FREE NEWSLETTER
Go to main Forum page »
I read here on HD and regularly elsewhere about Roth conversions. I never did one mainly because they weren’t available until after I retired at 67.
My questions are:
is there an age when doing the FIRST conversion for the FIRST Roth account is no longer prudent —- and if a conversion is made is it typical to pay tax taxes from the account being converted or other sources?
As nicely covered by many posters, the most likely ages to do Roth conversions are whenever current tax rates are lower than likely RMD tax rates (youthful low-income years, between retirement and RMD years, or if you feel tax rates will increase such as TCJA sunsetting) or otherwise for intergenerational estate wealth-transfer purposes.
Here is another decent third party summary:
https://www.financialarchitectsllc.com/Ruminations%20Files/Ruminations%20on%20Roth%20vs.%20Traditional%20IRAs.pdf
Of course, Medicare IRMAA impacts should be considered between age 63 and RMD start which has been frequently discussed on Humble Dollar including here:
https://humbledollar.com/2023/04/that-28000000-tax/
Anyone with “spare” taxes-paid cash might use those monies first to pay the taxes, but many folks will have to resort to using part of the converted assets to pay the taxes. This requires fine tuning based on each family’s asset sources and cash flow needs over years, so generalizations are tough to make.
Excellent comment John. I particularly like the 3rd party summary link above. The only thing I’d add is for someone planning on a large tax-deductible expense (such as a buy in to a ccrc) it might make sense to leave some money in a traditional IRA since the tax deductibility of the expense might significantly reduce the tax bill upon IRA withdrawal.
Richard, I would think that a retiree contemplating a Roth conversion would want to avoid converting too much such that the extra income pushes you past the IRMMA threshold.
If your modified adjusted gross income is close to an IRMMA threshold, the limited amount you could convert might not make it worthwhile.
There are a number of financial issues like Roth Conversions for which there are no easy answers. The range of possible personal financial situations are so numerous that there are no short, easy formulaic solutions. The best kind of professional to consult is a Certified Financial Planner, CFP. But, even as I say this, there are caveats. Many planners don’t want to just provide consulting services; they want to actually manage your investments and charge you on a % basis for so doing. So, the trick is to find a planner that charges by the hour.
AND, when/if you find one, the first question to ask, is if, in consideration of the amount of assets you own, you would benefit from such a consultation.
Hourly rates can be in the hundreds of dollars, so the larger your financial assets the more likely the benefit.
There are other questions beyond that of doing Roth Conversions for which an hourly planner might be helpful:
Whether or not to buy Long Term Care insurance.
Taking the lump sum or the annuity from a pension scheme.
When to take Social Security.
What is the best asset allocation for your risk tolerance.
How much do I need to have to retire.
You can try searching on the Internet for hourly financial planner.
My tax person doesn’t know the answer as to whether I should convert or not. A CPA person didn’t know the answer either. Does anyone know what specialty professional is the best source to look at anyones situation and provide the appropriate path to take?
Head over to bogleheads.org and do a search on your question. This subject has been discussed unendingly.
The best discussion I’ve found on this very complex topic is a paper by Ed McQarrie. Here’s the money quote: “Moral of the story: Roth conversions are designed to increase financial wealth. If used instead to increase consumption wealth, they may blow up. Clients need to be advised that conversions should be limited to funds expected to be surplus.”
To re-phrase your question: “Should an 80-year-old be considering a first -time Roth conversion?” The answer would be something like:” Only if you’re looking to reduce the tax burden of your retirement accounts for your heirs”, since the owner of those accounts is likely to see little or no benefit from a tax perspective.
The full paper can be seen here: https://papers.ssrn.com/sol3/papers.cfm?abstract_id=3860359
Thanks – interesting perspective. I look forward to reading it.
“Backdoor” Roth conversions are useful for those who earn too much to qualify to make a direct investment into a Roth account. For my own experience, my spouse made a non-deductible contribution to her Traditional IRA on 1/1 of each year, then it was converted to a Roth a few days later. No taxation of the transaction was reported. A key qualifier is that my spouse has no other taxable IRA’s (IRA aggregation rule comes into play) and we qualify to fund a Traditional IRA because we have earned income on our joint tax return. I did not qualify as I had rolled over an IRA in the 1990’s and had multiple accounts including a SEP.
For converting a Rollover IRA, the goal is to minimize taxes by maximizing the remaining amount in the current year’s tax bracket. You could do this while you are in your working years but usually there are other needs. Once you retire and your earnings drop, you have a window of lower earnings before you take social security. I am delaying my SS until 70 (and RMD’s at 73) so I am doing large conversions of my account each year. My wife is not converting her IRA as she is younger and her RMD’s will not occur until she is 75. Neither of our IRA’s will be fully converted as there are not enough years or tax advantages to do it all. I foresee the last conversion occurring when I am 69. However, we believe this may give us enough tax flexibility to address what the 2026 tax changes (and those afterwards) will present.
Of course, everyone’s situation is unique. We were fortunate to have sufficient taxable and tax deferred assets to make this work.
I never did Roth 401(k) or IRA contributions while working. Like JGarrett says, I’m not sure the situational dependence makes it worthwhile for me. I’m at least considering a Roth conversion for some of my IRA, but not convinced it’s worth it for my/our situation.
Recently someone discussed a cost/benefit analysis of “Roth conversion versus not” and concluded there’s no real tipping point, and the taxes are the same in the end. I’d be interested in reading any references about this conclusion.
The Roth IRA is designed to provide the same results as a Trad IRA assuming theta rate is the same when contributing and withdrawing. If you expect the tax rate at withdrawal to be lower, the Trad wins. If you expect the tax rate at withdrawal to be higher, then go for the Roth. I think a Roth makes a lot of sense for young people just starting out in lower tax brackets. Even a high schooler who has some earned income can start a Roth. Funding the account is a great grandparent gift to a working grandchild.
Rick – I agree that a Roth is an ideal tool for the young. Your example of a high schooler is great. In my case, I think it’s more like what wtfwjtd says above – – – that when you’re older a Roth conversion will likely not produce a personal tax benefit, but will save taxes for your heirs.
Jeff, Agreed. for it to work for an older person you have to have a few things line up – low current tax rate, a few years away form Medicare, after-tax cash to pay the income tax.
Like so many other personal financial planning issues, IT DEPENDS.
Someone who will use the Roth/IRA funds as a source of retirement income is in a very different situation than someone who intends to use the Roth/IRA as nothing more than an estate planning tool for kids/grandkids. The approach one takes with Roth/conversion issues can be very different, as a function of one’s personal portfolio/family/income situation. It is tough to generalize on an approach without the exact specifics of the particular personal situation.
Exactly! My husband and I each have large IRAs which we plan to leave to our kids. They are both high earning professionals, so would pay extremely high taxes on any money in the IRAs. We’ve been doing major conversions for the past 6 or 7 years. The downside is that we’ve paid high taxes on the converted money and our Medicare payments are very high. The upside is that our RMDs haven’t grown extremely large during the recent market rises and our kids will each inherit a considerable amount of tax free money with at a number of years to potentially grow. We use our RMDs —-after deductions for QCDs —to fund the conversions. We fully expect tax rates to rise, so the more we can shelter now, the better.
Most of the articles from informed sources I read say you should pay the taxes from another source in order to not decrease the transferred amount which will start your Roth money in a hole, the amount of which based on your tax rate.
We are using tax withholdings from an inherited IRA account RMDs as we really don’t need that money to meet expenses but are required to take. This also negates having to make estimated tax payments.
Also most of my sources recommend starting conversions after you retire and before the start of RMDs, when your tax rate is generally reduced.
We are actually converting an amount up to the next tax rate as currently we are in a 12% tax bracket and staying in that bracket would not allow for a significant dollar amount being converted.
Finally these sources also recommend performing significant conversions this year and next while the lower tax rates in the Tax Cuts and Job Act potentially will expire.
As you know, we are in the first year of retirement. We have not done any Roth conversions, and not sure we will for our situation. I have been trying to read up on them. From what I understand, they can be good if you have a high balance in your pretax 401k/IRA and are in a lower income year, especially if you have not started to take SS. From what I understand, you try to “fill up” the (low) tax bracket you are in. And you use other sources, like cash accounts, to pay the taxes, not the account being converted. I have read that some of the FIRE people do conversions in their 40s/50s, so not sure there is a minimum age to do? Not sure maximin age either, but maybe guessing when you have to do RMD? Hopefully others will chime in. Chris
For low-income years, another option is to look into capital gains harvesting in your taxable account. You basically take advantage of the 0% cap gains but there are income limits. This allows you to sell assets take the cap gains at 0% and then reinvest them immediately at a higher basis.
We are retired and not taking a pension or social security and are using this method as opposed to Roth IRA conversion.
We did this with my mother-in-law to replenish her cash bucket
We’ve done some of this as well. A good alternative.