What tax bracket should I stop doing Roth Conversions

[SecondCor521]

In our case, the optimal solution according to opensocialsecurity is the one you are contemplating, viz., me at 70 and my wife at 62. However, the answer was VERY insensitive to her claiming age. Her claiming age was basically a wash as long as I claim at 70. So, it could be that it would benefit you to delay her claiming for, say, a few years to allow a few years of conversions.

It's also worth noting that opensocialsecurity does not take the opportunity to do Roth conversions into account when making its recommendations.

 

[OldShooter]

... I give up! ¯\_(ツ)_/¯

@chassis, do you have a junior college nearby or possibly a public school adult-ed program that includes a class in accounting? Assets, liabilities, and personal balance sheets are all very simple concepts in the accounting world, but it is clear from your posts that you do not understand. I suggest that you find and take a basic accounting course. Much will become clear.

The very condensed version: A tIRA is an asset. The unpaid taxe embedded in the tIRA is a liability. Personal net worth is the sum of assets less the sum of liabilities. When one pays the taxes, the tIRA asset is reduced by the amount of the payment and the tax liability goes away. Personal net worth is unaffected. Take this to your class and, if necessary, ask your instructor to explain it to you.

 

[Time2]

Are there any other reasons to take her SS early? Being single I don't know all of the spousal situations. What does opensocialsecurity.com say?

One of the reasons besides longevity insurance that I plan to defer SS until 70 is to have more years without SS to do Roth conversions, just as you are considering.

She has no other reasons to take SS early, we have 50 times our spend rate, so SS is great but not a necessity.

I don't know what criteria is used to base the opensocialsecurity.com answers on. Highest earning spouse waiting until 70 is a no brainer, but what is the reason for the lower earning spouse to start early?
I'd prefer to wait and increase my Roth Conversions. But I have no mathematics to say that is the best financially, other than living longer makes that work and lower taxes because the Roth Conversions lowered my RMDs and my wife's higher tax bracket after I die.

 

[RunningBum]

She has no other reasons to take SS early, we have 50 times our spend rate, so SS is great but not a necessity.

I don't know what criteria is used to base the opensocialsecurity.com answers on. Highest earning spouse waiting until 70 is a no brainer, but what is the reason for the lower earning spouse to start early?
I'd prefer to wait and increase my Roth Conversions. But I have no mathematics to say that is the best financially, other than living longer makes that work and lower taxes because the Roth Conversions lowered my RMDs and my wife's higher tax bracket after I die.

As I understand it, there's a different strategy if one spouse has less than half the benefit of the other. As I said, I'm not too up on spousal strategies so I won't elaborate.

 

[RunningBum]

The very condensed version: A tIRA is an asset. The unpaid taxes embedded in the tIRA is a liability. Personal net worth is the sum of assets less the sum of liabilities. When one pays the taxes, the tIRA asset is reduced by the amount of the payment and the tax liability goes away. Personal net worth is unaffected.

Also, estate value as defined by the IRS is not the same as net worth.

 

[Out-to-Lunch]

She has no other reasons to take SS early, we have 50 times our spend rate, so SS is great but not a necessity.

I don't know what criteria is used to base the opensocialsecurity.com answers on. Highest earning spouse waiting until 70 is a no brainer, but what is the reason for the lower earning spouse to start early?

Here is how I think it comes about. If your wife were single and lived an average life span, by design, her claiming age does not matter much. That is, the (longer receiving period)*(lower payments) will be about the same as the (shorter receiving period)*(higher payments). And the same goes for you.

However, as part of a couple there is a decent chance that she would get a (longer receiving period)*(some low, and some higher payments). That is, after you pass, her payments would increase. This sum will obviously be higher than if she received the lower payment for her entire claiming period.

Obviously, this is all on average.

 

[pb4uski]

Also, estate value as defined by the IRS is not the same as net worth.

in part, because it doesn't include any deferred tax liabilities on assets and liabilities that are recognized.

 

[Out-to-Lunch]

I don't know what criteria is used to base the opensocialsecurity.com answers on.

BTW, the way the calculator works is that it uses mortality tables to calculate the probability that you are alive each year, and then multiplies that by the payment resulting from a given claiming age. Then it sums those probability-weighted payments to get the amount that you are expected to receive for that given claiming age.

You can specify a different mortality table to better approximate your own condition (i.e., smoker or not, good health or not). To do so, you need to click the box on the first line where it says "Certain situations require additional input. Click here to select situation(s) that may apply to you (and/or your spouse, if filing jointly)."

 

[chassis]

The McQuarrie paper has the information I have been looking for, and it is generally aligned with my own model. Doing Roth conversions is playing a small game that pays off far into the future, if it pays off at all. I'm not interested.

Average age of payback is 90 years of age, with an average wealth increase of 1.4% due to Roth conversion. See attached Table 7 from McQuarrie. This is too little payback too late in the game to be interesting for me.

I continue to learn and read more, but for now I look at Roth conversions as financial wheel spinning.

Thanks for the dialogue on this.

https://papers.ssrn.com/sol3/papers.cfm?abstract_id=3860359

 

[SecondCor521]

The McQuarrie paper has the information I have been looking for, and it is generally aligned with my own model. Doing Roth conversions is playing a small game that pays off far into the future, if it pays off at all. I'm not interested.

Average age of payback is 90 years of age, with an average wealth increase of 1.4% due to Roth conversion. See attached Table 7 from McQuarrie. This is too little payback too late in the game to be interesting for me.

I continue to learn and read more, but for now I look at Roth conversions as financial wheel spinning.

Thanks for the dialogue on this.

https://papers.ssrn.com/sol3/papers.cfm?abstract_id=3860359

The author of this paper has a PhD in social psychology and an undergrad degree in interdisciplinary studies from Evergreen State. He is a retired marketing professor whose research and teaching are not in the area of Roth conversions.

The author's linked in profile shows no evidence of any study of economics, finance, accounting, business, math, or formal logic (https://www.linkedin.com/in/edward-mcquarrie-8a08a515/). On the subject of Roth conversions, I'd rather have someone who has education and knowledge in those areas.

SSRN appears not to be a peer reviewed journal.

Much of the early part of his paper talks about a married couple just cresting into the 24% bracket (page 8 column 1). He also oddly argues off and on that such couples are rare. Obviously such a couple may have limited utility for Roth conversions.

He appears to ignore my case as a single parent of three adult offspring, although I stopped reading his paper around page 8 because I had already read enough statements which I think are just plain silly.

 

[OldShooter]

The McQuarrie paper has the information I have been looking for, and it is generally aligned with my own model. ...

We humans tend to seek out and quickly accept information that supports our already-existing opinions. See https://en.wikipedia.org/wiki/Confirmation_bias

 

[RunningBum]

I didn't make it through that paper. The tone seemed slanted to me, but maybe because I didn't agree with it. Mostly the problem I had is that it talked of a breakeven point. It did make me think more about whether my view that a breakeven is not valid, and I'm as convinced as ever.

First, it assumes that an amount in a tIRA has the same value as the same amount in a Roth. Thus, the breakeven happens when you've been forced to take enough RMDs and thus enough of that deferred tax liability to bring the conversion plan higher. But it's not barely past breakeven, because the tIRA still has a balance and deferred tax liability.

Second, it ignores that fact that the IRA lives on beyond your lifetime. It's not like the SS breakeven point where you really can collect more if you live long enough, or come out ahead if you die before the breakeven. If you die with a tIRA balance, your heirs still have to pay the deferred tax, and it's now in a condensed 10 year time frame. If your heirs are in a lower tax bracket you may need to prioritize which is more important. Some don't care about their heirs, but dying with a tIRA balance means you left some money behind that you could not spend until you withdrew and paid the deferred liability.

Since the breakeven seemed to be the crux of the paper's conversion decision, I just saw no reason to really dig into it. Maybe I missed something valid. But my course is already set and my remaining conversions will be at 0, 10 or 12%. So my motivation to try to find a nugget in the paper is low.

If you want to leave your unused tIRA balance to charity, or do QCDs, that's a different story. If you have a certain amount you want to leave, rework your conversion calcs to leave that balance. If you want to leave any amount you don't need, then don't do any more conversion than you expect to need, and leave the rest for the charities, because the charities will receive more from the tIRA than your Roth or taxable account because they don't have to pay the tax you deferred.

 

[pb4uski]

An interesting approach but I'm not too keen on wading through 40 pages of drivel, but it did spark an interesting different take at evaluating Roth conversions for me.

The table below is looking at solely my 2021 Roth conversion in isolation. If I do an $80k conversion in 2021, I'll pay $9,328 in tax (vs $0 if my conversion is zero). To keep things simple, I'll assume 0% growth. Given the RMD tables, I'll start saving taxes beginning at age 72 because my RMDs will be lower because my tax-deferred accounts will be $80,000 lower... and based on the RMD tables I can project how long it will be for my lower RMDs to equal the $80,000 Roth conversion.

I'm very sure that we'll be in the 22% tax bracket when RMDs begin so I calculate the tax benefit as 22% of the lower RMD. The $8,272 of tax savings is the $17,600 tax that I'll surely pay if I don't Roth convert ($80k * 22%) less the $9,328 that I know that I'm paying in 2021. So the Tax column are the differential cash flows from doing the Roth conversion and the IRR of those differential cash flows is 6.81%.

Works for me. YMMV. Part of the reason that it works well for me is that we are trading off paying 11.7% now (a blend of 0%, 10% and 12%) to avoid paying 22% later. So if the 2021 RMD is beneficial, then presumably each year that I can convert at less than 22% is beneficial... I guess I could do a cascade of annual Roth conversions but I'm convinced enough that they are beneficial to me that I'm not going to bother.

And this analysis doesn't even consider things like the likelihood that future tax rates will be higher (25% or more vs 22% based on today's tax brackets), the potential jump in tax rates if one of us dies prematurely, etc. ... so if anything this analysis is probably conservative.

If one is trading 22% for 24% then it probably wouldn't be near as attactive.... if I take the same scenario but assume paying 22% now to avoid paying 24% later then the IRR is only .84%

Year	Age	RMD factor	2021 RMD	Tax	Balance
2021	66		80,000	-9,328	-9,328
2022	67				-9,328
2023	68				-9,328
2024	69				-9,328
2025	70				-9,328
2026	71				-9,328
2027	72	25.6	-3,125	688	-8,641
2028	73	24.7	-3,239	713	-7,928
2029	74	23.8	-3,361	739	-7,188
2030	75	22.9	-3,493	769	-6,420
2031	76	22.0	-3,636	800	-5,620
2032	77	21.2	-3,774	830	-4,790
2033	78	20.3	-3,941	867	-3,923
2034	79	19.5	-4,103	903	-3,020
2035	80	18.7	-4,278	941	-2,079
2036	81	17.9	-4,469	983	-1,096
2037	82	17.1	-4,678	1,029	-66
2038	83	16.3	-4,908	1,080	1,013
2039	84	15.5	-5,161	1,135	2,149
2040	85	14.8	-5,405	1,189	3,338
2041	86	14.1	-5,674	1,248	4,586
2042	87	13.4	-5,970	1,313	5,900
2043	88	12.7	-6,299	1,386	7,285
2044	89	12.0	-4,484	987	8,272
Totals			0	8,272
IRR				6.81%

 

[Exchme]

There is a long and very informative thread about the McQuarrie article over at bogleheads. I specifically asked the Prof about the possibly misleading terms like "payback" that Chassis is focusing and other terms like "return on investment" and the professor confirmed it was just shorthand terminology and in fact the article goes back to more normal ways of discussing Roths in the appendices.

The extended discussion in the thread resembled the one here and in many ways was more informative than the paper. The Prof. was engaging, responsive and pleasant, just not able to incorporate all mankind's knowledge in one paper. He specifically excluded discussion of tax increases, one spouse passing early, the liquidated affect on heirs, and used as his base case the situation where taxes on conversions were paid from tax deferred and the asset allocations in all accounts was held constant. Since those are all pretty much the opposite of my situation, for me the paper was a fun read, but not "on the nose" for my situation.

The biggest issue in the whole discussion is that like the blind men describing the elephant, there are so many widely differing situations, that what seems obvious to me (that Roths help up to a point), may seem utterly ludicrous to others if they are using differing assumptions about tax rates, filing status, rates of return, and life expectancy different from mine, plus of course different ages, SS + pension income and balances of accounts.

Prof. McQuarrie's article does not refute any conventional wisdom from this thread. My quick summary of his 42 page paper was that within his framework (no early deaths, no looking at heirs, tax laws stay the same) that the remaining effect of Roths is that since the government owns a fraction of your tax deferred account (the exact number only known later), their weeds in your t-IRA garden are growing too, presumably faster than tax brackets. So when you take RMDs, the bottom brackets get full sooner. Slowly over time, that compounds and more of your money is exposed to higher tax rates, but it takes quite a while to build up to become important. Hope you didn't fall out of your chair in shock.

 

[RetireBy90]

We humans tend to seek out and quickly accept information that supports our already-existing opinions. See https://en.wikipedia.org/wiki/Confirmation_bias

I agree with that. Good thing I'm normally correct

 

[Time2]

I still think this is a solvable problem, but with lots of variables that have a range. So, in the end you would have many answers. We would be comparing No RoCo to all Roth Conversions were in the 12% bracket and later tax bracket is 12%. Or RC paid at 12%, later moved to 22% tax bracket, etc. An option for tax rates rise, it would get very complicated, but also the top dollar of tax bracket rise. Other income besides RMDs would need to be added.

I'm not sure you need to model a surviving spouses jump in taxes against RoCo or no RoCo, I think that's a no brainer.
I'd like to see whether it is wise to Delay SS of spouse with lower income to do more RoCos, versus taking SS and doing less RoCo.
I have wondered if I could go to the local community college and have some students take on such a Excel or Google sheets program. If it was possible, Programmers would need a bunch of info on the variables to be included.


Moderators,

If RoCo seems like good shorthand for Roth Conversions, can it be added to the list at
Standard Acronyms You May Find on the Forum
under
Early Retirement FAQs

 

[RunningBum]

I'm not sure you need to model a surviving spouses jump in taxes against RoCo or no RoCo, I think that's a no brainer.

But what does that being a "no brainer" mean? Do you always convert more because of that? Unless you find an expiration date on yourself, you don't know how long you'll be MFJ vs single, so how can it be a no brainer? I'd call it a tie breaker.

Lots of variables. If you're getting ACA subsidies, conversion income reduces the amount of subsidy, or can eliminate it if you aren't careful (if the ACA cliff comes back).

RMDs can increase SS taxation, if you aren't already maxed out. They can also put you in a higher IRMAA tier.

Your investment rate of return can matter too, if a tIRA account grows such that RMDs put you into the next tax bracket.

 

[Time2]

But what does that being a "no brainer" mean? Do you always convert more because of that? Unless you find an expiration date on yourself, you don't know how long you'll be MFJ vs single, so how can it be a no brainer? I'd call it a tie breaker.

I'd be happy to see that added in, maybe I'm the one with no brain!

Lots of variables. If you're getting ACA subsidies, conversion income reduces the amount of subsidy, or can eliminate it if you aren't careful (if the ACA cliff comes back).

Lots of variables, takes someone smarter than me to put it together, and maybe even to run it.

RMDs can increase SS taxation, if you aren't already maxed out. They can also put you in a higher IRMAA tier.

Yes.

Your investment rate of return can matter too, if a tIRA account grows such that RMDs put you into the next tax bracket.

I'm afraid that is happening to me, but keep the pain coming!

 

[RetireBy90]

I posted this comment to another thread so if you have seen it forgive me for posting here also.



Our plan is to convert to top of 22% bracket and perhaps into 24% depending on news out of Washington on taxes.

Plan is to figure how much of the TIRA we want to spend or have on-hand and convert that much in the next 6 years. Then with remainder of TIRA we can take small draws each year if desired and use QCD for remaining RMDs. Then when we go the TIRAs will go to charities and Roth and other assets to the kids.

I know, it is arrogant to think we can know what will happen in the future, but we will plan and stay flexible. Our plan doesn't have us taking any from retirement savings when I turn 70, but who knows what may change. I think this is a good compromise between planning and being flexible and able to react. Also lets me think we didn't pay taxes we don't need to.

In other words, plan to meet our needs and make taxes a secondary consideration.


Just one opinion.

 

[ncbill]

Paper makes a lot of assumptions that IMHO don't apply to those already ER or those seeking to ER, like a married couple being in a relatively high federal tax bracket & staying a couple throughout retirement.

E.g. currently only my spouse works but in a low-paying job...thanks to the over-50 catch-up rule for her tax-deferred retirement plan plus the high cost of her employer's health plan there is little in wage income reported on her W-2.

So there's a lot of room for converting my rollover tIRA to Roth in the lowest Federal bracket.

Even counting state income taxes by breaking up the conversion over several years I doubt we'll pay more than 15% (effective) in total.

A nice hedge against future tax rates plus the virtual certainty of me dying much sooner than her during retirement.