Retirement Tax Planning - Income Optimization?

[RunningBum]

I know you don't want to discuss the break-even point, but for OP, with no concern about heirs, isn't it the ONLY thing to look at?

In our case, since we do not come close to spending our FireCalc SWR, and we DO have an heir we would like to leave it to, as I stated in the post you quoted, both the widow's tax and inheritance taxes COULD drive us to make more aggressive conversions. But it is not compelling.

I can't figure out how to make my point better than what I already tried. Maybe that's just an indication that it's not as absolute for everyone as I think it is. So I'm going to leave it alone.

 

[CardsFan]

It was just an offhand observation. Not terribly meaningful and never intended to start in a discussion. FWIW

OK, then what is driving your thought to make the large conversions? I know the data you presented was only specific to your case, and we cannot assume our data would yield the same recommendation.

Is it the concern (probably real) that tax rates will rise? Is it the 6% (I think this is what you posted) higher final value at age 97? Or maybe that was a 6% higher spend rate for the duration?

I'm just curious if there is something I am missing.

As you have been careful to point out, we all have very specific circumstances and desires, so your data is not really applicable to any of us.

That all said, I have found this discussion to cause me think, again, about increasing conversions. So, thank you for sharing.

 

[Midpack]

OK, then what is driving your thought to make the large conversions? I know the data you presented was only specific to your case, and we cannot assume our data would yield the same recommendation.

Is it the concern (probably real) that tax rates will rise? Is it the 6% (I think this is what you posted) higher final value at age 97? Or maybe that was a 6% higher spend rate for the duration?

It’s all in my posts, but to summarize:

• 24% would be the optimal portfolio ending balance for us, but I’m going with converting to 22%, so I am not going with “large conversions” IMO. If we don’t we’ll be in the 22% bracket from age 72 to the bitter end anyway, conceivably 25 years. We can’t avoid the 22% bracket so might as well optimize within it - paying now vs longer later. And though we don’t save as much in total taxes going with 22% (vs 24%), the loss in portfolio ending balance is surprisingly trivial.
• WRT tax assumptions, all my results are based on inflation adjusted 2017 tax rates beginning in 2026, TCJA until then. In fact, I don’t believe that’s what’ll ultimately happen - rates will be more confiscatory sooner or later IMO. So now is probably a good time to prepay taxes, even more than my results suggest.
• Leaving a reduced tax liability to heirs and charities is nice but not in our top three priorities. However, odds are we won’t die on schedule and one of us will outlive the other, maybe for quite a few years. You can see the bracket impact in my last chart in the last two years. Reducing taxes for the widow is worthwhile to me.

Increasing spending isn’t on our radar, we’re spending more than enough to be comfortable already, and short a financial apocalypse we won’t run out.

 

[Souschef]

I may have missed it in the 9 pages, but if one spouse dies the other obviously has to file as single.
But your income would also be lower. As an example, in our case, we are both getting SS and pensions. One set of these would go away when one spouse dies.

 

[Gumby]

I may have missed it in the 9 pages, but if one spouse dies the other obviously has to file as single.
But your income would also be lower. As an example, in our case, we are both getting SS and pensions. One set of these would go away when one spouse dies.

That depends on how you set it up. The young wife and I chose to have a 100% survivor provision in our pensions.

 

[fishfactory]

Midpack, you state "though we don’t save as much in total taxes going with 22% (vs 24%), the loss in portfolio ending balance is surprisingly trivial." If fed tax rates rise drastically as you and I both predict, won't that result in a much smaller ending portfolio balance ? I realize you do state it is probably good to prepay even more than your results suggest, but it seems if you believe taxes will rise drastically and your big focus is ending portfolio balance, 24% would be a given.Have you modeled "confiscatory" tax rate ending portfolio balance with 22% and 24% ?

 

[Souschef]

That depends on how you set it up. The young wife and I chose to have a 100% survivor provision in our pensions.

In our case, DW is getting her late husband's pension. I opted for no survivor since she has hers

 

[Montecfo]

Good food for thought. We've been converting since 2013 going deep into the 24% bracket the last few years -- IRMAAs be damned for at least my wife who pays Part B premiums. Our plans were to continue this for my wife and empty her tIRA/457 completely into her Roth IRA for the next 3 years before she goes into RMD land. Without any conversions, we'll always be in the 22% bracket (from pensions alone) and once my wife dips into SS at 70, we'll always be in the 24% bracket. Once my wife is done with her conversions, I'll begin the process of converting my 401k and TSP into my Roth (that I was able to fund with a rollover from the Federal/OPM Voluntary Contribution Program).

Our plans have always been to maximize our Roths for legacy purposes. We continue to bite the Federal and State tax burden with these conversions, and will probably still do that even post RMDs. We need a gut check on this and will probably consult with a CFP to see if this continues to make sense for us.

Hi Chris,

Reading your post it sounds like you are saying you are converting into the 24% bracket, but also expect to be in that same bracket later?

I assume then without the conversions you would be in a higher bracket?

Thanks

 

[ChrisC]

Hi Chris,

Reading your post it sounds like you are saying you are converting into the 24% bracket, but also expect to be in that same bracket later?

I assume then without the conversions you would be in a higher bracket?

Thanks

Yes, that’s correct. We also get into the 24% bracket when my wife starts SS at 70 without conversions. My RMDs three years later will keep us there too. If we didn’t convert, and we got decent appreciation in our tIRAs/401k/457/TSP accounts, we would be at the upper end of the 24’% bracket, MFJ, and at the 32’% bracket, for sure, if one of us was filing single later in life.

 

[Midpack]

Midpack, you state "though we don’t save as much in total taxes going with 22% (vs 24%), the loss in portfolio ending balance is surprisingly trivial." If fed tax rates rise drastically as you and I both predict, won't that result in a much smaller ending portfolio balance ? I realize you do state it is probably good to prepay even more than your results suggest, but it seems if you believe taxes will rise drastically and your big focus is ending portfolio balance, 24% would be a given.Have you modeled "confiscatory" tax rate ending portfolio balance with 22% and 24% ?

I don’t disagree but since I can’t calculate anything meaningful, it’s ultimately just a judgement call IMO. Who knows how taxes will change or when, could be tax rates, cap gains rates, changes to Soc Sec, changes to Medicare and/or other. Just as taxes are uncertain, so is (shorter) longevity, real returns, geopolitics, etc. 22% will probably be my target, but still thinking and I can change my mind annually for 5-7 years. This whole exercise is with an axe, not a scalpel.

 

[Carple Tunnal]

This is almost the same game played in deciding to contribute to a 401(k) or IRA in the first place (not counting the company match): based on future tax laws and your future income, will your personal tax rates be higher now or later? In retirement it is primarily the challenge of guessing the future rules, since future income is not hard to get a good handle on, and rate of return or inflation does not have much effect on the trade, assuming the same investments for the tIRA and the Roth.



Remember in 2001 (last time the deficit was under control), married taxable income above about $240,000 in 2019 dollars ($166,500 in 2001 dollars) was taxed at least 36%. Today, up to around $320,000 is taxed at only 24%, which is the lowest it has been since around 1940.

 

[BeachOrCity]

There is a fundamental flaw with this whole exercise.

The “model” is assuming steady state returns and tax rates kind of like FAs used to do back in the 1990s.

But modern retirement planning which we all use now has variable returns either Monte Carlo or Historical.

Since the OP is not concerned with inheritance.....

If your future returns knock it out of the park you can afford the taxes and “who cares”.....

If your future returns “bite it” or even result in a smaller account than today the savings from converting now become less or even reverse.

Given these factors I think converting conservatively up to low tax brackets makes more sense than trying to fully optimize based on a steady state return rate and tax law.

 

[Midpack]

There is a fundamental flaw with this whole exercise.

The “model” is assuming steady state returns and tax rates kind of like FAs used to do back in the 1990s.

But modern retirement planning which we all use now has variable returns either Monte Carlo or Historical.

Since the OP is not concerned with inheritance.....

If your future returns knock it out of the park you can afford the taxes and “who cares”.....

If your future returns “bite it” or even result in a smaller account than today the savings from converting now become less or even reverse.

Given these factors I think converting conservatively up to low tax brackets makes more sense than trying to fully optimize based on a steady state return rate and tax law.

That’s all well and good, but I’d modify your last statement, “low brackets” is conveniently vague. Converting to 12% as I often see here is a no-brainer, but it’s not the best answer for everyone. Determine what bracket you’ll be in from age 70 to the end, and convert to there at least before age 70. Then when future tax rates are presumably (much) higher you’ll be even further ahead. There are way too many unknowns and variables to predict a right answer.

I’m not sure how Monte Carlo or historical help with tax planning, those methods are for primarily for determining acceptable worst case.

 

[googily]

I am doing all my modeling with the assumption that the current tax laws will indeed expire at the end of 2025. So I then see whether my rates will be 15, 25, 28, or 33% (and truthfully, I think they will be higher).

There's also the issue that the bracket income ranges are so different. Right now, a single filer is in the 24% bracket up to $160k of income. But the 25% bracket before the current tax law for a single filer was topped out at only $93kish. It will be really hard to me to escape many years in the 28% bracket if everything just reverts to the previous laws. Which is why I am trying to convert a fair amount even into the 24% bracket.

 

[harley]

Given these factors I think converting conservatively up to low tax brackets makes more sense than trying to fully optimize based on a steady state return rate and tax law.

Converting up to low tax brackets is pretty obvious, but will leave DW and me (or even worse, one or the other of us) in a very high tax bracket come RMD time. I'm 63, and have been converting to the top of the 12%/15% bracket for nearly 10 years. And while I have a nice little chunk in my Roth from the conversions my tIRA balance is significantly higher than when I started. I do have heirs to consider, but even if I didn't I'm pretty comfortable with the math that shows the advantage of converting to the top of the 22% bracket.

Actually I'm sort of hoping for a few years of negative returns which will allow me to convert a larger percentage of my tIRA at a lower tax bite. Now if the economy goes south and stays there I might come out a little behind where I would have been without the conversion, but as long as there's a recovery somewhere down the road during my lifetime I'll be OK.

 

[grasshopper]

This is me convert $100K to roth, gain $200K in account balance. I will never see our balance decline.

 

[Montecfo]

There is a fundamental flaw with this whole exercise.

The “model” is assuming steady state returns and tax rates kind of like FAs used to do back in the 1990s.

But modern retirement planning which we all use now has variable returns either Monte Carlo or Historical.

Since the OP is not concerned with inheritance.....

If your future returns knock it out of the park you can afford the taxes and “who cares”.....

If your future returns “bite it” or even result in a smaller account than today the savings from converting now become less or even reverse.

Given these factors I think converting conservatively up to low tax brackets makes more sense than trying to fully optimize based on a steady state return rate and tax law.

I think this is accurate. I know we all expect accounts to continue to grow, but making a big bet now based on expected future events 10 20 or 30 years down the line is a question. In our lifetimes we have experienced long periods of flat/declining markets, typically tied to interest rate cycle or peak earnings. Right now we have historically low rates and earning plateauing after after a long bull run.

The longer the horizon, the more likely we are to experience growth. But you take RMDs annually. No market timing there.

You would need to do a monte carlo simulation to truly understand your risk, in my view.

I do plan to convert conservatively.

 

[Third Son]

That’s all well and good, but I’d modify your last statement, “low brackets” is conveniently vague. Converting to 12% as I often see here is a no-brainer, but it’s not the best answer for everyone. Determine what bracket you’ll be in from age 70 to the end, and convert to there at least before age 70. Then when future tax rates are presumably (much) higher you’ll be even further ahead. There are way too many unknowns and variables to predict a right answer.

I’m not sure how Monte Carlo or historical help with tax planning, those methods are for primarily for determining acceptable worst case.

Midpack (et al) ;


Thanks for the thread! I am new here but read through the entire thing! I am curious to know where your income stream (money that you actually spend) is coming from? I assume if you are like me and my wife we are looking at $4-6K/ month in retirement. We probably have to convert from tIRA to Roth up to the 24% limit over 10 years. I will be retiring in Feb 2020 at 60 yo.



It seems like a real balancing act to try and limit "income" to the 24% over 10 years (before RMDs). Any suggestions? I have some taxable accounts I could draw off of for a couple of years and some cash in the bank.


PS..glad I stumbled across this site. I am trying to keep it simple

 

[Midpack]

Midpack (et al) ;


Thanks for the thread! I am new here but read through the entire thing! I am curious to know where your income stream (money that you actually spend) is coming from? I assume if you are like me and my wife we are looking at $4-6K/ month in retirement. We probably have to convert from tIRA to Roth up to the 24% limit over 10 years. I will be retiring in Feb 2020 at 60 yo.



It seems like a real balancing act to try and limit "income" to the 24% over 10 years (before RMDs). Any suggestions? I have some taxable accounts I could draw off of for a couple of years and some cash in the bank.


PS..glad I stumbled across this site. I am trying to keep it simple

We have money in taxable, tax deferred (TIRA) and about to start Roth conversions so we'll have tax free. Soc Sec will provide some income later. We don't have pensions, annuities, rental or other sources of income.

I found the Income Strategy software very helpful and ran reports with no Roth Conversions, converting to 12%, 22%, 24% and 32% among other permutations. You can also choose several account order withdrawal schemes. It shows cash flow in great detail until age 96 - so we can see what our tax brackets will be each year under each set of assumptions. And there are several tax rate/bracket assumptions you can choose.

 

[Midpack]

Another graphic view of my situation comparing no Roth conversions, converting to 22% (most likely) and converting to 24%. Though the tax savings are significant - 18% less in taxes converting at 22% and 28% less in taxes converting to 24% - the difference in portfolio ending balance is trivial between the three. I never would have guessed that without the Income Strategy analysis, and supporting data/calcs in incredible detail.

So all else equal converting won't do much to increase our portfolio total value - the original objective. However, it is worthwhile to me because 1) I don't believe for a minute that taxes won't become (significantly) more confiscatory resulting in even larger long run tax savings and some increase in portfolio total value, 2) in the end the more we have in tax free vs tax deferred or taxable, the better for whoever the widow is in our situation, and ultimately for heirs/charities.

It's been a fascinating exercise over the past few weeks, glad I finally found a tool to do all the math I was too lazy to do...

 

[CardsFan]

Another graphic view of my situation comparing no Roth conversions, converting to 22% (most likely) and converting to 24%. Though the tax savings are significant - 18% less in taxes converting at 22% and 28% less in taxes converting to 24% - the difference in portfolio ending balance is trivial between the three. I never would have guessed that without the Income Strategy analysis, and supporting data/calcs in incredible detail.

So all else equal converting won't do much to increase our portfolio total value - the original objective. However, it is worthwhile to me because 1) I don't believe for a minute that taxes won't become (significantly) more confiscatory resulting in even larger long run tax savings and some increase in portfolio total value, 2) in the end the more we have in tax free vs tax deferred or taxable, the better for whoever the widow is in our situation, and ultimately for heirs/charities.

It's been a fascinating exercise over the past few weeks, glad I finally found a tool to do all the math I was too lazy to do...

Thanks again for sharing your journey. It has been quite informative.

Just curious if you intend to leave anything in the tIRA for charitable giving?

 

[Midpack]

Thanks again for sharing your journey. It has been quite informative.

Just curious if you intend to leave anything in the tIRA for charitable giving?

We’re not converting everything, so there will be money in the TIRA at age 70. Then we’ll have 30 years to decide how/where we’ll withdraw so time will tell what’s left on taxable, tax deferred and tax free.

 

[Winemaker]

If you don't mind sharing, Midpack, what percentage of your tax deferred are you converting. While 93% of our portfolio is tax deferred, I have upped my withdrawal amount up to 4%/year, and into the 22% bracket, very close to the 24% line. I have 7 years before SS at 70, but DW will begin hers in 2021. Like you we are doomed to 22-24% taxes from here on out. First world problem, but God has been good to us.

 

[Midpack]

If you don't mind sharing, Midpack, what percentage of your tax deferred are you converting. While 93% of our portfolio is tax deferred, I have upped my withdrawal amount up to 4%/year, and into the 22% bracket, very close to the 24% line. I have 7 years before SS at 70, but DW will begin hers in 2021. Like you we are doomed to 22-24% taxes from here on out. First world problem, but God has been good to us.

Works out to about 2/3rds of mine, then all of DW's (much smaller), she's younger. Brings tax deferred down to an level where RMDs and Soc Sec will pretty much provide all the income we'll want, even dividends and interest will be excess. If we did no Roth conversions, RMD + Soc Sec would be too much and we'd be looking at the 22% bracket for our last 25 years or so. With conversions we avoid 22% for the last 25 years - though I realize those rates/brackets will change. See post #171 for graph summary. First world problems as you say...

 

[SevenUp]

Another graphic view of my situation comparing no Roth conversions, converting to 22% (most likely) and converting to 24%. Though the tax savings are significant - 18% less in taxes converting at 22% and 28% less in taxes converting to 24% - the difference in portfolio ending balance is trivial between the three. I never would have guessed that without the Income Strategy analysis, and supporting data/calcs in incredible detail.

So all else equal converting won't do much to increase our portfolio total value - the original objective. However, it is worthwhile to me because 1) I don't believe for a minute that taxes won't become (significantly) more confiscatory resulting in even larger long run tax savings and some increase in portfolio total value, 2) in the end the more we have in tax free vs tax deferred or taxable, the better for whoever the widow is in our situation, and ultimately for heirs/charities.

It's been a fascinating exercise over the past few weeks, glad I finally found a tool to do all the math I was too lazy to do...

Much appreciate you sharing your exercise!

Hindsight being what it is, and if we haven't outworn our welcome with all these questions...if you now set your ending balance in i-orp to what Income Strategy predicts, how do i-orp's suggested conversions (and tax amounts) compare?