Converting Traditional IRAs to Roths

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Converting Traditional IRAs to Roths

Postby dms1873 » Sat Jun 29, 2013 11:16 am

Over the past eight months I moved all of my retirement and non-retirement accounts from 401k and Edward Jones accounts into self-managed Vanguard funds and ETFs. My wife and I each now have individual traditional and Roth IRAs as well as a joint non-retirement brokerage account. We both are 54 years old. I am receiving a pension and we both are still working full-time jobs. Wife is not eligible to take an IRA tax deduction. I max out my traditional IRA ($6500) each year and will contribute the max ($6500) to my wife's Roth IRA. We have joint AGI in the $115K range and 25% tax bracket and this should not significantly change in the near future. Here are some questions with which I am struggling:
1) Should I convert our traditional IRAs into our Roth IRAs? I understand I'll pay the tax but is the benefit greater? I'm leaning in this direction.
2) Should I have my bond allocation in a tax-free muni fund and should I use a single bond fund?

Thanks for any opinion and advice.
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Re: Converting Traditional IRAs to Roths

Postby retiredjg » Sat Jun 29, 2013 12:04 pm

Welcome to the forum! Are you and your wife married filing separately? That is the only way I think you could have different treatment for your IRAs. But I think the phase-out for both Roth IRa and deducting traditional IRA is $0 to $10k isn't it? That would make neither of you eligible.

Your first question depends on getting this part straight first.

2) Should I have my bond allocation in a tax-free muni fund and should I use a single bond fund?

Most people here would say to hold all of your bond allocation, if possible, in a taxable bond fund held inside a tax-advantaged account (401k/IRA/Roth IRA). There are some who are holding bond allocations in munis because munis are paying better right now regardless of your tax-bracket. This will likely change at some point and then things will need to be scrambled around. Some people don't want to do that.
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Re: Converting Traditional IRAs to Roths

Postby hoppy08520 » Sat Jun 29, 2013 12:05 pm

Hello and welcome to Bogleheads.

You write that you don't expect your tax bracket to change in the "near future". How about upon full retirement for both of you from the workforce? Do you expect to stay in the 25% tax bracket then? If so, then it's a wash whether you convert and pay tax now, or simply pay tax upon distributions from the traditional IRA then.

But if you envision dipping into the 15% Federal tax bracket upon full retirement, then you're better off not converting now. Of course, we don't know what the tax brackets will be in 5 or 10 or 20 years, or if we'll have a slightly different taxing system (such as a Federal consumption tax as well as Federal income tax, which would mean that the Roth's advantages are less).

Other factors to consider are state taxation. Consider state taxes today versus the possibility of retiring in a low or no-tax state in the future, or the other way around.

See Traditional versus Roth for more.

Generally, though, given that we don't know much about your complete profile, I think 7 out of 10 Bogleheads, maybe 8, would say don't convert at the 25% tax bracket in your working years. It's unlikely your tax rate in retirement will be higher, but it's very likely that it will be lower.
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Re: Converting Traditional IRAs to Roths

Postby hoppy08520 » Sat Jun 29, 2013 12:10 pm

retiredjg wrote:Welcome to the forum! Are you and your wife married filing separately? That is the only way I think you could have different treatment for your IRAs. But I think the phase-out for both Roth IRa and deducting traditional IRA is $0 to $10k isn't it? That would make neither of you eligible.

I wondered about that too, but figured that he might not be eligible for a retirement plan at work, which pushes his traditional IRA deduction phaseout up to $178,000 (for 2013), which is well above their joint AGI. She, on the other hand, might have a retirement plan at work which means she cannot do traditional deductible IRA but can do Roth IRA.
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Re: Converting Traditional IRAs to Roths

Postby retiredjg » Sat Jun 29, 2013 12:13 pm

hoppy08520 wrote:I wondered about that too, but figured that he might not be eligible for a retirement plan at work, which pushes his traditional IRA deduction phaseout up to $178,000 (for 2013), which is well above their joint AGI. She, on the other hand, might have a retirement plan at work which means she cannot do traditional deductible IRA but can do Roth IRA.

You are probably right. I had forgotten about that little twist.
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Re: Converting Traditional IRAs to Roths

Postby Jim180 » Sat Jun 29, 2013 12:20 pm

I would say no to switching from Traditional to Roth at your age. If you have a large amount in that Traditional and move it at once you will put yourself in a tax bracket higher than 25% Federal, so that move could cost you perhaps 1/3 or more of that money. If you were younger it would probably make good sense, but at your age I would leave it alone.
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Re: Converting Traditional IRAs to Roths

Postby retiredjg » Sat Jun 29, 2013 12:31 pm

dms1873 wrote:1) Should I convert our traditional IRAs into our Roth IRAs? I understand I'll pay the tax but is the benefit greater? I'm leaning in this direction.

If hoppy is correct (and I assume that hoppy is correct), then your question depends on things you don't know and can only guess at.

1) Paying 25% now vs paying 25% later is a wash. It will result in the same amount of money for you to spend. There is no magical compounding going on in a Roth account. This means you have nothing to lose by waiting if you feel you will be in the 25% bracket later. But it could also mean if you expect taxes to go up between now and then, getting in at 25% now could be attractive.

2) If you drop into the 15% bracket when fully retired, paying 15% later is better than paying 25% now. If your pension is small, you might drop into the 15% bracket. If your pension is large, you may not drop into the 15% bracket. If your wife ends up with a pension too, it is less likely you will drop into the 15% bracket.

My speculation is that taxes will not change with our current government, but if you will not fully retire for another 10 years, pretty much anything could happen between now and then.
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Re: Converting Traditional IRAs to Roths

Postby dms1873 » Sat Jun 29, 2013 12:59 pm

Thanks for the replies so far. For more clarification:

My wife and I are married filing jointly.
My wife has a retirement plan at work (employer contributes $1500-$2000 annually to her IRA through his SEP account) so she is ineligible
I have a monthly pension distribution but I also work full-time at another job. I do not have a retirement plan at my current employer, so I contribute to my traditional IRA for the deduction.
Both of our separate Roth IRAs are invested 100% in Wellington fund for the balanced allocation.
Her traditional IRA is in six funds: 75% equity (10% of that international) and 25% in bonds (through the Wellington allocation)
My traditional IRA is in three funds: 80% equity (10% international) and 20% bonds evenly distributed between BIV, VCIT, VCLT

I want increase my bond allocations but all of my bond funds are currently in the negatives. Is there one good balanced bond fund that anyone would recommend? As I stated earlier, I am depending now on the bond side of the Wellington fund for my bond allocation.
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Re: Converting Traditional IRAs to Roths

Postby retiredjg » Sat Jun 29, 2013 2:55 pm

In general, the most often suggested bond fund is Total Bond Market. Have you considered that one?

Remember if you speak in ticker, many people won't bother to look up what they are and you may get fewer responses. It is helpful to everyone to use both the fund name and the ticker or just the fund name if you prefer.
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Re: Converting Traditional IRAs to Roths

Postby dms1873 » Sat Jun 29, 2013 5:39 pm

Thanks to everyone for the useful comments and advice!
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Re: Converting Traditional IRAs to Roths

Postby bsteiner » Sat Jun 29, 2013 9:54 pm

retiredjg wrote:1) Paying 25% now vs paying 25% later is a wash. It will result in the same amount of money for you to spend. There is no magical compounding going on in a Roth account. This means you have nothing to lose by waiting if you feel you will be in the 25% bracket later. But it could also mean if you expect taxes to go up between now and then, getting in at 25% now could be attractive.

2) If you drop into the 15% bracket when fully retired, paying 15% later is better than paying 25% now. If your pension is small, you might drop into the 15% bracket. If your pension is large, you may not drop into the 15% bracket. If your wife ends up with a pension too, it is less likely you will drop into the 15% bracket.


#1 is incorrect if you have other money with which to pay the tax on the conversion. For example, assuming a constant 25% tax rate, if you have, say, $40,000 in your traditional IRA and your taxable account, and you convert, you have a $40,000 Roth IRA. Over some period of time, it will grow to $80,000. If you didn't convert, your $40,000 traditional IRA would grow to $80,000, or $60,000 after taxes. You would still have your $10,000 taxable account, but it will grow to something less than $20,000 since the income and gains will be taxable each year.

There are other advantages to the Roth conversion, including no required distributions at 70 1/2.

So if you expect that you and your beneficiaries will always be in a 25% bracket, the Roth conversion would make sense (to the extent you can convert without going much higher than 25%), assuming you have other money with which to pay the tax on the conversion.

However, if you expect to be in the 15% bracket in retirement, you might wait until then to convert, or to begin to convert. Often there's a window between retirement and age 70 1/2 where people can convert in a relatively low tax bracket.

I suggest creating a spreadsheet to compare the choices, making some reasonable assumption as to investment returns in the IRA, after-tax in the taxable account, and how long everyone will live, and running it through the point when the beneficiaries will take their last required distribution.
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Re: Converting Traditional IRAs to Roths

Postby Bob's not my name » Sun Jun 30, 2013 7:14 am

Since they are barely in the 25% bracket now, falling into the 15% bracket seems likely. We don't know their state.
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