Poll-Are You Doing A Roth Conversion?

[TromboneAl]

How'd you manage that? It does seem too good to be true!

Well, for example in 2009 we had essentially no income since we are getting our money from our taxable accounts. We did a $10,000 conversion, and after subtracting a $3,000 HSA contribution, the standard deduction, and exemptions, our taxable income was zero.

I could have converted more for free. This year I will work harder on maximizing it.

The year before I converted $33,000, and still stayed in the 15% marginal bracket.

 

[Stevewc]

I converted one, and plan to convert another this year is tax situation doesn't cause a change of mind.
Steve

 

[Bikerdude]

Do you mean all your non-Roth assets are in tax protected accounts, or do I misunderstand?

Ha

All (non- Roth) invested assets are in traditional IRA's. Maybe I should have said "tax deferred" instead of "protected". Sorry for the confusion.

 

[Moemg]

Well, for example in 2009 we had essentially no income since we are getting our money from our taxable accounts. We did a $10,000 conversion, and after subtracting a $3,000 HSA contribution, the standard deduction, and exemptions, our taxable income was zero.

.

Don't you still have to pay taxes on Capital gains & dividends on your taxable accounts ? So I'm not sure how you got to no income .

 

[haha]

Don't you still have to pay taxes on Capital gains & dividends on your taxable accounts ? So I'm not sure how you got to no income .

I guess not if you have no dividends or net realized gains. I have never understood this method. It seems that a prerequisite is losses.

Ha

 

[harley]

I started last year by doing a conversion up to the $100K limit, but because of a mistake in my AGI number I had to recharacterize. I'm planning to convert again this year, at least up to my 15% bracket. I may go all the way to the top of the 25% bracket. I would still come out ahead, as most of the money was deferred while I was in the 28% or higher bracket. And I don't expect to stay in the 15% bracket for long. Like Al, I'm living on cash, carrying over losses from 2008, my MFs are still not paying out capital gains, and I have a hefty mortgage deduction. If it wasn't for a REIT I get dividends from I could probably be in the 0% bracket too. For a year or two anyway.

 

[haha]

I am older than most of you, so I am staring at MRDs and SS payments as an income booster. Also, I don't believe I have been in a bracket less than 25% for years. It may get lower I suppose, but it more likely will get higher. So my conversions have to be done at 25% but I still think they will pay.

Somewhere on this board there is an eye opening analysis by a Wall Streeter named Maurice. If you can find it, I heartily recommend reading it.

His insight is that for an investor who follows a very tax efficient buy and hold methodology in his taxable acount and who will pay the conversion tax with non-IRA funds, the key comparison is what to do with that proforma conversion tax. Pay it, and do the conversion, or keep it invested. The assumptions are that ROR in all accounts is the same.

If one is less tax efficient in his taxable account, the bar for conversions is lower yet.

As I remember, his findings are that the conversion makes sense if FutureTaxRate>PresentTaxRate(1-FutureCapitalGainsRate). But look it up, and work through the rationale and the algebra. With the spredsheet I made, it is extremely unlikely to come out ahead if you convert at 25%, and your marginal rate should fall to 15%. However, if marginal ordinary rates should fall to 20%, capital gains rates of 20% would be a go, but any lower and it would be better to not convert. If one's marginal ordinary rate stayed at 25%, conversion wins as long as future capital gains rates are above 0%, which I think we can count on.

I have used marginal rates, but actually I believe that the analysis would need to be divided into tranches, or a blended rate created, since if a lot might be converted at 15% but the last bit at 25%, it is more a 15% conversion than a 25%.

Ha

 

[Gone4Good]

As I remember, his findings are that the conversion makes sense if FutureTaxRate>PresentTaxRate(1-FutureCapitalGainsRate). But look it up, and work through the rationale and the algebra. With the spredsheet I made, it is extremely unlikely to come out ahead if you convert at 25%, and your marginal rate should fall to 15%. However, if marginal ordinary rates should fall to 20%, capital gains rates of 20% would be a go, but any lower and it would be better to not convert. If one's marginal ordinary rate stayed at 25%, conversion wins as long as future capital gains rates are above 0%, which I think we can count on.

I agree, when you work the math Roth conversions look like a winner in most instances. The ability to pay the tax bill due on conversion out of after-tax money and increase the tax free amount of money in your tax advantaged accounts makes it an even better deal than the above math suggests.

But this isn't a "risk free" arbitrage, even if future tax rates definitely go up. For older people it is probably a safer bet than for younger people. The chances of having the rules changed on these accounts over the next several decades might be pretty high. And any changes are impossible to predict.

So does it make sense for someone in their 30's and 40's to do a conversion? The math says 'yes.' But in order to play this game you have to pay the government in advance and hope they don't screw you somehow over the next 30-60 years. I have a hard time reading that last sentence without chuckling.

 

[audreyh1]

This year we're still in a high enough tax bracket for it not to make sense. We'll have to see how things shape up next year, but doing a conversion seems like it should be a good idea.

I have to admit, though, that I have a strong aversion to doing something that is going to increase my immediate tax bill and won't yield any benefits for another 30 years or so. 30 years is a long time for things to change on you . . . national sales tax, alien invasion, the rapture, whatever.

That's where I am. Plus I think I can maybe manage redemptions and other income to minimize taxes. Who knows?

Audrey

 

[ERD50]

I was doing them when I could stay in the 15% bracket. Maybe I should continue into the 25% bracket, but I just have not been motivated to do so. At present, due to education credits and whatever credit-du-jour the Feds come up with, I find I have a very, very steep slope between 15% and 25% levels.

Also, DW is still working, so a chunk of her income goes to a Roth 403B and that earned income also allows us to max out our standard Roths, so we are feeding our Roth accounts other ways at present.

Advice: Unless your tax situation is very predictable, convert more than you anticipate and just plan on a conversion after you've done your taxes. I just find too many variables in the tax code to get a good estimate, and the tax programs sometimes are not even available for a SWAG. It is also simpler if you put the conversion in a MM until you figure your re-characterization. Else, you need to also do a pull back of any gains/losses from the time you convert to the time you re-char, and my calculation never seemed to match the Feds exactly. Plus, the value can change from the time you request and the time it transacts. Kinda annoying.

-ERD50

 

[ERD50]

So does it make sense for someone in their 30's and 40's to do a conversion? The math says 'yes.' But in order to play this game you have to pay the government in advance and hope they don't screw you somehow over the next 30-60 years. I have a hard time reading that last sentence without chuckling.

Or crying? -ERD50

 

[TromboneAl]

Don't you still have to pay taxes on Capital gains & dividends on your taxable accounts ? So I'm not sure how you got to no income .

In this case it's because I sold some stock at a loss. Much of our taxable account money is in the S&P 500 index fund, so there aren't a lot of taxable events. Bonds are in the tax-deferred accounts.

 

[skyvue]

I am 43 and it doesn't seem to make sense for me. I expect my taxes in retirement 52 (hopefully) to be much lower than they are right now. I think I will only need 50% of the income I currently make in retirement due to no longer having a mortgage or child support.

 

[ERD50]

I am 43 and it doesn't seem to make sense for me. I expect my taxes in retirement 52 (hopefully) to be much lower than they are right now. I think I will only need 50% of the income I currently make in retirement due to no longer having a mortgage or child support.

Probably not. The opportunity for some of us is that we retired, but are not yet collecting SS and/or pension. So we may be in a lower tax bracket now, and anticipate higher brackets in the future.

-ERD50

 

[Tesaje]

I am 43 and it doesn't seem to make sense for me. I expect my taxes in retirement 52 (hopefully) to be much lower than they are right now. I think I will only need 50% of the income I currently make in retirement due to no longer having a mortgage or child support.

I thought that too, but not so. Now I have this big gain on the deferred accounts that will eventually have to be taxed. I will defer the tax on my conversions to 2011 & 2012 per the special deal this year when my tax rate should go down a step. I might also be moved by then with further state tax savings, but maybe not.

If Roths were available when I opened most of my IRAs, there would have been a substantial tax savings on all the earning over the years. Roths are very good shelters for earnings over the long term. My conversions & Roths are accounts slated to be used last for that reason.

 

[BUM]

Sounds like Trombone Al and I may be in the same good news/bad news situation. I'm officially poor - very little income this year. Good time to move some funds into the Roth tax free.

 

[ejman]

I have not converted and do not plan to do so. I do not want to pay taxes now based on an assumption of what the tax situation may or may not be like 10 years from now (when I would have to start what I call MERDE distributions. Others know them as MRD distributions. I like my pronunciation better). For all I know there will be no income tax then and it will be replaced by one hell of a VAT rate...

 

[harley]

I have not converted and do not plan to do so. I do not want to pay taxes now based on an assumption of what the tax situation may or may not be like 10 years from now (when I would have to start what I call MERDE distributions. Others know them as MRD distributions. I like my pronunciation better). For all I know there will be no income tax then and it will be replaced by one hell of a VAT rate...

Sure, because everyone knows the gov't would never take an opportunity to tax the same money twice. I am willing to bet there will be both an income tax AND a VAT, if anything changes. I will still come out ahead after converting in that case.

 

[haha]

I see that the responses are pretty even over the three categories.

I made a spreadsheet to model my income and conversions over the next 10 years or so. It appears to me that this year only (Due to SS payback) I will have some room in my 15% bracket, which I will use, and I also will use almost all of the 25% this year.

Thereafter, primarily because my RMDs and resumption of SS payments it appears that barring some truly bad luck, and figuring on -0- realized capital gains in my fairly large taxable account, I will always be in a marginal rate >15%, even if no adverse tax changes come about. So at least for a while, I will continue my program of conversions.

Ha

 

[tmm99]

I don't qualify for the Roth IRA, so a few years ago, when I found out I can do a conversion to a Roth IRA, I started contributing my after-tax money to non-deductible IRA's. I also moved all my rollover tax deferred deductible IRA's I had (rolled over from my old employers) into my current 401K so all I have left in my IRA's are after-tax contributions. Last month, I converted the IRA's (only after-tax was left in the IRA's) to a Roth IRA. Because I haven't had much gain due to the market downturn that happend a few years ago, I won't have to pay but a very small amount of taxes on the converted money.

It's only 15K, but still, I can dream that this 15K will snow ball to a huge amount of money by the time I need it - and I won't have to worry about tax consequences.

I guess I can do this conversion (open a non-deductible IRA and convert to Roth IRA) every year until they change the rules?

 

[Stevewc]

Keep in mind that all conversions for this year need to be done by Dec.31, 2010. I just noticed this tidbit while reading an article about the conversions.
I had planned to make some decisions as I had my taxes prepared (after the first of the year) but now I see that want work. That leaves me converting while driving blind in a way.
I can always recharacterize later if I see I need to, that should add to all the fun and confusion.
Oh Well,
Steve

 

[deserat]

It's done for this year - this will be my lowest earning year in which I could do the Roth conversion, so I jumped at it - my IRA didn't have a whole lot in it anyway as I've got mainly 403B, TSP or Roth and After Tax funds - was easier just to do it and have less to worry about - additionally, it becomes one of the 'after tax' buckets I can use during my transition phase to the pensions. I will have enough to worry about with the 403B and TSP withdrawals that I wanted to eliminate the IRA aspect. I do expect to pay some taxes on this conversion - and yes, I worry about what the gubmint could do in the future, however, they could also attack the tax deferred accounts, so who knows? Easier to look at your situation today and see if it makes sense - crystal balls tend to be opaque most of the time.

 

[Stevewc]

Think I'll throw a question in here while we are doing this poll.
I'm sure this has been answered earlier in the year but I don't remember the rule. Guess the memory goes out the window with retirement.
I have one more IRA I plan to convert.
Will I owe taxes on the value the day I convert or the value at the end of the year?
Thanks people,
Steve

 

[nwsteve]

Value is at the date of the conversion. That is why some people recharacterize (reverse) their conversion before filing their return. If the market tanks you can recharacterize and the reconvert at the lower values of the securities following the market tanking
Nwsteve

 

[nwsteve]

Fido recently posted on their site a pretty good discussion and example of dealing with the two year option for paying taxes on conversions. Needless to say, everyone situation is different but this article gives one a good review of the major variables to consider
https://guidance.fidelity.com/viewpoints/two-year-tax-rule
Nwsteve