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Juggling for Retirees

Jonathan Clements

WHEN I FIRST LOOKED at the issue of portfolio withdrawals more than two decades ago, many financial experts suggested retirees follow a simple strategy: spend taxable account money first, traditional retirement accounts next and Roth accounts last. That way, you’d squeeze more years of tax-deferred growth out of your traditional retirement accounts, and even more out of your tax-free Roth.

If only things were so simple today.

Why have portfolio withdrawals become more complicated? More than anything, it’s driven by the tax laws. Let’s start by considering four key sources of retirement income.

Taxable accounts. Yes, with a regular taxable account, you have to pay taxes each year on interest, dividends and realized capital gains. But if you need to make a withdrawal from your taxable account, the tax bill may be zero—and, for most folks, the maximum will likely be 15%, and that assumes a zero cost basis. Moreover, if you hold your taxable account investments until death, any embedded capital-gains tax bill disappears.

Traditional retirement accounts. While withdrawals from a taxable account may involve little or no tax, every dollar withdrawn from a traditional retirement account will typically be taxed as ordinary income. Still, each year, you’ll want some income that’s potentially taxable—perhaps as much as $58,575 in 2023 if you’re single and $117,150 if married—so you take advantage of your standard deduction, along with the 10% and 12% federal income-tax brackets. As I see it, exiting an IRA at those tax rates is a bargain.

On top of that, if you have hefty itemized deductions later in retirement thanks to, say, large medical costs, you can set your deductions against your retirement account withdrawals, potentially paying little or no taxes on those withdrawals.

Another consideration: charitable giving. Even if your IRA is on the hefty side, that might not be such a problem if you plan to make qualified charitable distributions once you reach age 70½. You might also opt to bequeath what’s left of your traditional IRA to charity, thus saving your heirs from the embedded income-tax bill and instead leaving them your Roth accounts. The bottom line: Having a healthy balance in a traditional IRA or 401(k) isn’t necessarily a tax nightmare.

Roth accounts. These offer the chance for tax-free growth, don’t necessitate required minimum distributions like traditional retirement accounts, and still make a great inheritance even though most heirs now have to empty retirement accounts within 10 years. But there’s a cost to be paid today: Getting money into a Roth means paying income taxes either on the wages contributed or on money converted from traditional retirement accounts.

Social Security. In addition to the key benefits—lifetime inflation-adjusted income with a possible survivor benefit for your spouse—Social Security has another virtue: At most, just 85% of your benefit will be taxable and it could be far less. Whatever the tax rate, it’ll be lower than that levied on your traditional retirement accounts.

To get the largest possible monthly check, many folks postpone Social Security until as late as age 70, especially if they were the family’s main breadwinner. Problem is, from a tax perspective, delaying Social Security clashes with the notion of delaying traditional retirement account withdrawals.

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How so? Once folks start required minimum distributions in their early 70s from their often-bloated traditional retirement accounts, not only are those withdrawals sometimes taxed at a steep rate, but also all that income often means that even more of their Social Security benefit is taxable—a phenomenon known as the tax torpedo. In other words, postponing all retirement account withdrawals until your 70s can trigger a double tax whammy, because it can also mean that up to 85% of your Social Security benefit is also taxed.

What to do? Today, retirees are often advised to start drawing down their traditional IRAs and 401(k)s in their 60s or to convert a portion of their IRA to a Roth. But in this “it’s never simple” tax world, that has two other knock-on effects.

Health insurance premium tax credit. If you retire before age 65, and hence you aren’t yet eligible for Medicare, one of the biggest potential costs is health insurance. But if you purchase coverage through a health-care exchange, and your household modified adjusted gross income is no more than four times the federal poverty level, you should receive a tax subsidy. In 2023, that would usually put the cutoff at $54,360 for single individuals and $73,240 for couples, assuming there are no kids at home. But thanks to 2022 legislation, these thresholds will be substantially higher through 2025. To see whether you might qualify, try this calculator.

The lower your income, the larger the tax credit—potentially more than $9,000 per person per year where I live. Result? If your goal is to get a large tax subsidy, you’d want to avoid, say, converting to a Roth or realizing stock market capital gains.

IRMAA. Limiting your income can also be the key to avoiding the Medicare premium surcharges known as IRMAA, short for income-related monthly adjustment amount. In 2023, these surcharges apply to single individuals with modified adjusted gross incomes of $97,000 and above and couples with incomes of $194,000 and above.

At these income levels, the surcharges for Medicare Part B and Part D are equal to roughly 1% of income—something to be avoided, if possible, but hardly a devastating financial hit. The income that’s assessed is that from two years earlier, which means high-income folks need to start worrying about these surcharges in the year they turn age 63.

How do you navigate your way through this thicket of tax considerations? There’s no one-size-fits-all answer.

My plan is to do hefty annual Roth conversions through at least age 62 and possibly for a few years beyond that, with the goal of avoiding much bigger tax bills in my 70s, when I’ll have to take required minimum withdrawals from my traditional IRA. My earned income is still sufficiently high that it would be tough to qualify for the health insurance tax credit, so I’m not worrying about that.

I’m also not too worried about IRMAA. The Medicare premium surcharges I might trigger look far less punitive than the higher income-tax rates I could face in my 70s if I didn’t undertake some hefty Roth conversions. That said, because IRMAA is a cliff penalty—meaning $1 over the various thresholds triggers the full charge for the year—I’ll keep an eye on those thresholds once I reach age 63 and I’ll look to limit my income if I’m likely to be close to the next threshold.

While the above strategy should work out okay for my situation, I could easily imagine a scenario where folks, instead of deliberately generating extra taxable income in their early 60s, might want to minimize it, so they qualify for the health insurance tax credit. This would be a double tax win—both avoiding income taxes and collecting the credit.

How would you pay for living expenses during this stretch? That’s where a handsome taxable account balance would come in handy. Once you reach 65 and start Medicare, you might then look at drawing down your IRA or converting a portion to a Roth, assuming you fear punishing tax bills from required minimum distributions in your 70s and beyond.

Where does that leave us? At the risk of oversimplifying, here are four suggestions:

  • Don’t worry too much about IRMAA. As I noted above, the potential hit is just 1% of income, though it’s worth keeping tabs on where you stand relative to IRMAA’s various income cliffs.
  • If you retire before age 65 and your regular income is minimal, consider whether you should avoid realizing additional taxable income so you maximize your health insurance tax credit.
  • If you aren’t looking to collect the health insurance tax credit, or once you’re covered by Medicare, aim to stay in the same marginal tax bracket throughout retirement. This can be a real juggling act. As you look to supplement Social Security—whenever you claim it—and any pension you’re entitled to, you’ll want to carefully consider each year’s mix of withdrawals from Roth, taxable and traditional retirement accounts, and what the tax cost of each will be.
  • Got a seven-figure 401(k) or IRA and you don’t plan to claim Social Security until close to age 70? In your 60s, you may want to make large Roth conversions and perhaps also draw on your traditional retirement accounts for spending money, while leaving Roth and taxable account money for later in retirement. If you don’t take steps to shrink your traditional retirement accounts in your 60s, your 70s and beyond may be especially taxing once required minimum distributions kick in.

Jonathan Clements is the founder and editor of HumbleDollar. Follow him on Twitter @ClementsMoney and on Facebook, and check out his earlier articles.

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Sally Brennand
Sally Brennand
8 days ago

Another fan from WSJ days. Have been considering all these issues, but somehow overlooked my state’s estate tax?! Community property state so never worried about spouse’s large Roth but it is a problem now. Getting premium tax credits for next four years so had planned to spend down his inherited cash. Instead transferring his inheritance to my name, investing it in EFTs (to avoid capital gains) and spending out of his Roth. It is a complex world.

Last edited 8 days ago by Sally Brennand
Rick Francolini
Rick Francolini
9 days ago

Ugh…mind numbing. This – from my hero – the creator of the “elegant two index-fund portfolio”?

Have you got a dummied down solution to suggest for… “dummies”? Thanks Jonathan…

Jonathan Clements
Admin
Jonathan Clements
9 days ago

This is one, alas, that defies simplification. The best I can do is point you to the final four bullet points of the above article.

johny
johny
9 days ago

Jonathan, I wonder if ACA subsidies could be on the chopping block as the parties face off on the debt limit.

Last edited 9 days ago by johny
John Wood
John Wood
9 days ago

Thanks for the article, Jonathan.

Like IRMAA, I don’t think Humble Dollar Nation needs to focus on the Social Security tax either. According to the Social Security Administration, the 85%-of-benefits tax triggers at $34,000 of individual annual income, and $44,000 of couple income, so I think there’s little that most citizens of HDN can do about that one.

To your strategies for generating income before the RMDs set in, one other option that came to mind is the Qualified Immediate Annuity (QIA), which would seem to work nicely in a couple of ways.

I ran a quick estimate on one of the online calculators and, currently, a $500,000 Joint-and-Survivor QIA for a 65-year old couple – with a cash refund feature, to ensure that the couple, or their heirs, receive at least $500k in payments — would produce (a month after the purchase) approximately $2,584 of monthly income ($31,008 annually) until the last of the couple dies, with the payments equaling a 6.2% payout yield (i.e. $31,008 annually divided by the $500k deposit).

Because it’s a Qualified IA, the transfer of the $500,000 from the IRA or 401k account to the immediate annuity would not be taxable (i.e. it would be treated essentially like Rollover IRA transfer), and the taxes would be paid only on the income payments as they were received each year.

In addition, this $500,000 transfer would reduce the retirement accounts that will be subject to RMDs in one’s 70’s, mitigating that tax issue for those with large IRA/401k retirement balances.

Guaranteed income for life (with a refund of the undistributed deposit if you die too soon), taxes paid only as the annuity payments are received, and the ability to transfer a large amount out of the “RMD-impacted” accounts with no big upfront tax hit — seems like a QIA would also be a worthy arrow in the financial quiver.

Jonathan Clements
Admin
Jonathan Clements
9 days ago
Reply to  John Wood

Does the deferred income annuity really help with taxes in your 70s and beyond? I may not have thought this through properly, but it strikes me that the taxable income from the DIA would likely be greater than the taxable RMD from the same sum still sitting in an IRA.

John Wood
John Wood
8 days ago

This wouldn’t be a deferred annuity, but an immediate annuity (i.e. transfer it from an IRA/401k into the immediate annuity and the monthly payments starts flowing a month after the transfer). It would address the “income in your 60’s” objective that you mentioned, while reducing the RMD’s in one’s 70’s by removing a large chunk of the IRA/401k assets from the RMD calculation. The monthly payments would be subject to ordinary income taxes, but you can avoid the big tax hit of a Roth Conversion. It also helps with the sequence-of-returns risk, because the income stream is guaranteed for life, so there’s not a need to liquidate assets each year to generate income to live on.

Jonathan Clements
Admin
Jonathan Clements
8 days ago
Reply to  John Wood

Thanks for the clarification. I’m a fan of both immediate and deferred income annuities for two of the reasons you mention — sequence-of-return risk and lifetime income. But I’m not convinced it would help with the tax issue because of the reason I earlier stated: The income from the annuity would likely be greater than the RMD for the same sum. But that, of course, highlights a key reason to annuitize — it gives you more income than a typical withdrawal strategy.

Andrew Forsythe
Andrew Forsythe
10 days ago

Jonathan, thank you for such a clear and concise article.

It is astounding that the subject is so complex. On the other hand, many of these issues fall into the category of “nice problems to have”, so I guess I won’t complain too much.

1silverloon
1silverloon
10 days ago

Jonathan, another excellent article that covers everything we need to consider as we strategize the future and navigate our way through the constantly-changing-tax-legislation gauntlet. We recently retired at 60 and over the next several years, we will be withdrawing/spending and also Roth converting the tax deferred accounts to fill up the lower income tax brackets so that we have more balance in taxable, tax free and tax deferred accounts before social security starts at 67 and 70. Thank you for all that you do to keep us informed with your perfectly-clear, straight-shooting, no-nonsense advice.

Arnold Hold
Arnold Hold
10 days ago

Good to see a reasonable view on IRMAA Medicare taxes considering the number of dire warning articles littering the internet about this topic. IRMAA is irritating, and you just deal with it and it can change each year…nothing that will give you sleepless nights if you’re tagged by it.

AnthonyClan
AnthonyClan
10 days ago

The Roth advice does not consider that one might want to withdraw Roth funds early in retirement so as to avoid going into the next tax bracket. In this case some Roth funds should be in conservative investments.
If one is overfunded for retirement and will likely never spend it, then yes, invest it aggressively.

DrLefty
DrLefty
10 days ago

Spouse and I are 62, both still working. High income/high tax bracket. 7 figure retirement accounts. Planning to retire in 2025 or 2026. Question: Should we stop contributing to retirement accounts, which we both fully fund right now? Or just contribute to my spouse’s company match, pay taxes, and put what’s left into taxable accounts?

I know that our deferred comp is overfunded and will be a problem in the future (which now has moved to age 75). At the same time, paying the taxes now without those above-the-line deductions is hard to get my mind around. How do I calculate this?

Jonathan Clements
Admin
Jonathan Clements
10 days ago
Reply to  DrLefty

If there isn’t a Roth option, I’d think hard about bypassing tax-deductible contributions, unless you’re sure you’ll be in a higher tax bracket later on:

https://humbledollar.com/money-guide/how-to-think-about-that-tax-deduction/

David Lancaster
David Lancaster
10 days ago

Jonathan,

I am so glad that you write not to worry about IRMAA, “as the potential hit is only 1% of income”. I have commented on several previous posts that per the government those who pay this surcharge are in the top 10 percent of retirement income, and as a result you should feel blessed to be so fortunate!

J. Scott Pettet
J. Scott Pettet
10 days ago

I echo the comments about this being a great article. It is very helpful to have this summary outline of the key factors to consider about a taxation strategy for plan withdrawals. Many thanks to Jonathan for writing it.

Edwin Belen
Edwin Belen
10 days ago

Such a great article. Covers a lot in not too many words. Also supports my current philosophy of stopping pre-tax contributions for Roth. At my age, pre-tax will continue to grow and will be what I use when I retire at 55 or 60. I’ll defer pensions and social security as long as possible.

Olin
Olin
10 days ago

Enjoyed the article! Wish I was in a position to use these planning methods15 years ago, but I was cash poor to do any Roth conversions. It seems that those who can do Roth conversions are not an average wage earner.

Jon Daley
Jon Daley
10 days ago
Reply to  Olin

I’m not sure if you are saying you were withdrawing from your retirement accounts so couldn’t afford to withdraw more (though I’m not really sure that’s a thing).

Converting at low income levels is exactly when you should do it. I didn’t know about that at the time, but when my self-employment income was low in the early years, I could have converted my IRA to a Roth and could have avoided a bunch of taxes of converting at higher levels.

Kevin Madden
Kevin Madden
10 days ago

Thanks for the timely and informative article, Jonathan! I am 63, retired for one year, and currently playing this income/tax optimization game.

One more point about IRMAA. WHEN your birthday (and your spouse’s if married) occurs in the year you turn 63 is a consideration. We maximized Roth conversions last year because both our birthdays are late in the year, so the IRMAA surcharge will only apply for a short period when we turn 65 and join Medicare late in 2024.

We are minimizing income this year and next now that COBRA is running out and we bought a plan from the healthcare exchange, planning to maximize the premium tax credit. And avoiding IRMAA surcharge in 2025 and 2026. Crazy!

Sonja Haggert
Sonja Haggert
10 days ago

Such an important article, especially for future retirees.

Dan Healy
Dan Healy
10 days ago

Jonathan,
I was surprised when I looked at IRMAA surcharges after I am gone. My goal is to smooth our withdrawals over our lifetimes. Say this comes out to $185,000 per year. This keeps us just below the IRMAA threshold. But when one of us is gone, It looks to me like the IRMAA surcharge for an individual with $185,000 is an extra $430 per month for Part B Part D together.

Last edited 10 days ago by Dan Healy
Jon Daley
Jon Daley
10 days ago
Reply to  Dan Healy

I don’t know about IRMAA, but I had not considered a widow’s tax bracket being higher than MFJ until just recently when someone mentioned it here or in the Reddit financial groups.

John Yeigh
John Yeigh
9 days ago
Reply to  Jon Daley

Jon, here’s one of several Humble Dollar articles on the so called “widow’s tax” impact to our retirement distributions
https://humbledollar.com/2019/12/death-and-taxes/

Dan Healy
Dan Healy
7 days ago
Reply to  John Yeigh

Thanks John! This is a great article, addressing my biggest concern in retirement planning.

Last edited 7 days ago by Dan Healy
Jon Carlson
Jon Carlson
10 days ago

Excellent article and comments. As a DIY, to my younger self, I would say diversification is more than about your asset allocation but also your account allocation. In my 60’s, I find this article and comments spot on in discussing the interplay between accounts, taxes, estate planning, gifting, Medicare, social security claiming strategies, and more. It isn’t still simple, or a one size fits answer, but articles and comments like this show it is definitely possible to come up with reasonable decisions. I use my tax advisor as a resource and sounding board in analyzing the various trade offs in my own situation.

Kenneth Tobin
Kenneth Tobin
10 days ago

As a retired dentist buying private dental insurance is just not worth it as you have to use providers of that plan and the payments are too low for the dentist to be profitable with the high fees nowadays; especially for any implant dentistry.

Kenneth Tobin
Kenneth Tobin
10 days ago

At retirement or really a few years before, the most important issue is SORR; SEQUENCE OF RETURNS RISK. If you are not aware of it do your research or you might be going back to work or worse

tshort
tshort
10 days ago

Great summary of one of the most complex problems in all of personal finance: retirement decumulation. This has been a fixation of mine for the last four or five years, compelling me to research every facet of it to death.

My conclusion after reading this thread and comments is, only half tongue in cheek: If our government made it easier to be poor, I wonder whether people like me would mind paying more in taxes so we didn’t haven to deal with IRMAA and her buddies, ROTH and IRA.
🫣
For those of you who are seeking to optimize your tax bill and timing of withdrawals from various types of accounts, there are some powerful calculator/spreadsheets available desiged for that specific purpose. Pralana Gold is one I’ve tried in both free and paid versions. Complex to get started with, it looks at state-specific tax consequences of ROTH conversions, among other things.

William Perry
William Perry
10 days ago

I am part of the 5% of males who waited until age 70 to claim social security benefits on my own work record. I made a high middle class income until I stopped working in 2022 at age 72. My wife and I both opened a Roth IRA more than 5 years ago to start the clock on making any earnings on the Roth investments tax free for our Roth contributions. I know that there is a separate 5 year period for each year Roth conversion, a potential trap for those who are unaware. We plan to convert our tax deferred accounts to Roths over our remaining life at zero or low marginal tax rates. Our adult kids are currently unable to max out their retirement accounts. If they end up inheriting any balance in our traditional deferred accounts they can choose to up their own retirement contributions and replace that cash flow with taxable distributions from the inherited accounts over a 10 year period or they can pay the tax.

We do not currently have a marginal tax bracket available for the 10% & 12% federal brackets as we fall in the taxable income range where each dollar of ordinary income causes 85% of a dollar of our social security benefits to be taxable. The current first two income tax brackets have an effective marginal tax of 18.5% and 22.2% for us. One more consideration in planning for deferred income withdraws and future conversions to Roth. I use the free online AARP tax calculator to help me make tax decisions on withdraw and conversions.

Thanks for the timely HD article.

I placed my order this morning for your new book, My Money Journey, from Harriman House in the UK. I am looking forward to reading it and consider it a bargain at US $20.99 including shipping with the HD discount you noted in today’s newsletter.

Jonathan Clements
Admin
Jonathan Clements
10 days ago
Reply to  William Perry

Thanks for buying the book!

Boomerst3
Boomerst3
10 days ago

Just curious. How do you plane to convert to Roths now at 0 to marginal rates? I assume you will have SS income on top of that.

William Perry
William Perry
10 days ago
Reply to  Boomerst3

Boomerst3, assuming the question is for me and not JC.

I have a low cost of living and a high social security benefit that covers our financial needs and some of the wants. So the currently high MFJ standard deduction and the large portion of my SS benefit that is not taxed when I suppress taking distributions above our RMDs means that I have sufficient cash income but I choose the level of my taxable income with Roth conversions and other available opportunities, example I-bonds interest deferral. I always want to have some taxable income so I am not wasting the usable Roth conversion amount that I can convert with no or low tax. This plan would not work for many high taxable income persons and/or those with large retirement account balances requiring big taxable RMDs.
Also, my wife and I are unable to buy long term care insurance because of preexisting medical conditions and therefore think future taxable traditional retirement money may be needed for possible tax deductible skilled nursing care costs or if unused it would be inherited by family. In the meantime I convert to a Roth at no or low tax cost based on current tax law in the year of conversion and my own life events in that year. Congress may screw up my financial plan and I am at peace that world events are beyond my control. Death is a certainty and I am trying to limit taxes I can legally avoid with good tax planning and actions.

I hope this helps.
Best, Bill

Boomerst3
Boomerst3
10 days ago
Reply to  William Perry

Thanks. I have a 7 figure IRA and high SS (my wife and I) so I was curious to see if there was a way to do Roth conversions as well. I don’t have to withdraw yet due to the new changes and have used a QCD to my college for gifting. Trying to avoid IRMAA also. Thanks again

William Perry
William Perry
10 days ago
Reply to  Boomerst3

Additional thought – Secure 2.0 raised the maximum you can elect to put in a qualified annuity (QLAC). These annuities allow you to temporarily reduce your required minimum distributions (RMDs) and maybe IRMMA additional premiums when you follow specific IRS guidelines. A highly rated insurance company would be a must for me if I were to go this route.
James McGlynn wrote a comprehensive HD post on this topic https://humbledollar.com/2021/03/a-less-risky-life/

Charles Ellison
Charles Ellison
10 days ago

Thanks for the timley article. I will be 63 in June in my wife will be 63 in November. I have been retired for 5 years, and my wife will finally retire June 1 of this year. We will be able to use my old employers medical credits to bridge us for 2 years to get us to Medicare/65. We would loose our dental and vision when she retires. Do you have any thoughts on how we can get some level of coverage for each “reasonably”?

Jonathan Clements
Admin
Jonathan Clements
10 days ago

At age 60, I buy a separate policy to cover dental and vision that costs me $34 or so per month. But to be honest, I’m not sure what the pricing would look like at age 65 or how good the coverage would be.

R Quinn
R Quinn
10 days ago

I can tell you. Last year i dropped dental coverage. It’s not worth it. Most policies cover the basics and preventative not the expensive stuff. and while they may show annual limit of say $1500, the individual procedure limits mean it’s impossible for most people to teach the total. Year after year its almost always better to self insure.

Stacey Miller
Stacey Miller
9 days ago
Reply to  R Quinn

Visiting the dentist only every 12-18 months, rather than twice a year, will also save some $. I used to lie to my dentist that I might be pregnant, so skip the xrays. Unfortunately, I can’t use that line anymore!

Purple Rain
Purple Rain
10 days ago

This is such a great post. Thank you.

Martin McCue
Martin McCue
10 days ago

One reference point that I didn’t really think about early in my retirement planning was the fact that the very first dollar you have to withdraw each year is taxed at the highest rate that applies to the rest of your taxable income. Single with the taxable income just under $89K that merits a 22% rate? Well, the first dollars you withdraw will almost immediately push you into the 24% rate and you’ll pay that rate for every withdrawal dollar. Same for the lucky single with taxable income at the $170K level. He or she will jump from 24% to 32% for essentially every dollar that is withdrawn because he or she will move into that rarefied air at $170,050. There is no averaging when it comes to withdrawals – plan to pay the highest rate applicable for every dollar once your taxable income is calculated. Capital gains rates may saw off some of this impact, but only part of it. That is why advance planning can be very valuable.

Last edited 10 days ago by Martin McCue
Rob C
Rob C
10 days ago

Thanks for unpacking a complicated issue. I too have started to spreadsheet my future years to avoid getting boxed into a tax penalty and giving back hard earned savings. My current spreadsheet shows me contributing to a taxable accounts from 53-56 ( currently in a 24% tax bracket), retire early in my mid 50’s drop down to a 12% tax bracket – do Roth conversions up to a 22% tax bracket until SS kicks in. I loose the income from mid 50’s on but my ultimate goal is to retire early , my second goal is to optimize taxes in retirement( avoid torpedo tax, not have RMD pushing me when I don’t financially need to withdraw funds only to trigger taxes, and ultimately leaving generational wealth if possible to family tax free). All worthly goals – a seven figure IRA makes it possible, I have maxed out contributions for 30 years. I wish it was not so complicated but what it is is what it is, worth optimizing- thanks for the timely article. In my case these tax rules point to early retirement to avoid overpaying later in life. Some might say I am dodging taxes – I would argue I am avoiding double taxation on money I have previously saved by working hard and living below my means.

Jon Daley
Jon Daley
10 days ago
Reply to  Rob C

Sounds interesting. Can you share that spreadsheet?

AmeliaRose
AmeliaRose
10 days ago

Thanks for another excellent post. I always enjoy the thoughtful comments, too. 
I converted a traditional IRA to a Roth in the 2008 downturn, but somehow I had never heard of IRMAA although I was a frequent reader of financial blogs, so I was surprised by the large premium when I enrolled in Medicare.

Martymac
Martymac
10 days ago

Excellent advice. I’m going to save this article and print it! I’ll be 60 and all these things you are talking about, have an impact on our situation. I quit my job last January and probably will never go back full time, so healthcare, IRA withdrawal and income for living, are all items I’m trying to figure out how to manage.

Tad Smith
Tad Smith
10 days ago

Excellent. Thank you. As a health insurance broker I want your readers to understand that the subsidies (tax credits) are quite a bit higher now than you indicated due to the American Rescue Plan Act of 2021, and recently reaffirmed through 2025 within the Inflation Reduction Act. Depending on their zip code, a couple in their late 50’s or early 60’s can now qualify for a tax credit with household modified adjusted gross income as high as $300,000. Sometimes more… This has been a great assist for many of my self employed clients as well as “early” retirees. In Colorado, for example, a couple — both age 63 — living in Denver will qualify for a tax credit with MAGI of less than $215,000; whereas if they are living in Vail, the tax credit ceiling will be $315,000. If one member of the married couple is already on Medicare, the tax credit threshold is about half of the above totals. These will vary across the US depending on the cost of health insurance in a given state and a given zip code within regions of each state.

Jonathan Clements
Admin
Jonathan Clements
10 days ago
Reply to  Tad Smith

Thanks for the info. I must confess, I missed the extension of the wider subsidy availability. I’ve now updated the story to reflect 2022’s legislation. Those who buy their own health insurance might try this calculator:

https://www.kff.org/interactive/subsidy-calculator/

Last edited 10 days ago by Jonathan Clements
Kenneth Tobin
Kenneth Tobin
10 days ago

Tax rates will never be lower. An effective tax rate on around 400k in a tax free state will be around 20-22%. James Lange almost always feels Roth Conversions are a WIN WIN. What happens with rates in 2026 no one really knows but it depends who controls Congress

SCao
SCao
10 days ago

Nice article on this complicated topic, Jonathan. I am going to PDF this article, and will review it when I hit about 58 years old (still 17 years to go.). Hopefully tax law will not be too dramitically changed by then. Thank you, sir.

R Quinn
R Quinn
10 days ago

Isn’t it ironic that politicians who claim to be so concerned about Americans saving for retirement and living in retirement create such a maze of tax laws for the average person to travel and with constant changes during the journey?

Should the financial journey to retirement require experts to help figure it out?

Stacey Miller
Stacey Miller
9 days ago
Reply to  R Quinn

I think our audience here is not the average American, unfortunately.
It’s a good day when I can chat with someone in my circle who:
1. Has savings
2. Has it in an online account, earning more than .1% brick & mortar bank
3. Owns stocks
4. Particpates/owns a tax-deferred account

Times are tough for many people & coupled with being financially illiterate, does not bode well for a likable retirement. I informally coach & nudge all who have ears!

Blue Collar RE
Blue Collar RE
10 days ago
Reply to  R Quinn

I think that’s part of so-called full employment program of the financial / retirement industry./ S

M Plate
M Plate
10 days ago

Thank you for the solid information and strategies.

The future may hold higher taxes caused by the spending spree in Washington. There seems to be a populist narrative that all of us prudent investors are rich villains of some sort. I surely hope that sentiment doesn’t translate into the Roth becoming taxable.

All we can do now is base planning on today’s tax laws. For me that means doing Roth conversions until I’m eligible for Medicare.

David Kirschner
David Kirschner
10 days ago

Very good article, thank you. We both retired last year, just prior to 65 and 64 and are navigating through these steps. We opted for low taxable income in year 1 to preserve premium tax credit and will likely move to fill the 12% bracket going forward, we’ll see. Although well publicized, I can speak from first hand experience that completing the SSA-44 form, “life changing event”(retired), eliminated the IRMAA premium charge for Medicare with little fanfare. So, if you’re planning to work up to age 65 and concerned about IRMAA, based on my experience, you needn’t worry.

parkslope
parkslope
10 days ago

A life-changing event only has the potential to reduce or eliminate your IRMAA premium for a single year (2 years after the event), so the need to worry about IRMAA is not eliminated unless your retirement income is below the first IRMAA threshold. In our case, SSA-44 was especially helpful because we had large capital gains from the sale of our house the year we retired.

Jonathan Clements
Admin
Jonathan Clements
10 days ago

Yes, it seems the Social Security Administration will happily disregard prior employment earnings, assuming you’ve since stopped working. But I’ve never heard of the SSA disregarding prior realized capital gains from investments or prior Roth conversions, so folks should expect those to potentially trigger IRMAA.

Last edited 10 days ago by Jonathan Clements
Marla Mccune
Marla Mccune
10 days ago

In my case my Medicare premium doubled due to capital gains from 2 years ago.This year our income is much lower in order for my husband to get ACA medical coverage so the IRMAA penalty is definitely more than 1% of our current income. To reduce income I reverted to maxing out my deferred tax 403B for the next couple of years instead of my Roth option. I will resume Roth conversions hopefully when my husband reaches 65 and gets on medicare too. I have appealed the premium decision based on a life changing event but have had no response. IRMAA sounds and acts like a persnickety old Aunt!

louis H
louis H
10 days ago

Thanks Johnathan for writing the article. I’ll add one more item to the retiree’s grocery tax list as food for thought for Roth conversions. If you’re married and your spouse dies, there’s a double whammy for the the surviving’s spouses IRA withdrawals. First, there’s the Increased taxes paid on future RMDs since the surviving spouse moves from the MFJ to single status. Secondly, depending on the age difference between the 2 spouses, may accelerate future RMD withdrawal% significantly. The difference between the Surviving Spouse vs Married RMD schedule is almost double once the surviving spouse exceeds 80yo.

johny
johny
10 days ago
Reply to  louis H

could you clarify this: “Secondly, depending on the age difference between the 2 spouses, may accelerate future RMD withdrawal% significantly. The difference between the Surviving Spouse vs Married RMD schedule is almost double once the surviving spouse exceeds 80yo”? Spouse is 5 years younger and was wondering what this means to us. An example would be appreciated.

Jim Burrows
Jim Burrows
10 days ago
Reply to  johny

Johny,
The shift from using the Joint Life and Last Survivor Expectancy table to the Single Life Expectancy table in Pub 590 is only an issue if the an IRA owners has a spouse more than 10 years younger who is the sole beneficiaries of their IRA. Doesn’t look like you have that issue.

Last edited 10 days ago by Jim Burrows
John Yeigh
John Yeigh
10 days ago

Great post. I might add: Already got a seven-figure 401(k) or IRA and still working, lighten up on further contributions after contributing to capture the company match. Also, for those already having accumulated large tax-deferred balances, catch-up contributions after age 50 may end up as “tax-up” contributions.

John S. Harville
John S. Harville
10 days ago

To Mark P

Agreed that Roth conversion taxes are best paid from taxable accounts. Another method exists once you are taking required minimum distributions, if you happen to be in the enviable situation of not needing RMD monies for anything else. As one making substantial Roth conversions each year (with an eye on Medicare premiums/penalties), I use RMDs to pay the taxes, monies that MUST come out of the trad IRA anyway. Painless for me.

John S. Harville
John S. Harville
10 days ago

A thorough accounting of the many decisions that await retirees, before and after retiring, after many years of 401Ks/IRAs on autopilot. Every individual situation is different with no one size fits all. At age 82, I am living proof that these decisions/evaluations will go on to death. Awareness is key, which is exactly what Jonathan’s article does here. Thank you.

MarkP
MarkP
10 days ago

Do you limit the Roth conversion to what you can afford to pay in taxes from cash accounts? If not, what?

Jonathan Clements
Admin
Jonathan Clements
10 days ago
Reply to  MarkP

Yes, I pay the tax with money from my taxable account. When I convert, my goal is to pay a marginal rate no higher than 24%.

Steve H
Steve H
10 days ago

Thanks, Jonathan. I am a long time follower (from your WSJ days) and first time commenter on Humble Dollar.
Since I am in the throes of spreadsheet analysis to determine the most beneficial method to timely reallocate IRA’s and 401k accounts, there is another consideration not mentioned that should be included- state income taxes.
Another concern is the future taxation of Roth assets. In the last 20 years, major changes were introduced to the retiree analysis blender- IRMAA, Social Security claiming methods, disappearance of inherited stretch IRA’s, etc.,etc.
The taxation issues remind me of the oil filter ad from years ago- You can pay me now, or you can pay me later.

Mark Royer
Mark Royer
10 days ago
Reply to  Steve H

Good point about the possible future taxation of Roth assets. I am sure some politicians would like to double tax us, as we put money in and take money out, but to do so would effectively end Roths. Who would ever invest in one again? Further, Roths are supposed to be for middle class and working class taxpayers, not the rich. A politician who supports such a bill could expect to be exposed as being against middle and working class constituents and thrown out of office. We should all watch them carefully, and make our voices heard in response to any future tax bills.

Last edited 10 days ago by Mark Royer
Jonathan Clements
Admin
Jonathan Clements
10 days ago
Reply to  Mark Royer

I don’t believe Roths will become taxable, though I do think there’s a risk that they’ll become subject to RMDs (though the latest tax bill went the other way, exempting Roth 401(k)s from RMDs). On the other hand, it’s pretty clear that middle class and upper-middle class taxpayers are the sweet spot for revenue-hungry politicians. That’s why the pols will fight to hike the estate-tax exemption and preserve the stepped-up cost basis upon death, both tax breaks that help the super-wealthy, but they’ll merrily nix the stretch IRA and they won’t adjust the thresholds for Social Security benefit taxation for inflation, both of which hurt the moderately affluent.

Dan Malone
Dan Malone
11 days ago

Terrific summary and great planning opportunities for those in our 50’s and 60’s. And the approximation of IRRMA at 1% of MAGI is helpful, as I turn 63 this year and will set my first Part B and D premiums with this year’s income. It also looks like IRRMA can exceed 1 1/2% per person at the start of each bracket, so a total additional tax over 3% for married couples who are both on Medicare, with effective marginal rates exceeding 100% if you barely tip over. Not fun.

Last edited 11 days ago by Dan Malone
Jonathan Clements
Admin
Jonathan Clements
10 days ago
Reply to  Dan Malone

Readers should keep in mind that all Medicare recipients pay a base premium for Part B and Part D, so IRMAA sufferers should focus only on the added cost. For example, in 2023, a single individual with income of $97,000 would pay $230.80 per month for Part B — but $164.90 is the base premium, so the additional IRMAA surcharge is “just” $65.90, or 0.8% of income on an annualized basis. Similarly, the IRMAA-driven added premium for Part D at $97,000 would be $12.20 per month, equal to 0.15% of income on an annualized basis.

Dan Malone
Dan Malone
10 days ago

Good clarification. Thanks.

Bob Drake
Bob Drake
10 days ago

Jonathan,
You are calculating an average over the total income. I prefer a marginal impact thought process. Let’s say in your example the taxable income was $98,000 or $1,000 into the IRMAA bracket.
Part B marginal impact is 65.90 x 12/1000 > 79% so the cliff cost you mention is alot(plus Part D).
When you have income control, e.g. Roth conversions, I’d take it up to just shy of the next IRMAA bracket of $123,000. The marginal rate for Part B only is then:
65.90×12/26,000 or 3%. So for me personally, I try to max out an IRMAA bracket while staying below the 32% tax bracket. Can’t do that exactly as you don’t know precisely what the IRMAA bracket is for two years hence when that year’s income is applied to IRMAA, but in seven years I’ve been doing it have come pretty close without going over my targetted bracket, so realistic marginal IRMAA tax for me is 10 to 12 % higher than full bracket calculation.
Again I add in part D in combination when doing this, but just wanted to use your example.
I love the article though and when planning go through many/most of the considerations you cover.
Bob

James McGlynn CFA RICP®
James McGlynn CFA RICP®
10 days ago
Reply to  Bob Drake

Even though many readers think the IRMAA surcharges are too small to worry about for me using the IRMAA bracket is a good way to help me “juggle” what my taxes will be. By monitoring MAGI -modified adjusted gross income-I can guess the effect of Roth conversions and capital gains on my taxes as I add them to my pension and dividend income. Because IRMAA is a “cliff bracket” tax it helps to know how close to the cliff I am!

Neil Imus
Neil Imus
11 days ago

Great advice. I would add one additional consideration to the calculation: there is a pretty good chance that tax rates will be higher in the future than they are now. Congress is going to have to do something about the large federal deficits. They may be able to cut some costs, but it seems likely that they will also raise taxes. Maybe they will increase the income tax rates, maybe they will increase the percentage of social security income that is subject to tax, maybe they will increase the IRMAA’s or maybe something else. Also, in my case, I’m married and therefore we pay federal taxes based on the “married filing jointly” tax rates. When one of us dies, the survivor will have to pay federal taxes on the much higher single tax rates. And when the survivor dies, our children will have to pay taxes on our IRA, some of whom probably have higher marginal tax rates than we do. This has led us to do relatively large Roth conversions the last couple of years, even taking though the conversions take us into the next higher marginal tax rate. It is insurance against possibly higher future marginal rates.

David Lamb
David Lamb
11 days ago
Reply to  Neil Imus

Yep. Further to Neil’s point, Congress may not actually have to “do” anything because most of the individual provisions of the so-called “Tax Cuts and Jobs Act” will expire at 12/31/25, and then revert to the 2017 provisions, including individual tax brackets. That will automatically change many folks’ tax position and considerations.

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