Have We Missed the Boat on Roth Conversions?

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hatchinganegg
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Have We Missed the Boat on Roth Conversions?

Post by hatchinganegg » Thu Sep 13, 2018 3:29 pm

Thanks in advance for any comments/advice related to my current situation.

I have a goal to retire from my corporate job after the house is completely paid off, target age 50, take a year or two off, and then work at something that may pay much less than what I earn now. Wife still wants to work for a while so we would live off one income and after tax investments. I got really excited to hear about IRA conversions as a possible source for early retirement spending but am now concerned about the tax treatment.

Questions: *Updated based on comments”
1. I want to retire early (Before age 59&1/2) and take withdrawals from investments in the most tax efficient manner. Any suggestions on how to approach this? Right now I feel like my only option is to live on after tax investments.
(I have 450K in deductible IRA and do not qualify for additional contributions to a ROTH IRA due to my MAGI. I am concerned about the IRA aggregation rules and pro-Rata taxation should I move forward with IRA conversions and attempt to withdraw later).

2. Is there still any benefit to investing in my employer’s ROTH 401K when I am in the 24% federal tax bracket?
a. Should I invest ROTH 401K up to 18500, Additionally contribute after tax, and perform a mega back door roth conversion of the after tax?
b. Should I invest Deductible up to 18500, Additionally contribute after tax, and perform a mega back door roth conversion of the after tax?


Background:
Age 43 living in California, married
I’ve been at my current job for 4 years. This is the first employer I’ve had who has offered a ROTH 401K option so have only been investing a short while in this.
When I did qualify early on, I missed investing in a ROTH IRA to pay off debt and only invested a small amount.
Current employer retirement is with Fidelity. I am currently investing in both the ROTH 401K and TRAD 401K up to $18,500 annually.

Current Retirement Assetts (90% Equities and 10% bond allocation in all IRA, 401K, TSP accounts)
Rollver IRA at Vanguard (ME): 125K
Rollover IRA at Schwab (ME): 325K
Roth IRA at Schwab (ME): $13K
Roth 401k at Fidelity (ME): $37K
401k (ME):115K
IN-PLAN Roth Conversion at Fidelity (ME): 5.7K - don’t know what this is called

Rollover IRA at Vanguard (HERS): 54K
TSP Roth (HERS): 10K
TSP pre-tax (HERS): 90K

Taxable Brokerage Acct at Schwab: $18K
Taxable Brokerage Acct at Vanguard: $25K

Thank You.
Last edited by hatchinganegg on Thu Sep 13, 2018 11:53 pm, edited 6 times in total.

retiredjg
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Re: Have We Missed the Boat on Roth Conversions?

Post by retiredjg » Thu Sep 13, 2018 4:45 pm

I've read your post a few times and I'm not sure I understand what the question is. Whatever the question is, we need to know your current tax bracket (do you need help with that?) and we need to know who those various accounts belong to - his vs hers.

I'll read it some more and see if I can figure it out.

I see you did include your current tax bracket.
Last edited by retiredjg on Thu Sep 13, 2018 4:54 pm, edited 1 time in total.

retiredjg
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Re: Have We Missed the Boat on Roth Conversions?

Post by retiredjg » Thu Sep 13, 2018 4:47 pm

Roth conversions is usually something to do when you are retired or otherwise in a lower tax bracket. Could you be talking about getting money into Roth IRA via the "back door"?

Or could you be talking about what some people call the "Roth conversion ladder"?

retiredjg
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Re: Have We Missed the Boat on Roth Conversions?

Post by retiredjg » Thu Sep 13, 2018 4:53 pm

hatchinganegg wrote:
Thu Sep 13, 2018 3:29 pm
I only just learned about the IRA Aggregation Rule and Pro-rata taxation from a friend that frequents this forum.
Do you have anything to pro-rate? In other words, do you have any non-deductible contributions in your IRAs?

I didn’t pull the trigger on a conversion except to sweep a small amount overfunded in my current employer’s 401K plan.
What does this mean?

1. I’m wondering if there is still any benefit to doing ROTH conversions when almost all of my current retirement is in traditional IRA’s? Seems like you have to do all or nothing or you get burned by the aggregation rule.
This does not make any sense to me. Can you explain further?

2. Is there still any benefit to investing in a ROTH 401K when I am in the 24% federal tax bracket?
Not enough information to answer this one yet.

3. Most of my wife’s retirement is also tied up in a traditional IRA but she has far less in total $$ invested. Should we focus on just converting hers or does this notmatter when married?
Why do you think converting hers is better than converting yours?

Equity Portfolio
Traditional IRA: 701K
ROTH IRA: $13K
ROTH 401K: $47K
ROTH conversion: 5.7K
After Tax Brokerage Acct: $40K
Why are you telling us only about your equity (stock) portfolio? What about bonds?

ROTH conversion: 5.7K
What is this?


I think you may have a basic misunderstanding about something. Just not sure what it is yet.

hatchinganegg
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Re: Have We Missed the Boat on Roth Conversions?

Post by hatchinganegg » Thu Sep 13, 2018 5:54 pm

retiredjg wrote:
Thu Sep 13, 2018 4:53 pm
hatchinganegg wrote:
Thu Sep 13, 2018 3:29 pm
I only just learned about the IRA Aggregation Rule and Pro-rata taxation from a friend that frequents this forum.
Do you have anything to pro-rate? In other words, do you have any non-deductible contributions in your IRAs?
I’m trying to plan for early retirement and anticipating that I would eventually need to pro rate at withdrawal if I did perform a Backdoor Roth conversion (as I have two traditional IRA’s).
retiredjg wrote:
Thu Sep 13, 2018 4:53 pm
I didn’t pull the trigger on a conversion except to sweep a small amount overfunded in my current employer’s 401K plan.
What does this mean?
I have not attempted any Roth conversions except one in plan conversion. This may have been oversharing. I don’t know how to characterize this in plan conversion account.

retiredjg wrote:
Thu Sep 13, 2018 4:53 pm
1. I’m wondering if there is still any benefit to doing ROTH conversions when almost all of my current retirement is in traditional IRA’s? Seems like you have to do all or nothing or you get burned by the aggregation rule.
This does not make any sense to me. Can you explain further?
It’s very possible I’m missing something huge here. Let’s say I wanted to have 100k in Roth IRA that I could withdraw from penalty free before age 59&1/2. I thought I might be able to do this utilizing a Backdoor Roth conversion. If I only convert 100K and still have 500K in a traditional IRA won’t I be subject to the aggregation and pro-Rata rues?

retiredjg wrote:
Thu Sep 13, 2018 4:53 pm
Is there still any benefit to investing in a ROTH 401K when I am in the 24% federal tax bracket?
Not enough information to answer this one yet.
retiredjg wrote:
Thu Sep 13, 2018 4:53 pm
3. Most of my wife’s retirement is also tied up in a traditional IRA but she has far less in total $$ invested. Should we focus on just converting hers or does this notmatter when married?
Why do you think converting hers is better than converting yours?
she only has around 100K as opposed to my 600K. Unless I completely misunderstood the rules, perhaps we can perform a backdoor conversion on her 100K (pay same rate of taxes on the gains but it would be a smaller sum), and then use that ROTH IRA in early retirement. Would we avoid the pro-rating here?
retiredjg wrote:
Thu Sep 13, 2018 4:53 pm
Equity Portfolio
Traditional IRA: 701K
ROTH IRA: $13K
ROTH 401K: $47K
ROTH conversion: 5.7K
After Tax Brokerage Acct: $40K
Why are you telling us only about your equity (stock) portfolio? What about bonds?
I have a 10% bond allocation across all accounts except after tax. I will correct “equity”

retiredjg wrote:
Thu Sep 13, 2018 4:53 pm
ROTH conversion: 5.7K
What is this?
answered above. Don’t know what to call this in plan 401K to roth conversion.
retiredjg wrote:
Thu Sep 13, 2018 4:53 pm
I think you may have a basic misunderstanding about something. Just not sure what it is yet.
so sorry for the confusion. I’m new to this forum but and it is possible I am misunderstanding.
Last edited by hatchinganegg on Thu Sep 13, 2018 7:08 pm, edited 3 times in total.

retiredjg
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Re: Have We Missed the Boat on Roth Conversions?

Post by retiredjg » Thu Sep 13, 2018 6:01 pm

Do you or your spouse have any non-deductible contributions in any IRA?

hatchinganegg
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Re: Have We Missed the Boat on Roth Conversions?

Post by hatchinganegg » Thu Sep 13, 2018 7:05 pm

retiredjg wrote:
Thu Sep 13, 2018 6:01 pm
Do you or your spouse have any non-deductible contributions in any IRA?
I have a small Roth IRA. Otherwise no non-deductible contributions in the IRA’s.

retiredjg
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Re: Have We Missed the Boat on Roth Conversions?

Post by retiredjg » Thu Sep 13, 2018 7:14 pm

hatchinganegg wrote:
Thu Sep 13, 2018 7:05 pm
retiredjg wrote:
Thu Sep 13, 2018 6:01 pm
Do you or your spouse have any non-deductible contributions in any IRA?
I have a small Roth IRA. Otherwise no non-deductible contributions in the IRA’s.
Then you have nothing that needs to be pro-rated if you do Roth conversions. But you should not be considering Roth conversions in your current tax bracket in most cases.

I think you may be confusing Roth conversions with the back door method of contributing to Roth IRA. They are not the same thing although a Roth conversion is involved in each process.

It seems what you are actually interested in is using the "back door" to contribute to Roth IRA. In order to do that, you need to roll your tIRAs into a 401k or similar plan. Do you know if your 401k will accept a rollover from an IRA? What about your spouse's IRA - can it be rolled into spouse's 401k?

banook
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Re: Have We Missed the Boat on Roth Conversions?

Post by banook » Thu Sep 13, 2018 7:57 pm

I think you may be confusing Roth conversions with the back door method of contributing to Roth IRA. They are not the same thing although a Roth conversion is involved in each process.
Yeah, I think they (OP) mean backdoor Roth - so the $5700 is a backdoor Roth conversion that was carried out while OP had a trad IRA and as such was subjected to the pro rata rule where: "All owned IRAs, including SEP and SIMPLE IRAs, are included in the pro rata calculation. However, this only means that some of the conversion may be taxable, so don't tell clients that their Roth conversion in this process will be tax-free, unless they have no other IRAs." (source: http://www.investmentnews.com/article/2 ... -roth-iras)

I think OP wants to retire early (before age 59.5) and wants options on how to be tax efficient with current IRA and Roth situation and AA.

hatchinganegg
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Re: Have We Missed the Boat on Roth Conversions?

Post by hatchinganegg » Thu Sep 13, 2018 8:17 pm

banook wrote:
Thu Sep 13, 2018 7:57 pm
I think you may be confusing Roth conversions with the back door method of contributing to Roth IRA. They are not the same thing although a Roth conversion is involved in each process.
Yeah, I think they (OP) mean backdoor Roth - so the $5700 is a backdoor Roth conversion that was carried out while OP had a trad IRA and as such was subjected to the pro rata rule where: "All owned IRAs, including SEP and SIMPLE IRAs, are included in the pro rata calculation. However, this only means that some of the conversion may be taxable, so don't tell clients that their Roth conversion in this process will be tax-free, unless they have no other IRAs." (source: http://www.investmentnews.com/article/2 ... -roth-iras)

I think OP wants to retire early (before age 59.5) and wants options on how to be tax efficient with current IRA and Roth situation and AA.
Yes, tax efficiencies at withdrawal in EARLY retirement! Thank You!

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FiveK
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Re: Have We Missed the Boat on Roth Conversions?

Post by FiveK » Thu Sep 13, 2018 8:21 pm

hatchinganegg wrote:
Thu Sep 13, 2018 5:54 pm
It’s very possible I’m missing something huge here.
That seems the case. But don't worry - everyone here didn't know these details until they did.
Let’s say I wanted to have 100k in Roth IRA that I could withdraw from penalty free before age 59&1/2. I thought I might be able to do this utilizing a Backdoor Roth conversion.
No. If you have $100K in a Roth IRA that you could withdraw penalty free (e.g., the $100K is all contributions, traditional->Roth conversions that are at least 5 years old, etc.) then you simply withdraw it.

ETA: missed "wanted to" at first read, so the above answer refers to the "withdraw from" part. There are various ways to get $100K into a Roth IRA, but a backdoor Roth process can do so no faster than the IRS maximum ($5.5K or $6.5K depending on age) per year.
If I only convert 100K and still have 500K in a traditional IRA won’t I be subject to the aggregation and pro-Rata rues?
No. You will pay tax on the $100K converted. How much tax will depend on your other joint income that year, but there will be no aggregation or pro-rata concerns.

A Backdoor Roth IRA is a procedure used when you have so much income in the current year that you are above theRoth IRA Contribution Limits but want to take some of that year's pay and put it into a Roth IRA.

Converting existing pre-tax traditional IRA amounts to a Roth IRA is often called a Roth IRA conversion, and is different from the backdoor Roth process.

If you tell us exactly what you want to do, we can (probably) name it and explain it. :)
Last edited by FiveK on Thu Sep 13, 2018 8:34 pm, edited 1 time in total.

hatchinganegg
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Re: Have We Missed the Boat on Roth Conversions?

Post by hatchinganegg » Thu Sep 13, 2018 8:29 pm

retiredjg wrote:
Thu Sep 13, 2018 7:14 pm

Then you have nothing that needs to be pro-rated if you do Roth conversions. But you should not be considering Roth conversions in your current tax bracket in most cases.

I think you may be confusing Roth conversions with the back door method of contributing to Roth IRA. They are not the same thing although a Roth conversion is involved in each process.

It seems what you are actually interested in is using the "back door" to contribute to Roth IRA. In order to do that, you need to roll your tIRAs into a 401k or similar plan. Do you know if your 401k will accept a rollover from an IRA? What about your spouse's IRA - can it be rolled into spouse's 401k?
I may be confusing what type of ROTH conversion I do so I apologize for that. Which method is recommended to handle all that money in my rollover traditional IRA’s? Yes, my current 401K will allow rollovers from an IRA.
Last edited by hatchinganegg on Thu Sep 13, 2018 11:57 pm, edited 2 times in total.

hatchinganegg
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Re: Have We Missed the Boat on Roth Conversions?

Post by hatchinganegg » Thu Sep 13, 2018 11:27 pm

FiveK wrote:
Thu Sep 13, 2018 8:21 pm
hatchinganegg wrote:
Thu Sep 13, 2018 5:54 pm
It’s very possible I’m missing something huge here.
That seems the case. But don't worry - everyone here didn't know these details until they did.
Thanks for this, I have a lot to learn and am open to more education.
FiveK wrote:
Thu Sep 13, 2018 8:21 pm
Let’s say I wanted to have 100k in Roth IRA that I could withdraw from penalty free before age 59&1/2. I thought I might be able to do this utilizing a Backdoor Roth conversion.
No. If you have $100K in a Roth IRA that you could withdraw penalty free (e.g., the $100K is all contributions, traditional->Roth conversions that are at least 5 years old, etc.) then you simply withdraw it.
Sorry I mis-stated this. I updated my questions above. How would I go about getting 100K in a ROTH IRA in the most tax efficient manner?
FiveK wrote:
Thu Sep 13, 2018 8:21 pm
ETA: missed "wanted to" at first read, so the above answer refers to the "withdraw from" part. There are various ways to get $100K into a Roth IRA, but a backdoor Roth process can do so no faster than the IRS maximum ($5.5K or $6.5K depending on age) per year.
I do not qualify for the 5500 annual contribution due to my MAGI
FiveK wrote:
Thu Sep 13, 2018 8:21 pm
If I only convert 100K and still have 500K in a traditional IRA won’t I be subject to the aggregation and pro-Rata rues?
No. You will pay tax on the $100K converted. How much tax will depend on your other joint income that year, but there will be no aggregation or pro-rata concerns.
I think you answered one of my questions here. To summarize, during the conversion itself I do not have to worry about aggregation or pro-Rata, maybe some taxes on the growth. Did I get that right? I thought that the pro-Rata and aggregation does apply when withdrawing which is the Crux of my concerns. The extra taxation that occurs by leaving any substantial amount in a trad IRA seems to negate the benefit of having converted funds.
FiveK wrote:
Thu Sep 13, 2018 8:21 pm
A Backdoor Roth IRA is a procedure used when you have so much income in the current year that you are above theRoth IRA Contribution Limits but want to take some of that year's pay and put it into a Roth IRA.

Converting existing pre-tax traditional IRA amounts to a Roth IRA is often called a Roth IRA conversion, and is different from the backdoor Roth process.

If you tell us exactly what you want to do, we can (probably) name it and explain it. :)
Thank You for the clarification. I really did have this messed up. My questions updated in the post are:

Questions: *Updated based on comments”
1. I want to retire early (Before age 59&1/2) and take withdrawals from investments in the most tax efficient manner. Any suggestions on how to approach this? Right now I feel like my only option is to live on after tax investments.
(I have 450K in deductible IRA and do not qualify for additional contributions to a ROTH IRA due to my MAGI. I am concerned about the IRA aggregation rules and pro-Rata taxation should I move forward with IRA conversions and attempt to withdraw later).

2. Is there still any benefit to investing in my employer’s ROTH 401K when I am in the 24% federal tax bracket?
a. Should I invest ROTH 401K up to 18500, Additionally contribute after tax, and perform a mega back door roth conversion of the after tax?
b. Should I invest Deductible up to 18500, Additionally contribute after tax, and perform a mega back door roth conversion of the after tax?

hatchinganegg
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Re: Have We Missed the Boat on Roth Conversions?

Post by hatchinganegg » Thu Sep 13, 2018 11:51 pm

retiredjg wrote:
Thu Sep 13, 2018 4:45 pm
I've read your post a few times and I'm not sure I understand what the question is. Whatever the question is, we need to know your current tax bracket (do you need help with that?) and we need to know who those various accounts belong to - his vs hers.

I'll read it some more and see if I can figure it out.

I see you did include your current tax bracket.
Hi There. I updated the questions in my post and hope they are more clear. Thank you for your patience.

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FiveK
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Re: Have We Missed the Boat on Roth Conversions?

Post by FiveK » Fri Sep 14, 2018 1:50 am

hatchinganegg wrote:
Thu Sep 13, 2018 11:27 pm
To summarize, during the conversion itself I do not have to worry about aggregation or pro-Rata, maybe some taxes on the growth. Did I get that right? I thought that the pro-Rata and aggregation does apply when withdrawing which is the Crux of my concerns. The extra taxation that occurs by leaving any substantial amount in a trad IRA seems to negate the benefit of having converted funds.
We need to clarify the meaning of "the conversion itself."

If you are talking about the existing $709K you have in traditional accounts and converting that to Roth (or simply withdrawing after age 59.5), "pro-Rata and aggregation" is irrelevant. You simply pay tax at your marginal rate on whatever amount you choose to convert (or withdraw after age 59.5). This is a traditional->Roth conversion (or simply a withdrawal).

If you are talking about making new post-tax contributions to a traditional IRA, then converting those to a Roth IRA to get around the MAGI limit on direct Roth contributions, then "the pro-Rata and aggregation" rules do apply. This is the backdoor Roth process.

To which do you refer?
Questions: *Updated based on comments”
1. I want to retire early (Before age 59&1/2) and take withdrawals from investments in the most tax efficient manner. Any suggestions on how to approach this? Right now I feel like my only option is to live on after tax investments.
See How to withdraw funds from your IRA and 401k without penalty before age 59.5.

If you want to use the backdoor Roth IRA process to add $5500/person/year to your Roth IRAs, you should each investigate rolling your current pre-tax IRA balances into your respective 401k/TSP accounts. With $0 pre-tax IRA balances, the way would be clear for the backdoor Roth IRA process.
(I have 450K in deductible IRA and do not qualify for additional contributions to a ROTH IRA due to my MAGI. I am concerned about the IRA aggregation rules and pro-Rata taxation should I move forward with IRA conversions and attempt to withdraw later).
Just repeating: aggregation and pro-rata are completely irrelevant when the discussion is limited to the pre-tax money already residing in your IRAs.
2. Is there still any benefit to investing in my employer’s ROTH 401K when I am in the 24% federal tax bracket?
a. Should I invest ROTH 401K up to 18500, Additionally contribute after tax, and perform a mega back door roth conversion of the after tax?
Probably not, unless you expect huge pension payments while you are retired and withdrawing from the traditional accounts.
b. Should I invest Deductible up to 18500, Additionally contribute after tax, and perform a mega back door roth conversion of the after tax?
Seems a fine plan. Note that a Mega Backdoor Roth IRA also has nothing whatsoever to do with your existing tIRA balances, and nothing to do with any "regular" backdoor Roth IRA process you may choose to do.

The traditional 401k is likely better because the $709K might grow to ~$1 million in today's dollars over the next 7 years. Withdrawing that at 4%/yr would be ~$40K/yr. It would take a lot of other income added to $40K/yr to get close to the 24% bracket in retirement.

TwstdSista
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Re: Have We Missed the Boat on Roth Conversions?

Post by TwstdSista » Fri Sep 14, 2018 2:00 am

To clarify, there are two different processes here: Roth conversions and Backdoor Roth contributions.

A conversion from a traditional IRA to a Roth IRA is 100% taxable, assuming no non-deductible contributions in the traditional IRA. If you convert a total of $100,000 you will owe taxes on the entire amount, not just the 'growth'.

A Backdoor Roth contribution involves making a non-deductible contribution to your traditional IRA and then converting it to your Roth IRA. That $5500 contribution is taxed using the pro-rata rule which totals all amounts in traditional, SEP and SIMPLE IRAs as of December 31st of the year the Backdoor Roth contribution was made. See IRS form 8606.

If you roll your traditional IRAs into your current 401k plans before the year ends, you will be able to make Backdoor Roth contributions without having to pay taxes on it. Also, IRAs are individual -- if one spouse can get their traditional IRA balance to $0 then that spouse can make a tax free Backdoor Roth contribution regardless of the traditional IRA balances held by the other spouse.

(not sure if this helped clarify the distinction for you....)

retiredjg
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Re: Have We Missed the Boat on Roth Conversions?

Post by retiredjg » Fri Sep 14, 2018 6:02 am

hatching...it appears you want to have $100k in spendable money and you want to accumulate it in about 7 years. There are several ways to do this, but I am not sure that Roth conversions at 24% is your best route. It could be done however.

1) The most obvious route is to just save about $15k a year in a taxable account. A way to do that would be to switch your 401k and TSP contributions to traditional (not Roth) and put the tax savings from that into a taxable account in addition to whatever else would be needed to make it to $15k.

2) Another approach would be for you and your spouse to each move your IRAs into your work plans and then each put $5,500 into Roth IRA (using the back door method) and save an additional $4k in a taxable account as above.

3) A third approach would be to put money into your after-tax account in the 401k and roll that out to Roth IRA a few times a year (mega-backdoor).

4) A fourth approach would be to convert parts of your IRA and/or spouse's IRA to Roth each year.

5) Some combination of the above.

What is becoming clearer as I write all this is that your $100k is going to be taxed at 24% federal no matter how you do it. Unless I'm missing something....


A few things that might be handy to know.

Do you have any idea what your federal tax bracket will be in the years you are working a lower paying job? And during retirement with the pension I assume your spouse will be getting?

Is the $100k a real number or did you just pick an example? Is it only needed for the year or two you take off?

About how much do you think could be saved each year for the next 7 years?

hatchinganegg
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Re: Have We Missed the Boat on Roth Conversions?

Post by hatchinganegg » Fri Sep 14, 2018 11:07 pm

FiveK wrote:
Fri Sep 14, 2018 1:50 am
We need to clarify the meaning of "the conversion itself."

If you are talking about the existing $709K you have in traditional accounts and converting that to Roth (or simply withdrawing after age 59.5), "pro-Rata and aggregation" is irrelevant. You simply pay tax at your marginal rate on whatever amount you choose to convert (or withdraw after age 59.5). This is a traditional->Roth conversion (or simply a withdrawal).
Gotcha. When I was reading about these initially I thought withdrawal was referring to the time when you want to spend it, not really the rollover/conversion part. Now that makes sense.
FiveK wrote:
Fri Sep 14, 2018 1:50 am
If you are talking about making new post-tax contributions to a traditional IRA, then converting those to a Roth IRA to get around the MAGI limit on direct Roth contributions, then "the pro-Rata and aggregation" rules do apply. This is the backdoor Roth process

To which do you refer?

If you want to use the backdoor Roth IRA process to add $5500/person/year to your Roth IRAs, you should each investigate rolling your current pre-tax IRA balances into your respective 401k/TSP accounts. With $0 pre-tax IRA balances, the way would be clear for the backdoor Roth IRA process

Let me make sure I am finally understanding this Backdoor business:
I set up an in-plan trIRA, I roll 5500 from my pre-tax 401K to that, and then I convert that immediately to an in-plan ROTH IRA? Before doing this I want to make sure I have zero money in traditional IRA’s so I would have to roll all these back to my 401k(if allowed) in order to avoid the aggregation rule and pro-Rata taxation? I’m starting to think this is not worth it.
FiveK wrote:
Fri Sep 14, 2018 1:50 am
b. Should I invest Deductible up to 18500, Additionally contribute after tax, and perform a mega back door roth conversion of the after tax?
Seems a fine plan. Note that a Mega Backdoor Roth IRA also has nothing whatsoever to do with your existing tIRA balances, and nothing to do with any "regular" backdoor Roth IRA process you may choose to do.
Thank You! Even with Mega ultimately I don’t get away from my paying taxes on my initial contribution. Are there any penalties from taking contributions from a mega-fed Roth before age 59&1/2 (As long as it has been sitting there 5 years)?
FiveK wrote:
Fri Sep 14, 2018 1:50 am
The traditional 401k is likely better because the $709K might grow to ~$1 million in today's dollars over the next 7 years. Withdrawing that at 4%/yr would be ~$40K/yr. It would take a lot of other income added to $40K/yr to get close to the 24% bracket in retirement.
I’m pretty much convinced now to leave my traditional IRA’s right where they are at.
Thanks for your advice.

hatchinganegg
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Re: Have We Missed the Boat on Roth Conversions?

Post by hatchinganegg » Fri Sep 14, 2018 11:12 pm

TwstdSista wrote:
Fri Sep 14, 2018 2:00 am
To clarify, there are two different processes here: Roth conversions and Backdoor Roth contributions.

A conversion from a traditional IRA to a Roth IRA is 100% taxable, assuming no non-deductible contributions in the traditional IRA. If you convert a total of $100,000 you will owe taxes on the entire amount, not just the 'growth'.

A Backdoor Roth contribution involves making a non-deductible contribution to your traditional IRA and then converting it to your Roth IRA. That $5500 contribution is taxed using the pro-rata rule which totals all amounts in traditional, SEP and SIMPLE IRAs as of December 31st of the year the Backdoor Roth contribution was made. See IRS form 8606.

If you roll your traditional IRAs into your current 401k plans before the year ends, you will be able to make Backdoor Roth contributions without having to pay taxes on it. Also, IRAs are individual -- if one spouse can get their traditional IRA balance to $0 then that spouse can make a tax free Backdoor Roth contribution regardless of the traditional IRA balances held by the other spouse.

(not sure if this helped clarify the distinction for you....)
This explanation was very clear. Thank you for simplifying!

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FiveK
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Re: Have We Missed the Boat on Roth Conversions?

Post by FiveK » Fri Sep 14, 2018 11:30 pm

hatchinganegg wrote:
Fri Sep 14, 2018 11:07 pm
Gotcha. When I was reading about these initially I thought withdrawal was referring to the time when you want to spend it, not really the rollover/conversion part. Now that makes sense.
I hope that is what you think now, because withdrawal is referring to the time when you want to spend it
Let me make sure I am finally understanding this Backdoor business:
I set up an in-plan trIRA, I roll 5500 from my pre-tax 401K to that, and then I convert that immediately to an in-plan ROTH IRA? Before doing this I want to make sure I have zero money in traditional IRA’s so I would have to roll all these back to my 401k(if allowed) in order to avoid the aggregation rule and pro-Rata taxation? I’m starting to think this is not worth it.
IRAs have nothing to do with "in-plan". The word "plan" corresponds to a 401k.

Consider contributions to a 401k completely separate from contributions to an IRA.
Thank You! Even with Mega ultimately I don’t get away from my paying taxes on my initial contribution. Are there any penalties from taking contributions from a mega-fed Roth before age 59&1/2 (As long as it has been sitting there 5 years)?
No penalties for that scenario.
FiveK wrote:
Fri Sep 14, 2018 1:50 am
The traditional 401k is likely better because the $709K might grow to ~$1 million in today's dollars over the next 7 years. Withdrawing that at 4%/yr would be ~$40K/yr. It would take a lot of other income added to $40K/yr to get close to the 24% bracket in retirement.
I’m pretty much convinced now to leave my traditional IRA’s right where they are at.
Thanks for your advice.
Continuing to make traditional 401k contributions does seem correct for you.

Whether you should pursue backdoor Roth IRA contributions is a separate issue. Money in a Roth account generally beats money in a taxable account, but it will take some work to clear the path (e.g., roll all pre-tax IRA money into your 401k) for the backdoor Roth IRA process.

Perhaps see the 'Basic Terms' tab in the personal finance toolbox spreadsheet. It won't explain everything, but it might help you distinguish between 401k and IRA accounts.

hatchinganegg
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Re: Have We Missed the Boat on Roth Conversions?

Post by hatchinganegg » Fri Sep 14, 2018 11:32 pm

retiredjg wrote:
Fri Sep 14, 2018 6:02 am
hatching...it appears you want to have $100k in spendable money and you want to accumulate it in about 7 years. There are several ways to do this, but I am not sure that Roth conversions at 24% is your best route. It could be done however.
After deep diving I’m beginning to agree with your statement.
retiredjg wrote:
Fri Sep 14, 2018 6:02 am
1) The most obvious route is to just save about $15k a year in a taxable account. A way to do that would be to switch your 401k and TSP contributions to traditional (not Roth) and put the tax savings from that into a taxable account in addition to whatever else would be needed to make it to $15k.
This was what I was working towards but then started wondering if I was taking the most tax efficient approach. I do like how you point out I am growing the tax savings (by switching to pre-tax 401k/TSP contributions). I had not thought about it in this way.
retiredjg wrote:
Fri Sep 14, 2018 6:02 am
2) Another approach would be for you and your spouse to each move your IRAs into your work plans and then each put $5,500 into Roth IRA (using the back door method) and save an additional $4k in a taxable account as above.
The thought of rolling my IRA’s back into my 401k does not appeal to me. They are doing very well. My employer plan is with Fidelity but the choices are still limited.
retiredjg wrote:
Fri Sep 14, 2018 6:02 am
3) A third approach would be to put money into your after-tax account in the 401k and roll that out to Roth IRA a few times a year (mega-backdoor).
I like this idea. It was my 2B scenario. If I am retired early, can this be tapped prior to age 59&1/2 without penalty?
retiredjg wrote:
Fri Sep 14, 2018 6:02 am
4) A fourth approach would be to convert parts of your IRA and/or spouse's IRA to Roth each year.

5) Some combination of the above.

What is becoming clearer as I write all this is that your $100k is going to be taxed at 24% federal no matter how you do it. Unless I'm missing something....
You pretty much captured it all. I think I’m stuck with that tax.

retiredjg wrote:
Fri Sep 14, 2018 6:02 am
Do you have any idea what your federal tax bracket will be in the years you are working a lower paying job? And during retirement with the pension I assume your spouse will be getting?
I think we would be in the 22% bracket based on 2018 values.
retiredjg wrote:
Fri Sep 14, 2018 6:02 am
Is the $100k a real number or did you just pick an example? Is it only needed for the year or two you take off?
It is a number I picked as an example. I would like to have about 60k to take off for two years.
retiredjg wrote:
Fri Sep 14, 2018 6:02 am
About how much do you think could be saved each year for the next 7 years?
I can conservatively save 12K annually in after tax dollars.

Thank you for finding the needle in the haystack of my questions.

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slow n steady
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Re: Have We Missed the Boat on Roth Conversions?

Post by slow n steady » Fri Sep 14, 2018 11:36 pm

You won't be doing any back door roth contributions. I guess there is a small possibility that you would if you roll all of your current traditional IRA's into your current 401k (If your plan allows that).

It looks like you have assets of ~817k. This will grow by the time you retire.

To give you any real advice:
1. What is your current annual spend (not income)?
2. How much are you and your wife saving annually for retirement?
3. When you retire at 50, how much do you think you will need for annual spending?
4. At age 50, how much income will your wife be bringing in?
5. You think you will go back to work at a lower paying job after a year or two. Roughly how much income do you expect from this? Are you wanting to fiscally not plan on going back to work at all to give you the option when the time comes?

The devil is in the details, but you would very likely be better off going all traditional in your 401k.

hatchinganegg
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Re: Have We Missed the Boat on Roth Conversions?

Post by hatchinganegg » Fri Sep 14, 2018 11:47 pm

FiveK wrote:
Fri Sep 14, 2018 11:30 pm
hatchinganegg wrote:
Fri Sep 14, 2018 11:07 pm
Gotcha. When I was reading about these initially I thought withdrawal was referring to the time when you want to spend it, not really the rollover/conversion part. Now that makes sense.
I hope that is what you think now, because withdrawal is referring to the time when you want to spend it
Earlier you wrote “You simply pay tax at your marginal rate on whatever amount you choose to convert (or withdraw after age 59.5). This is a traditional->Roth conversion (or simply a withdrawal).” This sounds like the conversion time and not the spend time.

FiveK wrote:
Fri Sep 14, 2018 11:30 pm
IRAs have nothing to do with "in-plan".

The word "plan" corresponds to a 401k.
Consider contributions to a 401k completely separate from contributions to an IRA.
Okay. In the Backdoor, am I still rolling money from a 401K to traditional IRA as the first step? If no, how am I contributing to a traditional IRA if I am maxing out 401k?
FiveK wrote:
Fri Sep 14, 2018 11:30 pm
No penalties for that scenario.
YEAH!
FiveK wrote:
Fri Sep 14, 2018 1:50 am
Continuing to make traditional 401k contributions does seem correct for you.
Whether you should pursue backdoor Roth IRA contributions is a separate issue. Money in a Roth account generally beats money in a taxable account, but it will take some work to clear the path (e.g., roll all pre-tax IRA money into your 401k) for the backdoor Roth IRA process.
ok
FiveK wrote:
Fri Sep 14, 2018 11:30 pm
Perhaps see the 'Basic Terms' tab in the personal finance toolbox spreadsheet. It won't explain everything, but it might help you distinguish between 401k and IRA accounts.
Thank you.

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FiveK
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Re: Have We Missed the Boat on Roth Conversions?

Post by FiveK » Fri Sep 14, 2018 11:57 pm

hatchinganegg wrote:
Fri Sep 14, 2018 11:47 pm
FiveK wrote:
Fri Sep 14, 2018 11:30 pm
hatchinganegg wrote:
Fri Sep 14, 2018 11:07 pm
Gotcha. When I was reading about these initially I thought withdrawal was referring to the time when you want to spend it, not really the rollover/conversion part. Now that makes sense.
I hope that is what you think now, because withdrawal is referring to the time when you want to spend it
Earlier you wrote “You simply pay tax at your marginal rate on whatever amount you choose to convert (or withdraw after age 59.5). This is a traditional->Roth conversion (or simply a withdrawal).” This sounds like the conversion time and not the spend time.
The word "or" here refers to two different things, not "in other words" - sorry if that wasn't clear. You pay tax when the money leaves the tIRA, whether it is then rolled over to a Roth IRA or withdrawn for spending.
Okay. In the Backdoor, am I still rolling money from a 401K to traditional IRA as the first step? If no, how am I contributing to a traditional IRA if I am maxing out 401k?
No, the backdoor Roth IRA process has nothing to do with removing money from a 401k. The first step is a non-deductible contribution to a traditional IRA.

hatchinganegg
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Re: Have We Missed the Boat on Roth Conversions?

Post by hatchinganegg » Sat Sep 15, 2018 12:12 am

FiveK wrote:
Fri Sep 14, 2018 11:57 pm
hatchinganegg wrote:
Fri Sep 14, 2018 11:47 pm
FiveK wrote:
Fri Sep 14, 2018 11:30 pm
hatchinganegg wrote:
Fri Sep 14, 2018 11:07 pm
Gotcha. When I was reading about these initially I thought withdrawal was referring to the time when you want to spend it, not really the rollover/conversion part. Now that makes sense.
I hope that is what you think now, because withdrawal is referring to the time when you want to spend it
Earlier you wrote “You simply pay tax at your marginal rate on whatever amount you choose to convert (or withdraw after age 59.5). This is a traditional->Roth conversion (or simply a withdrawal).” This sounds like the conversion time and not the spend time.
The word "or" here refers to two different things, not "in other words" - sorry if that wasn't clear. You pay tax when the money leaves the tIRA, whether it is then rolled over to a Roth IRA or withdrawn for spending.
Okay. In the Backdoor, am I still rolling money from a 401K to traditional IRA as the first step? If no, how am I contributing to a traditional IRA if I am maxing out 401k?
No, the backdoor Roth IRA process has nothing to do with removing money from a 401k. The first step is a non-deductible contribution to a traditional IRA.
Thanks for withdrawal clarification.
Is the Backdoor Roth a smaller version of a mega with added tax pitfalls?

lgerla
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Re: Have We Missed the Boat on Roth Conversions?

Post by lgerla » Sat Sep 15, 2018 12:37 am

Another option could see you saving on taxes if you wait to retire until age 55.

The IRS 401k withdrawal rules contain an exception to the 10% early withdrawal penalty before age 59-1/2 if you leave employment for any reason after age 55. The only money that would qualify is money in the 401(k) plan of the employer from which you separate employment.

The problem is, many 401(k) plan rules only allow full distributions, or substantially equal payments. What you are looking for is whether your employer plan allows partial withdrawals after you leave employment. If so, and your other household income is just your wife's salary, you may be withdrawing it into a lower tax bracket.

This all depends on you waiting until 55 to leave your current employer. You could not leave at 54 or earlier and get the exception to the penalty after you turn 55.

hatchinganegg
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Re: Have We Missed the Boat on Roth Conversions?

Post by hatchinganegg » Sat Sep 15, 2018 1:52 am

Hi “Slow n Steady” Let me attempt to answer your questions below.
slow n steady wrote:
Fri Sep 14, 2018 11:36 pm
To give you any real advice:
1. What is your current annual spend (not income)?
We spend about 90K annually which includes extra house payments.
slow n steady wrote:
Fri Sep 14, 2018 11:36 pm
2. How much are you and your wife saving annually for retirement?

We max out our 401K, 37K Total. Plus about 15K-20K in after tax savings.
slow n steady wrote:
Fri Sep 14, 2018 11:36 pm
3. When you retire at 50, how much do you think you will need for annual spending?
70K
slow n steady wrote:
Fri Sep 14, 2018 11:36 pm
4. At age 50, how much income will your wife be bringing in?
Conservatively assuming no raises $85K
slow n steady wrote:
Fri Sep 14, 2018 11:36 pm
5. You think you will go back to work at a lower paying job after a year or two. Roughly how much income do you expect from this? Are you wanting to fiscally not plan on going back to work at all to give you the option when the time comes?
Great question! I do want to work. Assume a 2 year break and then I start adding 20K to the income.
slow n steady wrote:
Fri Sep 14, 2018 11:36 pm
The devil is in the details, but you would very likely be better off going all traditional in your 401k.
Thank you for great questions and reviewing this posting!

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FiveK
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Re: Have We Missed the Boat on Roth Conversions?

Post by FiveK » Sat Sep 15, 2018 1:54 am

hatchinganegg wrote:
Sat Sep 15, 2018 12:12 am
Is the Backdoor Roth a smaller version of a mega with added tax pitfalls?
It's best to think of them as completely different things, despite the name similarity - because they are completely different things.

One is a non-deductible tIRA contribution followed by a traditional IRA->Roth IRA conversion.

The other is a non-Roth after tax contribution to a 401k, followed by either an in-plan rollover to a Roth 401k or an in-service distribution to a Roth IRA.

hatchinganegg
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Re: Have We Missed the Boat on Roth Conversions?

Post by hatchinganegg » Sat Sep 15, 2018 1:56 am

lgerla wrote:
Sat Sep 15, 2018 12:37 am
Another option could see you saving on taxes if you wait to retire until age 55.

The IRS 401k withdrawal rules contain an exception to the 10% early withdrawal penalty before age 59-1/2 if you leave employment for any reason after age 55. The only money that would qualify is money in the 401(k) plan of the employer from which you separate employment.

The problem is, many 401(k) plan rules only allow full distributions, or substantially equal payments. What you are looking for is whether your employer plan allows partial withdrawals after you leave employment. If so, and your other household income is just your wife's salary, you may be withdrawing it into a lower tax bracket.

This all depends on you waiting until 55 to leave your current employer. You could not leave at 54 or earlier and get the exception to the penalty after you turn 55.
I had not heard of this option before. Thank you for this tip! I do want to take a break in there, but who knows what changes will occur when I turn 50 in 7 years.

hatchinganegg
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Re: Have We Missed the Boat on Roth Conversions?

Post by hatchinganegg » Sat Sep 15, 2018 2:06 am

FiveK wrote:
Sat Sep 15, 2018 1:54 am
hatchinganegg wrote:
Sat Sep 15, 2018 12:12 am
Is the Backdoor Roth a smaller version of a mega with added tax pitfalls?
It's best to think of them as completely different things, despite the name similarity - because they are completely different things.

One is a non-deductible tIRA contribution followed by a traditional IRA->Roth IRA conversion.

The other is a non-Roth after tax contribution to a 401k, followed by either an in-plan rollover to a Roth 401k or an in-service distribution to a Roth IRA.
I respect your knowledge and understanding of the finer nuances. I have to go to the 30,000 foot view relative to my tax treatment to understand an overall flow. In doing so I over simplified the characterization of these accounts. This was my first post and have learned so much from you all already. Much thanks FiveK!

TwstdSista
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Re: Have We Missed the Boat on Roth Conversions?

Post by TwstdSista » Sat Sep 15, 2018 4:58 am

Wow, you are doing great!

I just want to clarify that the Backdoor Roth contribution will trigger tax consequences in your situation. The balance of all of your traditional/SEP/SIMPLE IRAs (basically non-Roth IRAs) are factored into the tax equation. A non-deductible contribution to a traditional IRA (from your regular cash/checking account) which is then converted into a Roth IRA is taxed based on the value of all traditional IRAs held by each taxpayer on 12-31 of that year.

This is why rolling your traditional IRAs into your respective 401k plans is often a good idea. (401k plans may also offer some better protections). I'm not saying you should do this, it depends on the options in your 401k and your own comfort level. I just don't want to you do a Backdoor Roth contribution (or two) and then unexpectedly get hit with taxes on the majority of the $5500 (each).

hatchinganegg
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Re: Have We Missed the Boat on Roth Conversions?

Post by hatchinganegg » Sat Sep 15, 2018 11:13 am

TwstdSista wrote:
Sat Sep 15, 2018 4:58 am
Wow, you are doing great!
I just want to clarify that the Backdoor Roth contribution will trigger tax consequences in your situation. The balance of all of your traditional/SEP/SIMPLE IRAs (basically non-Roth IRAs) are factored into the tax equation. A non-deductible contribution to a traditional IRA (from your regular cash/checking account) which is then converted into a Roth IRA is taxed based on the value of all traditional IRAs held by each taxpayer on 12-31 of that year.
This is why rolling your traditional IRAs into your respective 401k plans is often a good idea. (401k plans may also offer some better protections). I'm not saying you should do this, it depends on the options in your 401k and your own comfort level. I just don't want to you do a Backdoor Roth contribution (or two) and then unexpectedly get hit with taxes on the majority of the $5500 (each).
Thank You TwstdSista! I am not planning to roll my trad IRAs back into my 401K so will not be executing any Backdoor Roth contributions. I am, however, going to perform a Mega Roth conversion!

retiredjg
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Re: Have We Missed the Boat on Roth Conversions?

Post by retiredjg » Sat Sep 15, 2018 2:05 pm

hatchinganegg wrote:
Fri Sep 14, 2018 11:32 pm
retiredjg wrote:
Fri Sep 14, 2018 6:02 am
3) A third approach would be to put money into your after-tax account in the 401k and roll that out to Roth IRA a few times a year (mega-backdoor).
I like this idea. It was my 2B scenario. If I am retired early, can this be tapped prior to age 59&1/2 without penalty?
Yes and no. Here is an example.

Let's say that in 2018, you put $10k of after-tax money into the after-tax sub-account of your 401k and roll it and its earnings of $500 out to Roth IRA in 2018. The $500 will trigger tax at your 24% rate. The $500 gets attached to a 5 tax year clock after which you can take out that money without penalty. The clock is finished on January 1, 2023 (2018 is counted as a full year even if you do it in December).

The $10k does not have a clock but you cannot take that money without taking the $500 first. As you can see, a 10% penalty on that $500 is pretty insignificant if you really need the money.

In 2019, you do something similar. Again, the taxable portion will have a new 5 tax year clock which will expire a year later than the first one and the already taxed portion will not have a clock.

And so on. So if you do this mega-back door some each year for 5 - 7 years, you should have what you need to tide you over your 2 year break. Obviously, you will need to keep good records.

If there is any money in Roth IRA that got there by ordinary direct contributions, that money comes out before the mega-back door money. Right now, I don't remember if you have any.


Now, there is another way around this. When you do the rollover from your after-tax account you can send the after-tax money to Roth and the pre-tax money to your traditional IRA. In a case like this, there is no 5 tax year clock on any of the money that gets into Roth IRA.


If you find that you cannot save enough using the mega back door above, you can simply convert some IRA to Roth IRA and pay tax on that out of savings. Again, there will be a 5 tax year clock but this time it is on the whole conversion because the whole thing will be taxable when you do the Roth conversion.

The bottom line is that I've come full circle on your original question. I had not thought that doing ordinary Roth conversions at 24% was a great idea, but if you need to save this lump of money to be available in 7 years, I can't see any way to do it cheaper than 24%.

hatchinganegg
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Re: Have We Missed the Boat on Roth Conversions?

Post by hatchinganegg » Sun Sep 16, 2018 1:23 am

retiredjg wrote:
Sat Sep 15, 2018 2:05 pm

The $10k does not have a clock but you cannot take that money without taking the $500 first. As you can see, a 10% penalty on that $500 is pretty insignificant if you really need the money.

And so on. So if you do this mega-back door some each year for 5 - 7 years, you should have what you need to tide you over your 2 year break. Obviously, you will need to keep good records.

If there is any money in Roth IRA that got there by ordinary direct contributions, that money comes out before the mega-back door money. Right now, I don't remember if you have any.
I did not know about the order of operations on the withdrawal - standard ROTH and then taxable. Really good to know.
Yes, I have 13K in a small ROTH IRA.
retiredjg wrote:
Sat Sep 15, 2018 2:05 pm
Now, there is another way around this. When you do the rollover from your after-tax account you can send the after-tax money to Roth and the pre-tax money to your traditional IRA. In a case like this, there is no 5 tax year clock on any of the money that gets into Roth IRA.
This seems like a good plan. May not even be necessary if I don’t plan to touch it before 5 years.
retiredjg wrote:
Sat Sep 15, 2018 2:05 pm
If you find that you cannot save enough using the mega back door above, you can simply convert some IRA to Roth IRA and pay tax on that out of savings. Again, there will be a 5 tax year clock but this time it is on the whole conversion because the whole thing will be taxable when you do the Roth conversion.
This thread has convinced me not to take this route.
retiredjg wrote:
Sat Sep 15, 2018 2:05 pm
The bottom line is that I've come full circle on your original question. I had not thought that doing ordinary Roth conversions at 24% was a great idea, but if you need to save this lump of money to be available in 7 years, I can't see any way to do it cheaper than 24%.
LOL - full circle indeed. Thank you for sticking with me. Based on my numbers and what I will be able to save in addition to a mega back door, my numbers will work without an ordinary conversion.

retiredjg
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Re: Have We Missed the Boat on Roth Conversions?

Post by retiredjg » Sun Sep 16, 2018 6:24 am

Here are two links that discuss withdrawal rules from Roth IRA. Each author is someone who posts here on occasion.

https://obliviousinvestor.com/roth-ira- ... wal-rules/

https://thefinancebuff.com/rollover-aft ... 9-1-2.html

This thread has convinced me not to take this route.
I no longer know of any reason not to take this route (ordinary Roth conversions) if you change your mind. You would be paying taxes, but that would be less money out of your pocket than saving $12k in the mega back door route.

Good luck with your plan! And in the years you fall into lower tax rates, do start converting some IRA to Roth each year so that your RMDs won't be so large when you are older.

hatchinganegg
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Re: Have We Missed the Boat on Roth Conversions?

Post by hatchinganegg » Sun Sep 16, 2018 4:53 pm

retiredjg wrote:
Sun Sep 16, 2018 6:24 am
Here are two links that discuss withdrawal rules from Roth IRA. Each author is someone who posts here on occasion.

https://obliviousinvestor.com/roth-ira- ... wal-rules/

https://thefinancebuff.com/rollover-aft ... 9-1-2.html
Thank You

retiredjg wrote:
Sun Sep 16, 2018 6:24 am
This thread has convinced me not to take this route.
I no longer know of any reason not to take this route (ordinary Roth conversions) if you change your mind. You would be paying taxes, but that would be less money out of your pocket than saving $12k in the mega back door route.
I’m sorry, I meant I am no longer planning to do Backdoor Roth conversions. What additional money out of pocket are you referring to in the mega back door over the ordinary conversion? In your earlier example, are you referring to $500 earnings on the 10K?
retiredjg wrote:
Sun Sep 16, 2018 6:24 am
Good luck with your plan! And in the years you fall into lower tax rates, do start converting some IRA to Roth each year so that your RMDs won't be so large when you are older.
Thank you! Retirement planning is a whole new world. For instance, you just informed me that RMD’s are not required for ROTH which is not something I had not even started considering.

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teen persuasion
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Re: Have We Missed the Boat on Roth Conversions?

Post by teen persuasion » Mon Sep 17, 2018 7:12 am

Roth IRAs have no RMDs, but Roth 401k accounts DO have RMDs.

Traditional IRAs and traditional 401k accounts both have RMDs.

You can avoid Roth 401k RMDs by rolling the account to a Roth IRA after you leave the employer.

retiredjg
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Re: Have We Missed the Boat on Roth Conversions?

Post by retiredjg » Mon Sep 17, 2018 7:28 am

hatchinganegg wrote:
Sun Sep 16, 2018 4:53 pm
What additional money out of pocket are you referring to in the mega back door over the ordinary conversion? In your earlier example, are you referring to $500 earnings on the 10K?
If you do the mega back door for say $15k, you have to come up with $15k in "new" money (probably from income) in order to contribute that $15k. Then you also need a little money to pay tax on the earnings your $15k made before being rolled out to Roth IRA.

But you could convert $15k from your IRA to Roth IRA by only paying the tax on the $15k, not coming up with a new $15k from salary or whatever. That's why ordinary Roth conversions could be cheaper if you can't save enough extra to reach your goal each year.

Thank you! Retirement planning is a whole new world. For instance, you just informed me that RMD’s are not required for ROTH which is not something I had not even started considering.
You don't need to get obsessed with it, but some retirement planning (or just learning) at this point could be helpful for you later on. RMDs are a good example.

As you noticed, Roth IRA is not included in RMDs. You are never forced to take money from your own Roth IRA. Roth 401k and Roth TSP are subject to RMDs but this problem is easily solved by moving the money to Roth IRA before age 70.

Another tidbit on RMDs. Let's say you retire with $2 million in tax-deferred money (401k/TSP/IRA) and you don't use a lot of it each year. All of a sudden you are 70.5 and forced to take roughly $75k of that money in your first RMD year. Will that $75k push you into a higher tax bracket? As the RMD percentage goes up every year, the $75k gets bigger and bigger. Then one of you dies. The survivor, who may now be in a higher tax bracket as a single person, may have to take a very large RMD pushing the survivor into even a higher bracket.

I'm not saying this will happen, but these things can happen and occasionally produce a perfect storm of high taxes for elderly people. This can often be prevented or reduced by converting some IRA to Roth IRA every year in early retirement (or any other time income is reduced). There are some things to learn about this, but for now, simply knowing you need to have it on your radar is probably good enough.

One more thing - here is an argument for people with a pension using Roth TSP instead of traditional TSP. It is another moving part in your big picture. Might as well get familiar with it now.

https://thefinancebuff.com/most-tsp-par ... h-tsp.html

hatchinganegg
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Re: Have We Missed the Boat on Roth Conversions?

Post by hatchinganegg » Tue Sep 18, 2018 11:34 pm

teen persuasion wrote:
Mon Sep 17, 2018 7:12 am
Roth IRAs have no RMDs, but Roth 401k accounts DO have RMDs.

Traditional IRAs and traditional 401k accounts both have RMDs.

You can avoid Roth 401k RMDs by rolling the account to a Roth IRA after you leave the employer.
Thank you for this summary!

hatchinganegg
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Re: Have We Missed the Boat on Roth Conversions?

Post by hatchinganegg » Tue Sep 18, 2018 11:47 pm

retiredjg wrote:
Mon Sep 17, 2018 7:28 am
If you do the mega back door for say $15k, you have to come up with $15k in "new" money (probably from income) in order to contribute that $15k. Then you also need a little money to pay tax on the earnings your $15k made before being rolled out to Roth IRA. But you could convert $15k from your IRA to Roth IRA by only paying the tax on the $15k, not coming up with a new $15k from salary or whatever. That's why ordinary Roth conversions could be cheaper if you can't save enough extra to reach your goal each year.
I see what you are saying. If I was planning to invest that additional $$ anyway then it seems like a wash except if I wanted to reduce my trad IRA investments to mitigate potential excess rmd’s you refer to. If I am doing the mega do I have to stay in the plan? If I don’t like that plan then maybe the straight up conversion would give me more flexibility.
retiredjg wrote:
Mon Sep 17, 2018 7:28 am
You don't need to get obsessed with it, but some retirement planning (or just learning) at this point could be helpful for you later on. RMDs are a good example.
As you noticed, Roth IRA is not included in RMDs. You are never forced to take money from your own Roth IRA. Roth 401k and Roth TSP are subject to RMDs but this problem is easily solved by moving the money to Roth IRA before age 70.
Another tidbit on RMDs. Let's say you retire with $2 million in tax-deferred money (401k/TSP/IRA) and you don't use a lot of it each year. All of a sudden you are 70.5 and forced to take roughly $75k of that money in your first RMD year. Will that $75k push you into a higher tax bracket? As the RMD percentage goes up every year, the $75k gets bigger and bigger. Then one of you dies. The survivor, who may now be in a higher tax bracket as a single person, may have to take a very large RMD pushing the survivor into even a higher bracket.
I'm not saying this will happen, but these things can happen and occasionally produce a perfect storm of high taxes for elderly people. This can often be prevented or reduced by converting some IRA to Roth IRA every year in early retirement (or any other time income is reduced). There are some things to learn about this, but for now, simply knowing you need to have it on your radar is probably good enough.
I’m digging the school of retiredjg. Thanks for these added considerations! I was planning to convert IRA to ROTH in early retirement at a lower [hopefully] tax bracket.
retiredjg wrote:
Mon Sep 17, 2018 7:28 am
One more thing - here is an argument for people with a pension using Roth TSP instead of traditional TSP. It is another moving part in your big picture. Might as well get familiar with it now.
https://thefinancebuff.com/most-tsp-par ... h-tsp.html
Interesting... will do.

hatchinganegg
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Re: Have We Missed the Boat on Roth Conversions?

Post by hatchinganegg » Tue Sep 18, 2018 11:51 pm

lgerla wrote:
Sat Sep 15, 2018 12:37 am
Another option could see you saving on taxes if you wait to retire until age 55.

The IRS 401k withdrawal rules contain an exception to the 10% early withdrawal penalty before age 59-1/2 if you leave employment for any reason after age 55. The only money that would qualify is money in the 401(k) plan of the employer from which you separate employment.

The problem is, many 401(k) plan rules only allow full distributions, or substantially equal payments. What you are looking for is whether your employer plan allows partial withdrawals after you leave employment. If so, and your other household income is just your wife's salary, you may be withdrawing it into a lower tax bracket.

This all depends on you waiting until 55 to leave your current employer. You could not leave at 54 or earlier and get the exception to the penalty after you turn 55.
I missed this post so apologize for the late reply. I had read about this option after 55. I hope to get there earlier!

retiredjg
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Re: Have We Missed the Boat on Roth Conversions?

Post by retiredjg » Wed Sep 19, 2018 6:29 am

hatchinganegg wrote:
Tue Sep 18, 2018 11:47 pm
If I am doing the mega do I have to stay in the plan? If I don’t like that plan then maybe the straight up conversion would give me more flexibility.
There are a couple of things that might be considered a Mega backdoor.

One is an "in-plan Roth Rollover" where the money rolls from the after tax-account into Roth 401k (and eventually out to Roth IRA). Also known as "IRR". If you don't like your 401k plan, this is not the one to choose (if you are given a choice).

The other method is rolling the after-tax account out to Roth IRA where you can have anything you want. This gives you the most flexibility, but not every 401k plan allows this.

hatchinganegg
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Re: Have We Missed the Boat on Roth Conversions?

Post by hatchinganegg » Wed Sep 19, 2018 8:44 am

retiredjg wrote:
Wed Sep 19, 2018 6:29 am
hatchinganegg wrote:
Tue Sep 18, 2018 11:47 pm
If I am doing the mega do I have to stay in the plan? If I don’t like that plan then maybe the straight up conversion would give me more flexibility.
There are a couple of things that might be considered a Mega backdoor.

One is an "in-plan Roth Rollover" where the money rolls from the after tax-account into Roth 401k (and eventually out to Roth IRA). Also known as "IRR". If you don't like your 401k plan, this is not the one to choose (if you are given a choice).

The other method is rolling the after-tax account out to Roth IRA where you can have anything you want. This gives you the most flexibility, but not every 401k plan allows this.
Woot! My plan allows for the latter. Thanks again retiredjg.

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747driver
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Re: Have We Missed the Boat on Roth Conversions?

Post by 747driver » Wed Sep 19, 2018 11:06 am

hatchinganegg wrote:
Wed Sep 19, 2018 8:44 am
Woot! My plan allows for the latter. Thanks again retiredjg.
Just make sure, that if you are going to be contributing after-tax money to your 401(k), ie the Mega Backdoor, that you convert that money out to your Roth IRA or at a minimum, to the Roth 401(k) inside your plan. Before doing so, you'll owe taxes on any gains those after tax contributions earn. After you've converted, your gains will be tax free. Great thread and good work!
A clear conscience is a great pillow.

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celia
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Terminology Clarification

Post by celia » Wed Sep 19, 2018 11:40 am

The Backdoor Roth is a process consisting of two transactions:
* Make a non-deductible contribution to a traditional IRA
* Convert it to Roth a few days later

When you convert in this situation, if you have no other money in any of your traditional IRAs, then there is no tax on the conversion because the contribution was non-deductible (not subtracted from your income on the tax return), ie, already taxed as earned income. If you do have money in other IRAs, then the conversion is taxed using the pro rata rule since the the IRS considers all your traditional IRAs to be one IRA, for tax calculation purposes. It also considers the pre-tax and post-tax money to be co-mingled. For example, if you made a non-deductible contribution of $5,000 and then all your traditional IRAs totaled $100,000, 5% of anything you converted would be converted tax-free and 95% of the conversion would be taxed. That is an example of how the pro rata rule works. (Note that the money remaining in the traditional IRA remains a mix of pre-tax and post-tax, so that all future withdrawals/conversions will also have the pro rata rule applied.)

Since it appears you and your wife have never made a non-deductible contribution to an IRA, the pro rata rule will not apply to you. Either of you can convert as much of your traditional IRAs as you like and pay taxes on the converted amount. Note that this does not have anything to do with what percentage of the IRA(s) you convert. You can convert $1 or $1 million and every dollar will be taxed since you have never made a non-deductible contribution.

The point of your question that some responders are missing is "What can I withdraw before age 59.5 for living expenses without incurring a penalty?" That was clear to me from the beginning, but the confusing terminology elsewhere became a distraction. The answer to that is in the wiki page on Roth IRAs, near the bottom under the section titled "Distributions". Basically, any contributions and the conversions that were done at least 5 years previously can be withdrawn tax-free. When you begin distributions, you will need firm numbers for how much of your Roth is in each category. If you roll-over your Roth 401K to a Roth IRA after you leave your company, I recommend putting it in a separate Roth. You will have to do the calculations for that Roth separately.

Knowing that, you might want to max out the contributions to your Roth 401K so that you might have more to withdraw later on. Alternately, since the tax consequences would be the same, you could start saving that money in taxable instead and avoid any potential withdrawal errors and allow the Roth to "age" an extra year or two so more Roth conversions will have been over 5 years old.


With that all said, I encourage you to figure out your income up to age 100, not just age 59.5. You will likely have many more years after you turn 59.5 and if you both will start SS at age 70, you need to plan for income up to that milestone too. (In case you were not aware, your SS benefits increase 8% a year for each year you wait past your Full Retirement Age of 67.) If you can afford to wait before collecting, that will give you what some call "longevity insurance" since SS has built-in cost-of-living increases whereas some pensions do not.
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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Re: Have We Missed the Boat on Roth Conversions?

Post by gluskap » Wed Sep 19, 2018 3:00 pm

I have a similar situation to you only reversed. I want to retire at 50 while hubby will probably want to continue working. I think you want to be able to do the 5 year Roth conversion ladder so that you can early retire and pull money out without the tax consequences. Unfortunately this only really works if you are both retired and in a low tax bracket so that you can do the Roth conversions without taxes. If one of you works then it's not really possible to do this. Your options then are to save in an after tax account. You would still have to pay taxes when you sell but it would be less at capital gains rate which should be about 15% versus 24%. The other option is that you figure out a way to live on only your wife's income and reduce all your contributions. Then you won't need to pull any money from your retirement funds and just let it ride until your wife is ready to retire and then you could do the Roth conversions then if she is still below 59.5 or if she is above that then you would just withdraw normally.

hatchinganegg
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Re: Have We Missed the Boat on Roth Conversions?

Post by hatchinganegg » Thu Sep 20, 2018 6:32 am

747driver wrote:
Wed Sep 19, 2018 11:06 am
Just make sure, that if you are going to be contributing after-tax money to your 401(k), ie the Mega Backdoor, that you convert that money out to your Roth IRA or at a minimum, to the Roth 401(k) inside your plan. Before doing so, you'll owe taxes on any gains those after tax contributions earn. After you've converted, your gains will be tax free. Great thread and good work!
Will do, and thanks again.

hatchinganegg
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Re: Terminology Clarification

Post by hatchinganegg » Thu Sep 20, 2018 7:16 am

celia wrote:
Wed Sep 19, 2018 11:40 am
Since it appears you and your wife have never made a non-deductible contribution to an IRA, the pro rata rule will not apply to you. Either of you can convert as much of your traditional IRAs as you like and pay taxes on the converted amount. Note that this does not have anything to do with what percentage of the IRA(s) you convert. You can convert $1 or $1 million and every dollar will be taxed since you have never made a non-deductible contribution.
Hi Celia. Thanks for your comments. This discussion on pro-rata is what initially raised my concerns regarding Backdoor Roth conversions. I have now established that I cannot do Backdoor Roth conversions unless first moving my trad IRA’s back to my 401k.
celia wrote:
Wed Sep 19, 2018 11:40 am
The point of your question that some responders are missing is "What can I withdraw before age 59.5 for living expenses without incurring a penalty?" That was clear to me from the beginning, but the confusing terminology elsewhere became a distraction.
Thank you for understanding!
celia wrote:
Wed Sep 19, 2018 11:40 am
The answer to that is in the wiki page on Roth IRAs, near the bottom under the section titled "Distributions". Basically, any contributions and the conversions that were done at least 5 years previously can be withdrawn tax-free. When you begin distributions, you will need firm numbers for how much of your Roth is in each category. If you roll-over your Roth 401K to a Roth IRA after you leave your company, I recommend putting it in a separate Roth. You will have to do the calculations for that Roth separately.
Thanks for the additional link. It seems like I would need to roll that Roth 401K to an already existing Roth IRA or the 5 year clock will start again?
celia wrote:
Wed Sep 19, 2018 11:40 am
Knowing that, you might want to max out the contributions to your Roth 401K so that you might have more to withdraw later on. Alternately, since the tax consequences would be the same, you could start saving that money in taxable instead and avoid any potential withdrawal errors and allow the Roth to "age" an extra year or two so more Roth conversions will have been over 5 years old.
I’m not sure I understand the alternate plan. Can you explain? Iwas planning to max out my 401K pre-tax. Then also invest in my employer’s after tax and perform a mega roth conversion into an in service ROTH IRA.
celia wrote:
Wed Sep 19, 2018 11:40 am
With that all said, I encourage you to figure out your income up to age 100, not just age 59.5. You will likely have many more years after you turn 59.5 and if you both will start SS at age 70, you need to plan for income up to that milestone too. (In case you were not aware, your SS benefits increase 8% a year for each year you wait past your Full Retirement Age of 67.) If you can afford to wait before collecting, that will give you what some call "longevity insurance" since SS has built-in cost-of-living increases whereas some pensions do not.
Understood. I was specifically asking about that in between early retirement phase but am planning out retirement to a ripe old age. Thanks again for your input and advice!

hatchinganegg
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Re: Have We Missed the Boat on Roth Conversions?

Post by hatchinganegg » Thu Sep 20, 2018 7:30 am

gluskap wrote:
Wed Sep 19, 2018 3:00 pm
I have a similar situation to you only reversed. I want to retire at 50 while hubby will probably want to continue working. I think you want to be able to do the 5 year Roth conversion ladder so that you can early retire and pull money out without the tax consequences. Unfortunately this only really works if you are both retired and in a low tax bracket so that you can do the Roth conversions without taxes. If one of you works then it's not really possible to do this.
Ideally it would be great to not pay any taxes, but there might still be some benefit to doing straight ROTH conversions at the lower tax bracket if I was planning to move money there anyway to mitigate the RMD risks mentioned above. What are your thoughts on this?
gluskap wrote:
Wed Sep 19, 2018 3:00 pm
Your options then are to save in an after tax account. You would still have to pay taxes when you sell but it would be less at capital gains rate which should be about 15% versus 24%. The other option is that you figure out a way to live on only your wife's income and reduce all your contributions. Then you won't need to pull any money from your retirement funds and just let it ride until your wife is ready to retire and then you could do the Roth conversions then if she is still below 59.5 or if she is above that then you would just withdraw normally.
I am planning to do the Mega Backdoor Roth.

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