Should I convert?

[garyt]

Looking for info on if I should convert some Traditional IRA to Roth. Here's some info on me.
http://www.early-retirement.org/forums/f28/sub-1m-no-pension-retirement-any-out-there-86132.html

I'm in the 15% tax bracket now and likely will be for the rest of my life, barring getting very lucky where my MRD's could push me higher.
I'm wondering though about taxation of SS benefits and possible healthcare subsidies if those will exist, and Medicare payments.
Would you guys recommend me converting some money to a Roth. We currently have about $200K in a Roth of our total of about $850K. I just turned 60, wife is 57. I'll probably work till 62 but no longer.
I'm thinking of converting $20K the next couple years.

 

[RunningBum]

I'd convert up to the top of the 15% bracket, not pushing any cap gains or dividends into being taxed, especially if you can pay the taxes out of pocket rather than with the conversion money. As you say this could help with reducing taxes on SS and getting subsidies if they still exist. Also, if your portfolio really does well, the gains in the Roth will never be taxed.

 

[pb4uski]

With $800k your first year RMD would be about $29k... if you combine that with your other retirement income would your total income exceed $97,600? If not, your RMDs will be at 15%.

I would not convert while you are still working... it sounds like any conversions would be subject to 15% tax. You can get an idea by using Taxcaster or Turbo Tax and adding $10,000 or $20,000 of hypothetical Roth conversions to your tax return and seeing how the tax changes.

Using 2017 tax brackets, if you use the standard deduction, the first $20,800 will be offset by the standard deduction and personal exemptions (potentially more if you itemize deductions). The next $18,650 will be subject to 10% tax and the next $57,250 would be at 15%.

If you really think that you will be in the 15% tax bracket in retirement then you might convert to the top of the 10% bracket once you retire. You can look at the tax impact of various strategies using TurboTax or Taxcaster.

 

[LOL!]

Yes, I think you should convert. I am converting.

But you should convert not just because of possible tax arbitrage. You should convert because

1. You will learn how to convert and fill out your tax returns for a conversion.

2. Your conversion is not irrevocable. You can aways undo the conversion within a limited timeframe by doing a recharacterization.

3. So you can figure out after the fact whether conversion was good for you or not. And if it was not good for you, then you simply recharacterize to undo the conversion.

I always convert a little more than what I want to, then months later do a partial recharacterization back to get an EXACT number on my Form 1040 that I want for taxable income.

Some investors do two or three conversions at the same time into different Roth IRAs and then recharacterize all but one of them --- the one that makes them the most money.


Recharacterizations - Fairmark.com Fairmark.com

https://www.kitces.com/blog/splitti...investments-for-strategic-recharacterization/

 

[Fedup]

I would do some. In 10 years, if the IRA account triples then you will be happy you did.

 

[Koolau]

I would say, "When in doubt, convert." I've been a fan of Roths since they became available. DO read the Fairmark site and learn about the subtleties. My first approximation for Roths is: Unless the added income triggers something else (e.g., $1 too much can cost you BIG on Medicare premiums or cap gains treatment (IIRC)) then your worst problem might be straying into the next bracket by a few dollars. Not the end of the world AND, as LOL! points out, you CAN fix this. Personally, I never worried too much about it. With my personality, the hassle of recharacterizing back to a tIRA would have been more trouble than it was worth, but that's a personal decision.

Roths have a number of other qualities - e.g., treatment upon transfer at death - I think they are the way to go unless they cost you too much tax money. Reducing the amount on which RMDs will apply is another biggie in my opinion - especially since RMDs may also trigger "bad" stuff with just an extra dollar. You won't know until its too late, so conversion now - even if you screw up slightly may pay dividends you don't even think about now. Naturally DO you own homework because in this case, definitely, YMMV.

 

[retiredunder50]

As many here on the board, I remember years ago when we were encouraged to take advantage of tax-deferred retirement contributions because 'your tax bracket will surely be lower during your retirement years'. Years later, around the times of Roth, we were listening to the new mantra of 'your future retirement tax bracket will most likely be higher so pay today's taxes'. Flash forward to today and we have a very real potential of tax brackets being reduced for many folks. I don't see much discussion or analysis as to the impact of lower future tax brackets when we consider converting to Roths. Shouldn't this be a significant new variable to consider? If not, why?

 

[LOL!]

I don't see much discussion or analysis as to the impact of lower future tax brackets when we consider converting to Roths. Shouldn't this be a significant new variable to consider? If not, why?

Not really. The reason is that many people do not pay income taxes at all. And retirees are a big chunk of those many people. I don't see how one can pay less than zero in taxes unless one has minor children at home and gets the EITC.

If one is paying income taxes, then they probably should look at what went wrong when they retired.

 

[RobbieB]

I pay taxes, but nothing has gone "wrong"

I made a lot of dough last year and what's wrong with that?

 

[2017ish]

...

If one is paying income taxes, then they probably should look at what went wrong when they retired.

?? I don't understand this. Maybe, if one is paying income taxes at a higher rate than that at which deferred accounts were funded.... We definitely will be paying taxes in retirement. Given a do-over, I would still choose to defer from a 40% marginal rate to paying later at no more than a 28% rate... Then again, if our accounts multiply more quickly than we can convert to roths, it wouldn't be all bad to have RMDs putting us at the highest marginal rate!

 

[RunningBum]

As many here on the board, I remember years ago when we were encouraged to take advantage of tax-deferred retirement contributions because 'your tax bracket will surely be lower during your retirement years'. Years later, around the times of Roth, we were listening to the new mantra of 'your future retirement tax bracket will most likely be higher so pay today's taxes'. Flash forward to today and we have a very real potential of tax brackets being reduced for many folks. I don't see much discussion or analysis as to the impact of lower future tax brackets when we consider converting to Roths. Shouldn't this be a significant new variable to consider? If not, why?

The general wisdom is (or should be) to smooth out taxes over time as best you can. For many of us planning or in ER, we pay the highest tax rate while working, a much lower tax rate during ER, then it increases as we get SS, pensions, and start taking that tax deferred income, especially when MRDs kick in.

So, the general strategy is to defer income while working, and then convert as much of that to a Roth during ER to lighten the tax load when that retirement income kicks in.

That's a very general strategy, and there may be better solutions for lower wage earners, as pb4 points out in the 3rd post. It's not a certainty that one should always convert tIRAs to a Roth. You need to run your own scenarios.

Not sure what you are referring to about "lower future tax brackets". At age 55 and ER'd, I don't see my tax bracket going lower when I get my small pension and SS. If anything it could get higher, so I'm trying to convert as much of my tIRA as I can in the 15% bracket, keeping health care subsidies also in mind.

 

[Fedup]

I don't get healthcare subsidies so that's not a problem. But I think my husband and I did pay much higher tax bracket when we were in our peak earning years, at least for 10-12 years. Maybe 38-40%. We paid zero tax this year but once we hit RMD, we will pay some tax. Not sure we will be in 15% tax bracket any more but that's why we want to do some conversion now.

 

[bobandsherry]

Not sure what you are referring to about "lower future tax brackets". At age 55 and ER'd, I don't see my tax bracket going lower when I get my small pension and SS. If anything it could get higher, so I'm trying to convert as much of my tIRA as I can in the 15% bracket, keeping health care subsidies also in mind.

Similar situation as you with being 55 and keeping an eye on taxable income to keep health care subsidies. The potential change in health care legislation makes it an uncertainty of what subsidies might exist and/or income levels.

 

[Animorph]

Do you have any taxable accounts? Without funds to live on and pay the Roth conversion taxes a Roth conversion may not have much benefit for you. In a broad sense a Roth conversion is just a way to add some of that taxable account into your retirement account.

Sounds like you will take your SS when you retire and will be supplementing that with IRA and Roth IRA withdrawals. You want to estimate what your tax situation will look like at that point and when RMD's start. I suspect you will be pretty much in the middle of the current 15% bracket. Not a lot to strategize with there. Be sure you fill the 10% tax bracket every year. If you need to exceed a tax bracket by a reasonable amount, consider withdrawing from the Roth IRA instead of the traditional IRA so that you stay in the 15% bracket. Otherwise, just withdraw from the IRA first and the Roth only as needed.

If you do have taxable funds, consider small Roth conversions within the 15% tax bracket until they are gone. Watch out for the Roth 5 year rules, but you should have plenty in there already that you can draw on if necessary.

You're just trying to minimize the tax on the traditional IRA withdrawals throughout retirement. If it always comes out at 15%, there's not much to worry about.

 

[garyt]

Thanks for the replies. Good points on both sides of the fence. For some reason I thought the 15% tax rate went to $99K for couples. I now see it's $75K. Since we're still working, although cutting back, we won't have much room to convert anyway.
I think I'll cancel my T 401K deduction and put it in a Roth instead.

 

[LOL!]

As far as your taxes go, there is really no difference between

(a) making a traditional 401(k) contribution and converting some tIRA to a Roth
-and-
(b) making a Roth 401(k) contribution.

EXCEPT: (a) allows one to recharacterize the Roth conversion and may allow a better choice of funds for the Roth money so converted. That is, (a) is much more flexible.

 

[2017ish]

... For some reason I thought the 15% tax rate went to $99K for couples. I now see it's $75K.....

99,000 is close. AGI of 96,700 puts you right at 75,900 TI (top of bracket) if you don't itemize. (2 personal exemptions @ $4050 each, and standard deduction of $12,700, if you are both under 65...)

 

[pb4uski]

99,000 is close. AGI of 96,700 puts you right at 75,900 TI (top of bracket) if you don't itemize. (2 personal exemptions @ $4050 each, and standard deduction of $12,700, if you are both under 65...)

+1 Spot on. For 2017 MFJ couple.

 

[capjak]

maybe I-orp.com calculation would help?

 

[Koolau]

As many here on the board, I remember years ago when we were encouraged to take advantage of tax-deferred retirement contributions because 'your tax bracket will surely be lower during your retirement years'. Years later, around the times of Roth, we were listening to the new mantra of 'your future retirement tax bracket will most likely be higher so pay today's taxes'. Flash forward to today and we have a very real potential of tax brackets being reduced for many folks. I don't see much discussion or analysis as to the impact of lower future tax brackets when we consider converting to Roths. Shouldn't this be a significant new variable to consider? If not, why?

I suspect the lack of discussion of potential "tax brackets being reduced..." is due to our complete lack of information on the subject. It may or may not happen and if it happens, we have no idea of the magnitude nor who might be affected. I agree that it should be considered as long as it doesn't cause paralysis as we wait. Personally, my goal is to prevent future RMDs from triggering "gotcha" events (e.g., as mentioned above about Medicare cost increase triggered by the next $1 of taxable income - think it's actually MAGI, but I forget right now.) So at present, my consideration of potential tax reductions is to wait awhile. YMMV