Trad IRA to Roth Conversion after retirement

[Stwicky]

I have ~500,000 in a trad IRA (no taxes paid as of yet) at fidelity. My retirement income puts me in the 0% tax bracket at the moment. I'd like to begin converting some Trad IRA money into a roth. Is this a simple process at Fidelity? Will they know what I'm talking about when I call them?



My understanding is that I can simply open a Roth IRA account and begin to make these conversions. The distributions will be considered as part of my taxable income which I need to manage to keep my taxes in my comfort range. Is this the same each succeeding year? Does the pro rata rule come into effect in these circumstances?



Any advice would be helpful.

[Midpack]

Like almost any reputable brokerage it's a routine transaction(s) - Fidelity can make Roth conversions very simple, they've done it for hundreds of thousands of clients. Yes your TIRA distributions are taxable income ***. It's up to you to manage income to keep taxes in your "comfort range" - but I am sure Fidelity can give you factors to consider.

It might be easier to just call Fidelity and have them answer questions and walk you through the process...conversions are very easy, and doing the associated taxes isn't that hard either.

https://www.fidelity.com/building-sa...onvert-to-roth

https://www.fidelity.com/retirement-ira/roth-ira-faq

https://www.fidelity.com/retirement-...ion-checklists

*** IF (like me) you have any non-deductible TIRA contributions, your tax liability will be reduced as a % of total IRA assets each year). But if you use TurboTax, it keeps track of your non-deductible basis for you - I am sure other tax preparation software/services will as well.
https://www.investopedia.com/article...f%20conversion.

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If you have both nondeductible and deductible IRAs, you're required to prorate the taxable and nontaxable portions to determine how much of your conversion is subject to taxes.

[TheWizard]

Simple process, yes.
You say no taxes paid on any of that $500k in your tIRA, so no pro rata issues.

Main complication is How Much to convert each year. For that, it's good to make a spreadsheet showing your estimated taxable income year by year through age 75...

[pb4uski]

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Originally Posted by Stwicky I have ~500,000 in a trad IRA (no taxes paid as of yet) at fidelity. My retirement income puts me in the 0% tax bracket at the moment. I'd like to begin converting some Trad IRA money into a roth. Is this a simple process at Fidelity? Will they know what I'm talking about when I call them? My understanding is that I can simply open a Roth IRA account and begin to make these conversions. The distributions will be considered as part of my taxable income which I need to manage to keep my taxes in my comfort range. Is this the same each succeeding year? Does the pro rata rule come into effect in these circumstances? Any advice would be helpful.

While I have accounts at Fido, including a tIRA, my Roth is with Vanguard so no direct personal experience in converting tIRA to Roth at Fido, but I'm sure it is similar. You can do it all online.

It is ideal to pay the taxes from taxable accounts rather than withholding from the conversion amount, especially if you are under 59-1/2 in which case there would be a 10% penalty on any taxes withheld.

The pro-rata rule only applies if some of your tIRA money (in any tIRA account and perhaps even 401k/403b accounts) was non-deductible, which is somewhat rare and it sounds like not applicable to you.

At a minimum you would want to do enough Roth conversions so that your 2022 taxable income is equal to your qualified dividends and LTCG (so your ordinary income would $0). But you may want to do more at 10% and/or 12%, especially if you expect your marginal tax rate once any pensions and SS are going to be 22% or more.

I do a big chunk each January and then top it up in December once I have a good read on my tax sithation for the year.

[Stwicky]

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Originally Posted by pb4uski While I have accounts at Fido, including a tIRA, my Roth is with Vanguard so no direct personal experience in converting tIRA to Roth at Fido, but I'm sure it is similar. You can do it all online. It is ideal to pay the taxes from taxable accounts rather than withholding from the conversion amount, especially if you are under 59-1/2 in which case there would be a 10% penalty on any taxes withheld. The pro-rata rule only applies if some of your tIRA money (in any tIRA account and perhaps even 401k/403b accounts) was non-deductible, which is somewhat rare and it sounds like not applicable to you. At a minimum you would want to do enough Roth conversions so that your 2022 taxable income is equal to your qualified dividends and LTCG (so your ordinary income would $0). But you may want to do more at 10% and/or 12%, especially if you expect your marginal tax rate once any pensions and SS are going to be 22% or more. I do a big chunk each January and then top it up in December once I have a good read on my tax sithation for the year.

So, my calcs need to include the 10% penalty? Ouch. This can really affect the calcs.


I was under the impression that a conversion such as this would not incur the 10% penalty.

[RunningBum]

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Originally Posted by Stwicky So, my calcs need to include the 10% penalty? Ouch. This can really affect the calcs. I was under the impression that a conversion such as this would not incur the 10% penalty.

If you pay the tax using funds from outside of the IRA you don't have a 10% early withdrawal penalty. But if you pay taxes using the converted money, you will.

Look at it this way. Suppose you convert $100K and will have to pay $22K in taxes. If you pay the taxes out of the conversion, you are actually moving only $78K into the Roth, which is penalty free, and withdrawing $22K from your tIRA to pay the tax. If you are under 59.5, that $22K withdrawal has a 10% penalty.

[jollystomper]

Quote:

Originally Posted by Stwicky I have ~500,000 in a trad IRA (no taxes paid as of yet) at fidelity. My retirement income puts me in the 0% tax bracket at the moment. I'd like to begin converting some Trad IRA money into a roth. Is this a simple process at Fidelity? Will they know what I'm talking about when I call them?

The one problem you *might* run into is based on the age of your tIRA account. I have a tIRA at Fidelity that I opened in the late 1990s. After I retired in 2018, I opened a Roth IRA as I was now eligible to have one. But I found I could not do online conversions since, according to Fidelity, my tIRA was in an "old format" that did not support online conversions into the Roth. I have had to call them whenever I want to do a conversion. Calling them to do this is simple and other than the extra time spent, it has worked well.

I can fix this problem by opening a new tIRA account (which is will be in a format that supports online conversions), and have them transfer my current tIRA holdings to the new IRA. I asked Fidelity that question and they confirmed in writing (via email) that this would work and can be done so that it would not be a taxable event. I have been meaning to do this since the beginning of the year, but have not yet gotten around to it. Maybe I will get it done in the next couple of weeks.

[Stwicky]

for anyone who has done this, what does box 7 on your 1099-R show?

[pb4uski]

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Originally Posted by Stwicky So, my calcs need to include the 10% penalty? Ouch. This can really affect the calcs. I was under the impression that a conversion such as this would not incur the 10% penalty.

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Originally Posted by RunningBum If you pay the tax using funds from outside of the IRA you don't have a 10% early withdrawal penalty. But if you pay taxes using the converted money, you will. Look at it this way. Suppose you convert $100K and will have to pay $22K in taxes. If you pay the taxes out of the conversion, you are actually moving only $78K into the Roth, which is penalty free, and withdrawing $22K from your tIRA to pay the tax. If you are under 59.5, that $22K withdrawal has a 10% penalty.

Stwicky, RB nailed it. If you pay the taxes from other money there is no penalty. However, if you have taxes withheld from the conversion and are under 50-1/2 then it is an early withdrawal and subject to the 10% penalty.

I mentioned it only because it is a nuance that some posters are not aware of and have had unpleasant surprises when they did their tax return and I want you to avoid that situation.

If you have money available outside your tIRA to use to pay the taxes then you can easily avoid the 10% penalty. So extending RB's example, you would transfer $100k from your tIRA to your Roth as a conversion and then pay the $22k in taxed from other funds.

I just increase the withholdings from my pension to be equal to the taxes that I expect to pay for the year, which are all Roth conversion taxes.

[Midpack]

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Originally Posted by Stwicky for anyone who has done this, what does box 7 on your 1099-R show?

Mine shows “7” Normal Distribution - but I gather you’re under 59-1/2.

https://www.irs.gov/pub/irs-pdf/i1099r.pdf

[Alan]

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Originally Posted by Stwicky for anyone who has done this, what does box 7 on your 1099-R show?

It shows a 7, normal distribution, or a 2 if under 59.5, early distribution- exception applies

[londo]

I'm under 59 1/2, did a Roth conversion at Fidelity last year and the 1099-R box 7 was distribution code 2 "Early distribution, exception applies (under age 59-1/2)".

[Rianne]

pb4uski - I know you're an accountant as you have helped us 10 fold over the last few years. I feel like this is a dumb question, but I'm 64 and want to do Roth conversions next year. There's no rule that I have to pay taxes on the sale of tIRA funds from taxable accounts, right?

Our pension starting next year: $32,000
Small SS: $12,000
tIRA withdrawal : $100,000 ($60,000 going to Roth)
Dividends: Maybe $15,000

I figure safe for IIRMA.

I saved this link you posted to ballpark our taxes for next year and it helped so much.
https://www.irscalculators.com/tax-calculator

[pb4uski]

^^^ Yes, there is no rule that you have to pay taxes on the withdrawal or conversion of tIRA money from taxable accounts.

For Roth conversions is it preferable to pay the tax from taxable account funds if you can. For example, on your $60,000 Roth conversion the federal tax will be $12,725. Let's say you had 20%, or $12,000 withheld... that would mean that only $48,000 of the $60,000 conversion ends up in the tax free Roth. If you don't have taxes withheld and pay it from other funds then $60,000 ends up ithe tax-free Roth.

Most people would rather have $60k tax-free forever than $48k tax-free forever if they have the taxable account money to pay the tax.

[oldtimer]

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Originally Posted by Rianne pb4uski - I know you're an accountant as you have helped us 10 fold over the last few years. I feel like this is a dumb question, but I'm 64 and want to do Roth conversions next year. There's no rule that I have to pay taxes on the sale of tIRA funds from taxable accounts, right? Our pension starting next year: $32,000 Small SS: $12,000 tIRA withdrawal : $100,000 ($60,000 going to Roth) Dividends: Maybe $15,000 I figure safe for IIRMA. I saved this link you posted to ballpark our taxes for next year and it helped so much. https://www.irscalculators.com/tax-calculator

Not pb4uski, but once one is over 59.5 the 10% penalty no longer applies on IRA distributions.



Also, you & spouse appear to be below the first tier of IRMAA using shared numbers. Remember that IRMAA is based on your income from 2 year prior. So next year (2023) MAGI is used for determining possible IRMAA charges in 2025.

[Rianne]

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Originally Posted by oldtimer Also, you & spouse appear to be below the first tier of IRMAA using shared numbers. Remember that IRMAA is based on your income from 2 year prior. So next year (2023) MAGI is used for determining possible IRMAA charges in 2025.

In 2022, this year, we take Medicare. They base IRMAA on 2020 taxes. In 2023, they base IRMAA on 2021 taxes...etc. Right?

[Rianne]

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Originally Posted by pb4uski ^^^ Yes, there is no rule that you have to pay taxes on the withdrawal or conversion of tIRA money from taxable accounts. For Roth conversions is it preferable to pay the tax from taxable account funds if you can. For example, on your $60,000 Roth conversion the federal tax will be $12,725. Let's say you had 20%, or $12,000 withheld... that would mean that only $48,000 of the $60,000 conversion ends up in the tax free Roth. If you don't have taxes withheld and pay it from other funds then $60,000 ends up ithe tax-free Roth. Most people would rather have $60k tax-free forever than $48k tax-free forever if they have the taxable account money to pay the tax.

This year, 2022, DH has a consulting side business that he will quit in Dec. 2022. We paid forward all taxes (we could have paid quarterly). Expensive, paying both sides of Medicare and SS. This quarterly tax thing is only for independent contractors, right? We don't have to worry about quarterly taxes anymore and can pay all at once in April 2024 after Roth conversion and whatever else we owe to Gov. We can't Roth covert this year (2022) because of ACA, so that's moot. We both have Medicare for 2023.

[TheWizard]

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Originally Posted by Rianne ... This quarterly tax thing is only for independent contractors, right? We don't have to worry about quarterly taxes anymore and can pay all at once in April 2024 after Roth conversion and whatever else we owe to Gov.

Not exactly.
You still need to do either withholding or quarterly estimated payments in retirement, assuming you owe more than $1000(?) total to the IRS for the year...

[Lawrencewendall]

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Originally Posted by Stwicky for anyone who has done this, what does box 7 on your 1099-R show?

G

[Rianne]

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Originally Posted by TheWizard Not exactly. You still need to do either withholding or quarterly estimated payments in retirement, assuming you owe more than $1000(?) total to the IRS for the year...

Ah! We have to figure out ahead of time what our taxes will be and submit either quarterly or pay forward all at once. Is that what you're saying? We will definitely owe more than $1000. We are tax/accounting challenged so we will have to keep paying our accountant I thought retirement is easy so we can figure it out. Not!