Question about which account to draw funds from

[FREE866]

I'm 53 now. I currently take money from my taxable brokerage account every year to pay my expenses. I also have an IRA. My plan is to take SS at age 70.



My question is ---would it make sense for the years between the age 59 and 1/2 until 70 to take money out of the IRA to pay expenses as opposed to taking money from the taxable account? The reason I ask is that if I continue to take money , throughout my 60's, from the taxable when I hit 70 my tax rate will shoot up dramatically with the RMD requirement for the IRA and SS.


Thanks

 

[pb4uski]

Yes.

In fact, it might make sense.. if you qualify... to do some in 2020 since they are waiving early withdrawal penalties and get a head start on it.

https://www.forbes.com/advisor/retirement/cares-act-retirement-account-rules-covid-19/

 

[FREE866]

Yes.

In fact, it might make sense to do some in 2020 since they are waiving early withdrawal penalties and get a head start on it.

haha
okay. Yeah, that is what I was thinking. Although I would be reducing the amount of money that would be growing tax deferred every year. Not sure if there is really a way to quantify the benefit of that.
Thanks.

 

[N02L84ER]

Are you doing Roth conversions now?

 

[FREE866]

Yes.

In fact, it might make sense.. if you qualify... to do some in 2020 since they are waiving early withdrawal penalties and get a head start on it.

https://www.forbes.com/advisor/retirement/cares-act-retirement-account-rules-covid-19/

Looks like I would not qualify as these are the requirements:

• Being diagnosed with COVID-19
• Having a spouse or dependent diagnosed with COVID-19
• Experiencing a layoff, furlough, reduction in hours, or inability to work due to COVID-19 or lack of childcare because of COVID-19

 

[FREE866]

Are you doing Roth conversions now?

I am not. I've chosen to keep the money invested and not pay tax now. I know thats a gamble as tax rates could be higher later.

 

[N02L84ER]

The reason to do some Roth conversions now is to fill up the lower tax brackets and smooth out your taxes. For example, if your current marginal tax bracket is 12% but your expected tax bracket at age 70 is over 12%, then you should at least fill up the 12% bracket with Roth conversions.
I retired at age 52 and have been doing 20K to 33K of Roth conversions per year. When I started, I estimated my RMD would start at 40K+ when I am 70 which would make quite a bit of my SS taxable. I plan to continue the conversions through age 70 and I calculate my RMD will only be around 15K when I am 70 thanks to moving all of my equity funds to the Roth first and a lot less of my SS will be taxable. YMMV.

 

[DrRoy]

The reason to do some Roth conversions now is to fill up the lower tax brackets and smooth out your taxes. For example, if your current marginal tax bracket is 12% but your expected tax bracket at age 70 is over 12%, then you should at least fill up the 12% bracket with Roth conversions.
I retired at age 52 and have been doing 20K to 33K of Roth conversions per year. When I started, I estimated my RMD would start at 40K+ when I am 70 which would make quite a bit of my SS taxable. I plan to continue the conversions through age 70 and I calculate my RMD will only be around 15K when I am 70 thanks to moving all of my equity funds to the Roth first and a lot less of my SS will be taxable. YMMV.

+1 I'm similar.

 

[Dtail]

Another possible consideration is if you manage your MAGI for ACA purposes.
Our combined savings is 23k, which for us is a better deal than Roth conversions up until age 65 theoretically.
I am using TIRA funds to fund the portion of expenses which is used for MAGI.

 

[LOL!]

Are you doing Roth conversions now?

Yep, Roth conversions now and in the future while paying expenses including taxes out of taxable accounts with their tax-free return of capital is generally what many folks do. That's what we do.

If we were eligible for ACA tax premium credits, then we would do something slightly different. Either way, we use tax-prep software to plan the amount of taxable income we need to dial in each year.

 

[pb4uski]

Looks like I would not qualify as these are the requirements:

• Being diagnosed with COVID-19
• Having a spouse or dependent diagnosed with COVID-19
• Experiencing a layoff, furlough, reduction in hours, or inability to work due to COVID-19 or lack of childcare because of COVID-19

Yes, thought it might be likely that you didn't which is why I specified.... if you qualify... in post #2

 

[pb4uski]

I am not. I've chosen to keep the money invested and not pay tax now. I know thats a gamble as tax rates could be higher later.

There is more to it than that... once you start SS or any pensions you may be in a higher tax bracket so Roth conversions can make sense even if tax brackets stay the same. Once we ERd our tax bracket was 0% (deductions exceed ordinary income and qualified income is at 0% rate) but once SS starts we will be in the 12% tax bracket.... so I have done Roth conversions for the last 6 years at about 8.5% (a blend of 0%, 10% and 12%)... saving 3.5% plus any future increase in tax rates.

If the tax rate stays the same then keeping the money invested in tax deferred is false savings. Say you have $100k of tax deferred and $20k of taxable, the tax rate is 20% and you earn 7% on your investments. If you convert the $100k to a Roth and pay the $20k in tax after 10 years you have $197k to spend (100*(1+7%)^10). If you don't convert, your $100k tax deferred grows to $197k and your $20k grows to $34k (20*(1+7%*(1-20%))^10) but you owe $39k in tax so you only end up with $192k in your Roth even if tax rates don't change at all.

 

[FREE866]

Thank you everyone for your thoughtful responses. So instead of doing it all at once you're suggesting I do a bit each year?
Can I just transfer out , say , 50K from the IRA into a Roth IRA?
OR do I need to sell in the IRA and then transfer the cash from proceeds into the Roth IRA?

 

[devans0]

Like others, we are also using our free_from_tax space by converting to Roths, and have been doing so every year. We will be 100% Roth before applying for SS.

We still get to pay only minimal taxes, but also are ensuring that we won't have to pay income taxes in the future for our IRAs. Not being hamstrung by RMDs will greatly simplify our life after reaching 70 and give us options for estate planning. Look into it. Your future self could be very be glad you did.

 

[RetireAge50]

I am also 53. When our MFJ income gets to about 36k (from pensions and/or Roth conversions) the marginal taxes start to exceed about 27%. This is a combination of the 12% tax rate and another 15% phase out of ACA credits.

So we stop there and use cash from non-taxed sources.

 

[Animorph]

Thank you everyone for your thoughtful responses. So instead of doing it all at once you're suggesting I do a bit each year?
Can I just transfer out , say , 50K from the IRA into a Roth IRA?
OR do I need to sell in the IRA and then transfer the cash from proceeds into the Roth IRA?

I just transfer shares from one account to another to do Roth conversions at Fidelity. Very easy.

Get a Roth account started to get the 5 year waiting period out of the way.

Keep funding expenses, including the Roth conversion taxes, from your taxable accounts.

Keep an eye on 0% capital gains rate if you qualify. One of many possible reasons to limit Roth conversions. However at your age large Roth conversions are probably worth more than 0% capital gains.

Estimate your taxes with RMD's, SS, pensions, and any other income. Let that guide your decisions.

 

[FREE866]

I just transfer shares from one account to another to do Roth conversions at Fidelity. Very easy.

Get a Roth account started to get the 5 year waiting period out of the way.

Keep funding expenses, including the Roth conversion taxes, from your taxable accounts.

Keep an eye on 0% capital gains rate if you qualify. One of many possible reasons to limit Roth conversions. However at your age large Roth conversions are probably worth more than 0% capital gains.

Estimate your taxes with RMD's, SS, pensions, and any other income. Let that guide your decisions.

Thank you. My accounts are with Schwab so I just opened up a Roth IRA with them, yeah extremely easy. I have no pension so my only income at 70 would be RMD's ( think now they moved age to 72) as well as SS, and dividends from the taxable account.


Can you elaborate on what you mean by:
"Keep an eye on 0% capital gains rate if you qualify. One of many possible reasons to limit Roth conversions. However at your age large Roth conversions are probably worth more than 0% capital gains."

 

[nvestysly]

I'm 53 now. I currently take money from my taxable brokerage account every year to pay my expenses. I also have an IRA. My plan is to take SS at age 70.

My question is ---would it make sense for the years between the age 59 and 1/2 until 70 to take money out of the IRA to pay expenses as opposed to taking money from the taxable account? The reason I ask is that if I continue to take money , throughout my 60's, from the taxable when I hit 70 my tax rate will shoot up dramatically with the RMD requirement for the IRA and SS.

Thanks

I may be repeating a few replies but here are some things to consider...

I used the 72(t) rule of SEPP to withdraw money from my IRA's prior to 59-1/2. My logic was to reduce the money in the IRA's during that time, and to continue withdrawing some money from the IRA's now that I am older than 59-1/2 so I can minimize the RMD impact when I turn 72 (formerly 70-1/2).

If RMD withdrawals at 72 are larger than I need I will distribute money to charities using the Qualified Charitable Distribution methodology in order to minimize taxes.

If there is money in my accounts to be passed on to heirs or charity upon my death it seems to be easier to transfer taxed money than tax deferred money. That's just my opinion and your situation may be different.

I am not using Roth IRA conversions. DW and I currently live on 1/3 of our money from taxable gains, 1/3 from dividends and 1/3 from IRA distributions. We got lucky, this was not planned, but we pay little to zero federal income tax with that mix of money combined with our deductions, exemptions and credits. Roth conversions will clearly put us into a mode of paying federal taxes. I'd rather give the money away now via a donor advised fund or later in life via QCD instead of paying taxes now. YMMV.

 

[FREE866]

If RMD withdrawals at 72 are larger than I need I will distribute money to charities using the Qualified Charitable Distribution methodology in order to minimize taxes.

I'd rather give the money away now via a donor advised fund or later in life via QCD instead of paying taxes now. YMMV.

Yeah, my hesitation for doing a Roth is the sudden tax bill I'll be faced with, but maybe that is justified by having to pay zero taxes on any withdrawals in the future. Mentally I have to process that.

 

[pb4uski]

What tax bracket are you currently in if you do no Roth conversions? What tax bracket do you expect to be in once you are collecting SS and any pensions?

 

[FREE866]

What tax bracket are you currently in if you do no Roth conversions? What tax bracket do you expect to be in once you are collecting SS and any pensions?

12% is my current tax bracket


My estimated yearly social security at age 70 is $38,000. Not collecting any pensions. Actually, I will start getting a very small pension at age 65 of $3500 per year. So at age 70 if tax rates stay the same I will be at 22% tax bracket, although my marginal rate would be less.

 

[pb4uski]

So it sounds like a slam dunk to do Roth conversions to the top of the 0% preferenced tax bracket ($40,000 for a single in 2020.... $125 below the top of the 12% tax bracket for a single). Not sure how much headroom you have there.

If any of your current income is qualified (qualified dividends or LTCG) then Roth conversions above the top of the 0% preferenced would be taxed at 27% to the extent of that preferenced income (12% on the Roth conversion + 15% on qualified income pushed into the 15% qualified income tax bracket)... then 22% once all the qualified income is pushed into the 15% qualified income tax bracket.

 

[FREE866]

So it sounds like a slam dunk to do Roth conversions to the top of the 0% preferenced tax bracket ($40,000 for a single in 2020.... $125 below the top of the 12% tax bracket for a single). Not sure how much headroom you have there.

If any of your current income is qualified (qualified dividends or LTCG) then Roth conversions above the top of the 0% preferenced would be taxed at 37% to the extent of that preferenced income (12% on the Roth conversion + 15% on qualified income pushed into the 15% qualified income tax bracket)... then 22% once all the qualified income is pushed into the 15% qualified income tax bracket.

OK...you're losing me a little with all these numbers lol but thats fine...
I just don't like the idea of currently paying very little taxes ( capital gains on stock sales in my taxable account) to an additional what I think would be a few thousand dollars if I start funneling say 40K every year from my current IRA to a Roth IRA.

 

[pb4uski]

I think you need to look at the rate rather than the nominal amounts. Sure a few thousand vs $0 seems like a lot but another way to look at it is a few thousand of tax on $40k of withdrawals is only 8% or so... I'd rather pay 8% now than 22% later and pocket the 14%.

If you use Turbo Tax you can use the What-If worksheet (or some other tax calculator)... put in your 2020 situation with no Roth conversions. Add in $10k of Roth conversions and note the increase in tax (both $ and %)... increase the Roth conversions to $20k and note the increase in tax (both $ and %)... repeat in $10k increments. You'll get a good feel for the tax that you are paying on the Roth conversions to be able to make a decision. Since you'll be paying 22% later anything less than 22% is a benefit.

 

[N02L84ER]

pb4uski has a typo. 12% + 15% = 27% not 37%