Early Retirement Roth Conversion vs Healthcare Subsidies

Have a question about your personal investments? No matter how simple or complex, you can ask it here.
Post Reply
skwak
Posts: 20
Joined: Sun Sep 10, 2017 7:31 pm

Early Retirement Roth Conversion vs Healthcare Subsidies

Post by skwak » Thu Dec 07, 2017 9:23 pm

I would like the group's opinions regarding what I see as an early retirement puzzle:

We are about 6.5 years out from an early retirement at age 58.5 (at least I hope). When we retire early ideally we would use the 6 years before my pension (about $23K/year) kicks in to fill up some of the lower tax brackets with Roth conversions from our traditional 401K or IRAs. HOWEVER, when we do retire early we will have the same healthcare challenge that most people will have which is we will have none. Ideally if the Affordable Care Act does not change too much we would love to get some heavy subsidies since our taxable income would be wicked low. We are pretty sure that the income from the Roth conversion would mess that up. Is anyone else trying to balance these two activities? Any thoughts??

Thanks! :D

Calhoon
Posts: 95
Joined: Wed Feb 16, 2011 1:29 pm

Re: Early Retirement Roth Conversion vs Healthcare Subsidies

Post by Calhoon » Thu Dec 07, 2017 9:34 pm

My understanding is that they only look at your 1040 for the year prior. With that in mind, any amount you convert that won't be reflected in that prior tax form they won't see. So any conversion amount a couple years out won't impact your subsidy.

aristotelian
Posts: 3399
Joined: Wed Jan 11, 2017 8:05 pm

Re: Early Retirement Roth Conversion vs Healthcare Subsidies

Post by aristotelian » Thu Dec 07, 2017 9:38 pm

I would have to do some back of the napkin calculations, but I would think it might work out to do one or two conversions all at once to the top of the 25% bracket, then do the subsidies for a few years, then another big conversion, then subsidies for a few years etc. Of course that would assume that ACA stays, but it's looking like it might not last beyond next year. Due to the plan that we are not allowed to talk about.

mhalley
Posts: 5316
Joined: Tue Nov 20, 2007 6:02 am

Re: Early Retirement Roth Conversion vs Healthcare Subsidies

Post by mhalley » Thu Dec 07, 2017 10:42 pm

I decided to do the conversions and forgo the subsidy’s, but it depends on your net worth, amount in your IRAs, projected tax bracket after rmds kick in, etc.

User avatar
Flobes
Posts: 853
Joined: Tue Feb 16, 2010 12:40 am

Re: Early Retirement Roth Conversion vs Healthcare Subsidies

Post by Flobes » Thu Dec 07, 2017 11:09 pm

mhalley wrote:
Thu Dec 07, 2017 10:42 pm
I decided to do the conversions and forgo the subsidy’s, but it depends on your net worth, amount in your IRAs, projected tax bracket after rmds kick in, etc.
I decided to forego Roth conversions and maximize subsidies, saving $18k/year/person of health insurance costs. Pre-ACA, I'd been busy Roth converting annually. I've now graduated to Medicare, so I have some years back to Roth conversions before SS at 70. Many variables lead to different wise conclusions.

marcopolo
Posts: 362
Joined: Sat Dec 03, 2016 10:22 am

Re: Early Retirement Roth Conversion vs Healthcare Subsidies

Post by marcopolo » Fri Dec 08, 2017 9:41 am

Whether or not the Roth conversion pays off financially relative to loss of subsidy is very dependent on the size of the conversion.
Since the loss of subsidy has a very steep cliff, converting a small amount (to top off 15% bracket) creates a very large effective tax rate on the conversion. Probably making it a financial loser. But, if your future tax situation is such that converting up to the 25% bracket (or higher) makes sense aside from the subsidy, then the added impact of the loss of subsidy on the effective rate of the conversion is quite a bit smaller.

As an example, consider the simplified case where you have 40K of "income" needed to support your living expenses, and this keeps your family eligible for ACA subsidy of say $12K (number are made up, but i think in the right ball park). Now you are considering converting $30K to a Roth. You would normally pay 15% ($4500) in federal taxes on that. But, if that also causes you to go over the subsidy cliff, you lose the $12k of tax credits. So, now that $30K conversion just cost you $16,500 in federal taxes. That is a 55% effective tax rate on the conversion. Unless you expect to be in a VERY high tax bracket at RMD, it does not seem like that conversion would pay off.
Once in a while you get shown the light, in the strangest of places if you look at it right.

Nate79
Posts: 1575
Joined: Thu Aug 11, 2016 6:24 pm
Location: Portland, OR

Re: Early Retirement Roth Conversion vs Healthcare Subsidies

Post by Nate79 » Fri Dec 08, 2017 10:32 am

6 years in the future? I would monitor the situation for the next 5 years then come back and make a decision. Too many things can change.

smitcat
Posts: 894
Joined: Mon Nov 07, 2016 10:51 am

Re: Early Retirement Roth Conversion vs Healthcare Subsidies

Post by smitcat » Fri Dec 08, 2017 12:03 pm

Nate79 wrote:
Fri Dec 08, 2017 10:32 am
6 years in the future? I would monitor the situation for the next 5 years then come back and make a decision. Too many things can change.
Agreed - all the variables needed to supply a valuable answer will change.

Katietsu
Posts: 1014
Joined: Sun Sep 22, 2013 1:48 am

Re: Early Retirement Roth Conversion vs Healthcare Subsidies

Post by Katietsu » Fri Dec 08, 2017 12:07 pm

smitcat wrote:
Fri Dec 08, 2017 12:03 pm
Nate79 wrote:
Fri Dec 08, 2017 10:32 am
6 years in the future? I would monitor the situation for the next 5 years then come back and make a decision. Too many things can change.
Agreed - all the variables needed to supply a valuable answer will change.
An emphatic yes.

User avatar
David Jay
Posts: 4261
Joined: Mon Mar 30, 2015 5:54 am
Location: Michigan

Re: Early Retirement Roth Conversion vs Healthcare Subsidies

Post by David Jay » Fri Dec 08, 2017 1:21 pm

smitcat wrote:
Fri Dec 08, 2017 12:03 pm
Nate79 wrote:
Fri Dec 08, 2017 10:32 am
6 years in the future? I would monitor the situation for the next 5 years then come back and make a decision. Too many things can change.
Agreed - all the variables needed to supply a valuable answer will change.
I am 12-18 months from retirement and I don't know what my health care will look like for my year of 63 and 64 as follows:
1. Will I be able to purchase a catastrophic policy (to back up a concierge office visit plan)?
2. Will the state [MI] Medicaid expansion still be in place?
3. Will I be able to use HSA dollars to pay medi-share costs?

I am reminded of the ancient Chinese curse: "May you live in interesting times"
Prediction is very difficult, especially about the future - Niels Bohr | To get the "risk premium", you really do have to take the risk - nisiprius

User avatar
Conch55
Posts: 134
Joined: Tue Mar 01, 2016 11:03 am

Re: Early Retirement Roth Conversion vs Healthcare Subsidies

Post by Conch55 » Fri Dec 08, 2017 1:29 pm

Is anyone else trying to balance these two activities?
DW and I are retired with roughly three years before Medicare kicks in. We purchase insurance from the federal exchange and decided to forego Roth conversions and take the subsidy. It's a significant amount of reduction. We plan to do Roth conversions from 65-70 before RMD requirements begin.

smitcat
Posts: 894
Joined: Mon Nov 07, 2016 10:51 am

Re: Early Retirement Roth Conversion vs Healthcare Subsidies

Post by smitcat » Fri Dec 08, 2017 1:40 pm

David Jay wrote:
Fri Dec 08, 2017 1:21 pm
smitcat wrote:
Fri Dec 08, 2017 12:03 pm
Nate79 wrote:
Fri Dec 08, 2017 10:32 am
6 years in the future? I would monitor the situation for the next 5 years then come back and make a decision. Too many things can change.
Agreed - all the variables needed to supply a valuable answer will change.
I am 12-18 months from retirement and I don't know what my health care will look like for my year of 63 and 64 as follows:
1. Will I be able to purchase a catastrophic policy (to back up a concierge office visit plan)?
2. Will the state [MI] Medicaid expansion still be in place?
3. Will I be able to use HSA dollars to pay medi-share costs?

I am reminded of the ancient Chinese curse: "May you live in interesting times"
May I add a few since we are facing similar timing...
- you do not know what the tax rates will be
- you do not know if Roth conversions rules will be altered
- you do not know if paying for the healthcare will be a tax line item deduction

skwak
Posts: 20
Joined: Sun Sep 10, 2017 7:31 pm

Re: Early Retirement Roth Conversion vs Healthcare Subsidies

Post by skwak » Sun Dec 10, 2017 4:34 pm

Thanks everyone. Very sage advice. It is comforting to know that many others are also trying to balance these competing opportunities. I do agree with the very sound advice that likely the landscape will change significantly in the next 6 years so you really have to wait and see how the world changes before getting too worked up on a plan of action. Many thanks!

Longdog
Posts: 966
Joined: Sun Feb 09, 2014 6:56 pm
Location: Philadelphia

Re: Early Retirement Roth Conversion vs Healthcare Subsidies

Post by Longdog » Sun Dec 10, 2017 4:50 pm

aristotelian wrote:
Thu Dec 07, 2017 9:38 pm
I would have to do some back of the napkin calculations
Do napkins really have a front and a back?
Steve

smitcat
Posts: 894
Joined: Mon Nov 07, 2016 10:51 am

Re: Early Retirement Roth Conversion vs Healthcare Subsidies

Post by smitcat » Sun Dec 10, 2017 4:58 pm

skwak wrote:
Sun Dec 10, 2017 4:34 pm
Thanks everyone. Very sage advice. It is comforting to know that many others are also trying to balance these competing opportunities. I do agree with the very sound advice that likely the landscape will change significantly in the next 6 years so you really have to wait and see how the world changes before getting too worked up on a plan of action. Many thanks!
If you do want to see some of the trade-offs now you can populate the RPM spreadsheet/calculator and fill out the Roth conversions section which will leave you with plenty of data to see how this might play out. FWIW - we are much closer to you time wise for conversions and we see a 9% advantage on doing conversions with which we could pay ACA costs. We will rerun the RPM yearly and check it with tax software but as it stands now we will convert and pay.

ln09348
Posts: 21
Joined: Sat Nov 25, 2017 7:03 pm

Re: Early Retirement Roth Conversion vs Healthcare Subsidies

Post by ln09348 » Mon Dec 11, 2017 3:45 pm

3. Will I be able to use HSA dollars to pay medi-share costs?

with today's policy, yes you can. Which leads to another question - when we use HSA dollar to pay medical bill, do we have to pay income tax on HSA dollar?

Post Reply