Roth conversions now less meaningful?

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Cody
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Roth conversions now less meaningful?

Post by Cody » Wed Mar 07, 2018 10:40 am

I have had the opportunity to do substantial Roth Conversions in the old 15% tax bracket. Of course I paid the taxes (Federal and State) on those Roths conversions at 15% and 7.5%.

So have I been "had" by the system. 1) I could have waited until this year (my last year of conversions for me and would have paid 12% Federal tax (so $300 cheaper that before and 2) since I paid 15% Federal tax if I should slip into the next tax bracket I gain only 7% by having done the Roth conversion under the old 15%. In the past the Roth Conversion "saved" me 10% now it is only 7% saving because of tax law change.

Of course I know I could recharacterise my last years conversion (which was my largest conversion year( and save $1000 or so. Then do another roth conversion at the new tax rate this year. Although I only have space this year for about half of the conversion I made last year.

First of all is my thinking clear. And am I over thinking this (especially since I can't do anything but recharacterise this year.

Best,
Cody

rts58
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Re: Roth conversions now less meaningful?

Post by rts58 » Wed Mar 07, 2018 10:46 am

One advantage you had, is that you converted earlier so you were you paid tax on a smaller base. I would expect that your Roth balance has grown more than the incremental tax you had to pay.

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celia
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Re: Roth conversions now less meaningful?

Post by celia » Wed Mar 07, 2018 10:59 am

The tax brackets could have gone up or stayed the same for this year. At the time you converted, you could only make a decision on what you knew at the time. So I wouldn't say you were "had". You made good decisions and should be glad.

Now, you can make or change your 2017 decision based on what you know at this point. I would start with estimating your taxes each year until you are age 71, including possibly being taxed on RMDs and Social Security. Then consider what your taxes will be each each year should you recharacterize some or all of last year's conversion. Don't forget that the account value will likely continue to grow until the new conversion or RMD is taken. Then decide what is best for you, going forward.
A dollar in Roth is worth more than a dollar in a taxable account. A dollar in taxable is worth more than a dollar in a tax-deferred account.

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iceport
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Re: Roth conversions now less meaningful?

Post by iceport » Wed Mar 07, 2018 12:02 pm

Cody wrote:
Wed Mar 07, 2018 10:40 am

First of all is my thinking clear. And am I over thinking this (especially since I can't do anything but recharacterise this year.
I think the main thing you're missing is that tax rate risk is a real thing.

Presumably, your a seasoned investor who's familiar with market risks. Well, the fact that tax rates change relatively infrequently should never be misinterpreted as tax stability. As we've just witnessed, tax rates can change any time, and without much warning. Folks often disregard that risk.

The point is, whenever we make decisions based on assumed tax rates, there's a risk our assumptions will be wrong. It doesn't mean our decisions are wrong, but we should always consider contingencies.
"Discipline matters more than allocation.” ─William Bernstein

Silk McCue
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Re: Roth conversions now less meaningful?

Post by Silk McCue » Wed Mar 07, 2018 1:15 pm

Cody wrote:
Wed Mar 07, 2018 10:40 am

Of course I know I could recharacterise my last years conversion (which was my largest conversion year( and save $1000 or so. Then do another roth conversion at the new tax rate this year. Although I only have space this year for about half of the conversion I made last year.
I converted $35k on 12/28/2017 knowing that I would pay 15% now rather than 12% by waiting until 2018. 12% would have been nice but 15% is still less than what I will pay in the future with Pension, RMD's and Social Security taxation when we hit 70 (quite a long ways off). I took advantage of the headroom in my bracket that Iwas increased by paying 2018 and 2019 Charitable contributions in advance. It was a very good tactical move.

Don't let the perfect be the enemy of the good.

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Peter Foley
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Re: Roth conversions now less meaningful?

Post by Peter Foley » Wed Mar 07, 2018 9:55 pm

Part of the answer is certainly determined by comparing how your IRA was invested compared to your Roth. If your IRA was in bonds and your Roth is in stock mutual funds the conversion lead to a much higher overall rate of return for your portfolio over the past few years.

The assumption here being that you could maintain your overall preferred AA through tax efficient exchanges in your taxable account. If you stayed in the 15% tax bracket that is a possibility. Minnesota state taxes should be taken into account with regard to taxable account rebalancing.

Cody
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Re: Roth conversions now less meaningful?

Post by Cody » Fri Mar 09, 2018 9:29 am

rts58: interestingly I put the Roth conversion into a separate Roth account at Vanguard in case I would have to recharacterise (thanks Peter). I just checked it and it has gone up $2500 since the conversion. So I will not be recharacterising. At least not unless it drops substantially.

Cody

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