby]

I agree. That's as clearly as I have ever seen it explained.

[PlayinwithFIRE]

That's bad news as I've read it twice and still don't know
when to convert 401/IRA to Roth.

It seems like these articles don't go far enough, or it is an admission that it cant be calculated exactly and each persons case needs its own scrutiny.

My basic understanding is :

1) Convert to Roth when your tax bracket is low...so don't do it while still working? This means stop working an amount of time required to fall into a lower tax bracket? How much time is needed for that to happen ..a full year tax cycle?

2) Draw from your taxable accounts first. So does that mean fully deplete them if it comes to that? I'd imagine the burn rate prior to SS/Medicare kicking in could possibly draw down those accounts.

3) Draw from your non-taxable accts.


So where in this cycle of events should the Roth/ conversion happen ...it seems like to get to a lower tax bracket you will likely be drawing down your taxable accounts for up to a year prior to making the ROTH conversion.

At that point do you just push everything into the ROTH or do you leave something in the taxables?

bleh-too many moving parts !

[Spock]

Huh. I was unaware there were multiple 5year rules. Since I'm now past 59.5yo I thought I could use my roth as emergency backup cash/liquidity. Now I gotta go see if it's 5 years old... it's been rolled over so many times as I moved institutions I've lost track of when the 1st $ went in.

[Spock]

Quote:

Originally Posted by PlayinwithFIRE That's bad news as I've read it twice and still don't know when to convert 401/IRA to Roth. It seems like these articles don't go far enough, or it is an admission that it cant be calculated exactly and each persons case needs its own scrutiny. My basic understanding is : 1) Convert to Roth when your tax bracket is low...so don't do it while still working? This means stop working an amount of time required to fall into a lower tax bracket? How much time is needed for that to happen ..a full year tax cycle? 2) Draw from your taxable accounts first. So does that mean fully deplete them if it comes to that? I'd imagine the burn rate prior to SS/Medicare kicking in could possibly draw down those accounts. 3) Draw from your non-taxable accts. So where in this cycle of events should the Roth/ conversion happen ...it seems like to get to a lower tax bracket you will likely be drawing down your taxable accounts for up to a year prior to making the ROTH conversion. At that point do you just push everything into the ROTH or do you leave something in the taxables? bleh-too many moving parts !

Conversions are for managing tax brackets and taxes owed. Right now I do an IRA->Roth conversion for whatever amount is needed each year to fill the 0% tax bracket and get my income high enough for ACA and avoid mediCAID. Once on mediCARE and ACA isn't a factor I'll start maxing out the 10% or 12% bracket.
Depending on your deferred account balances, you may want to get some deferred withdrawals (roth conversions) done before you start receiving SS. The SS tax torpedo can hit once your IRA/401K RMDs start.

[RunningBum]

Quote:

Originally Posted by PlayinwithFIRE That's bad news as I've read it twice and still don't know when to convert 401/IRA to Roth. It seems like these articles don't go far enough, or it is an admission that it cant be calculated exactly and each persons case needs its own scrutiny. My basic understanding is : 1) Convert to Roth when your tax bracket is low...so don't do it while still working? This means stop working an amount of time required to fall into a lower tax bracket? How much time is needed for that to happen ..a full year tax cycle? 2) Draw from your taxable accounts first. So does that mean fully deplete them if it comes to that? I'd imagine the burn rate prior to SS/Medicare kicking in could possibly draw down those accounts. 3) Draw from your non-taxable accts. So where in this cycle of events should the Roth/ conversion happen ...it seems like to get to a lower tax bracket you will likely be drawing down your taxable accounts for up to a year prior to making the ROTH conversion. At that point do you just push everything into the ROTH or do you leave something in the taxables? bleh-too many moving parts !

This article isn't intended to help you decide whether to convert or not. It tells you the tax rules on withdrawals from a Roth.

Like you said, a lot of moving parts. At a high level, you'd like to smooth out your taxable income over all of your years as best as possible. Then you factor in things like ACA subsidies and IRMAA. And you have to have money to live on while you are converting.

Retiring early gives you a larger window to convert, but again you need money to live on. Deferring SS to age 70 also helps, but you may have other reasons to take it earlier.

In some ways I am fortunate that most of my wealth is in my taxable account. The downside to that is that I paid as high as 45% fed+state tax at my income peak.

Anyway, there have been a lot of threads on whether or how much Roth conversions to do. So many that it can be hard to sort through them all. This thread is not one of them though.

[MarieIG]

Thanks VW - it clarified the five year rule(s) beautifully. Much appreciated.

[G-Man]

I read the article.

So, what if all of your Roth IRA dollars are based on conversions and not direct contributions. How does the 5 year seasoning period come into play.

Roth contribution vs Roth conversions

So should the statement in the article say.... I added words in bold

If you contributed or converted $1 dollar to your Roth IRA for 2017, and then in 2020 you converted your one-million-dollar traditional IRA to the Roth IRA, then as of January 1, 2022, all the Roth money would be considered to have been held for five years for purposes of determining qualified distributions of earnings. Your Roth IRA 5-year clock began on the first day of the year for which the first dollar of Roth contributions or conversion was made.

[Koolau]

Very good article.

Recently, I did something I never thought I would do. I cashed in a Roth IRA. It was small (less than $7K.) It was that or figure out where to transfer the funds and go through the process which can be daunting if anyone drags his/her feet. SO, cashing it out - and I needed the money - was easiest way to go. I hated the concept, but the reality made all kinds of sense. Now ALL my remaining Roth IRAs are in one place and I don't have to deal with this underperforming account. Win-win though YMMV.

[Sunset]

Quote:

Originally Posted by PlayinwithFIRE That's bad news as I've read it twice and still don't know when to convert 401/IRA to Roth. It seems like these articles don't go far enough, or it is an admission that it cant be calculated exactly and each persons case needs its own scrutiny. My basic understanding is : 1) Convert to Roth when your tax bracket is low...so don't do it while still working? This means stop working an amount of time required to fall into a lower tax bracket? How much time is needed for that to happen ..a full year tax cycle? 2) Draw from your taxable accounts first. So does that mean fully deplete them if it comes to that? I'd imagine the burn rate prior to SS/Medicare kicking in could possibly draw down those accounts. 3) Draw from your non-taxable accts. So where in this cycle of events should the Roth/ conversion happen ...it seems like to get to a lower tax bracket you will likely be drawing down your taxable accounts for up to a year prior to making the ROTH conversion. At that point do you just push everything into the ROTH or do you leave something in the taxables? bleh-too many moving parts !

You only convert a portion of the IRA to a ROTH, not all at once or the tax bill would probably be HUGE...

If a person doesn't have much in IRA's, then they could just withdraw some money each year when in low tax brackets to live on and end up not needing to do a ROTH conversion.

We are doing ROTH conversions because we have too much in IRA's. We are delaying SS until age 70, so we have only a little income from retirement until age 70 and that is when we are doing Conversions. Once we hit age 72 and have to take RMD's, we will be in a higher tax rate and conversions probably won't make sense.

[VanWinkle]

Quote:

Originally Posted by Spock Huh. I was unaware there were multiple 5year rules. Since I'm now past 59.5yo I thought I could use my roth as emergency backup cash/liquidity. Now I gotta go see if it's 5 years old... it's been rolled over so many times as I moved institutions I've lost track of when the 1st $ went in.

Read the article again..... You can take your contributions at any time. Any Roth you own can qualify you for the 5 year rule.

[Exchme]

Quote:

Originally Posted by PlayinwithFIRE That's bad news as I've read it twice and still don't know when to convert 401/IRA to Roth. It seems like these articles don't go far enough, or it is an admission that it cant be calculated exactly and each persons case needs its own scrutiny. My basic understanding is : 1) Convert to Roth when your tax bracket is low...so don't do it while still working? This means stop working an amount of time required to fall into a lower tax bracket? How much time is needed for that to happen ..a full year tax cycle? 2) Draw from your taxable accounts first. So does that mean fully deplete them if it comes to that? I'd imagine the burn rate prior to SS/Medicare kicking in could possibly draw down those accounts. 3) Draw from your non-taxable accts. So where in this cycle of events should the Roth/ conversion happen ...it seems like to get to a lower tax bracket you will likely be drawing down your taxable accounts for up to a year prior to making the ROTH conversion. At that point do you just push everything into the ROTH or do you leave something in the taxables? bleh-too many moving parts !

1)Yes, wait until you have retired to do Roth Conversions (or do them when you are young and underpaid). You are trying to balance out your marginal tax rate over your lifetime. Given the tax code, the way to avoid high tax brackets is to also avoid low ones - steady is better than high (working), then low (retired, but pre -SS and RMD), then high (SS + RMD).

Roth Conversions are a tax play, so it is based on calendar years.

2)Generally yes, drawing down taxable first is preferable. Again, it's complicated because of the tax code. Ordinary dividends and interest in taxable are taxed as regular income and qualified dividends and capital gains are taxed at 15% if your income is high enough and count toward determination of IRMAA (Medicare pricing system) and ACA premium credit eligibility. Even Muni bonds count toward some of these.

The point of drawing down taxable first is to minimize the ongoing tax drag - taxes you pay this year are not available to be invested for next year and later years. Same thing happens next year, taxes you pay next year are not available to be invested for the following year, etc. So it gets worse at a rate that is faster than exponentially. One of the key benefits of Roth Conversions is to reduce your taxable account balances to reduce this drag.

3)Not sure of the question, but if taxable is exhausted, then the next best source of funding is generally the tax deferred account, not Roth. There are limited exceptions such as if you need cash but are up against an IRMAA tier, SS benefit taxation, etc.

As for being "bleh-bleh, too many moving parts", it's profitable to carefully navigate the tax code. You may choose to throw more of your hard earned money into the government pit than necessary, but I will try very hard to avoid that fate.

[GravitySucks]

Thanks for the link. Very good and clear article.
More financial writing should be this straight forward.

[Spock]

Quote:

Originally Posted by VanWinkle Read the article again..... You can take your contributions at any time. Any Roth you own can qualify you for the 5 year rule.

I don't have dates on the original accounts that were rolled out and closed as I moved about the country. The only one I can document is the last one. I doubt the IRS will just take my word for it.

[ncbill]

How would they know short of a manual audit?

IMHO, forget any '5 year rules' & just make sure you open a Roth & contribute at least $1 before age 50 then plan on not taking anything out of it until you turn age 59 1/2.

And as a new wage earner, my kid was contributing 30% to their Roth TSP to get the 5% match in traditional.

[Koolau]

Quote:

Originally Posted by Spock I don't have dates on the original accounts that were rolled out and closed as I moved about the country. The only one I can document is the last one. I doubt the IRS will just take my word for it.

And just wait until they get all their new "staff" with nothing better to do than send you a letter saying "prove it!"

[John Galt III]

OK, guys, I have googled already, to no avail. I have read most of this thread. I have a question. Does the 5 year rule have any significance if I want to 'break' current Roth IRA CDs that are less than 5 years old, and immediately reinvest them, at the same institution, in a higher interest Roth CD ? The clerk at the credit union where my Roth CDs reside did not know the answer and has not provided the promised call back.

[Spock]

Quote:

Originally Posted by John Galt III OK, guys, I have googled already, to no avail. I have read most of this thread. I have a question. Does the 5 year rule have any significance if I want to 'break' current Roth IRA CDs that are less than 5 years old, and immediately reinvest them, at the same institution, in a higher interest Roth CD ? The clerk at the credit union where my Roth CDs reside did not know the answer and has not provided the promised call back.

There is no 5 year rule on the investments within the Roth. Just when the roth was opened.
It depends on your penalty for breaking the old CD and the interest rate differential between the old and new CD.
This tool may help with the calculation.
https://www.depositaccounts.com/tool...alculator.aspx

[VanWinkle]

Quote:

Originally Posted by John Galt III OK, guys, I have googled already, to no avail. I have read most of this thread. I have a question. Does the 5 year rule have any significance if I want to 'break' current Roth IRA CDs that are less than 5 years old, and immediately reinvest them, at the same institution, in a higher interest Roth CD ? The clerk at the credit union where my Roth CDs reside did not know the answer and has not provided the promised call back.

The rule only applies to the earnings when they are removed from the Roth IRA. Changing investments inside the Roth are not affected by these rules.