Roth conversion planning -- birds eye view questions

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DebiT
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Roth conversion planning -- birds eye view questions

Post by DebiT »

So I am now deep in the woods at trying to plan somewhat optimal Roth conversions, and am trying to develop some general principles for my situation.

Age 63, widow with survivors benefits, will take my higher benefit at 70. Just under $2M total portfolio, with about 1/3 taxable, 2/3 401K, overall AA 35/65.

RPM says that if I do no Roths, likely will be within the current 22% bracket forever, maybe 1 year of IRMAA

Given that, does it make sense, at least until 2026, but more likely up to age 72, to fill my 22% bracket, regardless of more IRMAA. RPM shows a substantially larger ending portfolio if I do this, despite larger IRMAA (with all accounts set to 35/65 AA for simplicity). I think this is because at age 72, when I stop converting, I end up in the 15% bracket for life. I need to recheck that bracket, because I have high SS but still significant RMD, but likely it's correct, at least as far as apples to apples within the RPM model

As an aside, regarding that IRMAA, I have posted in the main RPM thread that I think I've found an anomaly, so my actual IRMAA may be 1/2 that.
viewtopic.php?p=6060817#p6060817

Anyway, what are good bird's eye view principles for someone in my position, with SS income already, and a significant 401K proportion?
Age 63, life turned upside down 3/2/19, thanking God for what I've learned from this group
KlangFool
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Re: Roth conversion planning -- birds eye view questions

Post by KlangFool »

OP,

I am not that smart. So, I will stick to the big picture.

A) Do you need ACA insurance? I assume that the answer is no or you do not care about ACA insurance subsidy.

B) Do you pay state income taxes?

C) It would seem to me that it is safer to convert to 24% tax bracket for the next few years. It is only 2% more. Converting more and earlier is a safer bet especially it is only 2% more.

KlangFool
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Lee_WSP
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Re: Roth conversion planning -- birds eye view questions

Post by Lee_WSP »

The 22 is set to go back to 25, so I'd go ahead and fill up the 24 today. Otherwise yes, convert up to 22.
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LilyFleur
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Re: Roth conversion planning -- birds eye view questions

Post by LilyFleur »

DebiT wrote: Fri Jun 11, 2021 3:33 pm So I am now deep in the woods at trying to plan somewhat optimal Roth conversions, and am trying to develop some general principles for my situation.

Age 63, widow with survivors benefits, will take my higher benefit at 70. Just under $2M total portfolio, with about 1/3 taxable, 2/3 401K, overall AA 35/65.

RPM says that if I do no Roths, likely will be within the current 22% bracket forever, maybe 1 year of IRMAA

Given that, does it make sense, at least until 2026, but more likely up to age 72, to fill my 22% bracket, regardless of more IRMAA. RPM shows a substantially larger ending portfolio if I do this, despite larger IRMAA (with all accounts set to 35/65 AA for simplicity). I think this is because at age 72, when I stop converting, I end up in the 15% bracket for life. I need to recheck that bracket, because I have high SS but still significant RMD, but likely it's correct, at least as far as apples to apples within the RPM model

As an aside, regarding that IRMAA, I have posted in the main RPM thread that I think I've found an anomaly, so my actual IRMAA may be 1/2 that.
viewtopic.php?p=6060817#p6060817

Anyway, what are good bird's eye view principles for someone in my position, with SS income already, and a significant 401K proportion?
You have a very large portfolio for a single. I am curious why you are planning on staying in the 15% tax bracket after age 72? It seems to me like you might want to withdraw from your savings and have a little fun?
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DebiT
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Re: Roth conversion planning -- birds eye view questions

Post by DebiT »

KlangFool wrote: Fri Jun 11, 2021 3:42 pm OP,

I am not that smart. So, I will stick to the big picture.

A) Do you need ACA insurance? I assume that the answer is no or you do not care about ACA insurance subsidy.

B) Do you pay state income taxes?

C) It would seem to me that it is safer to convert to 24% tax bracket for the next few years. It is only 2% more. Converting more and earlier is a safer bet especially it is only 2% more.

KlangFool
I am not feeling super smart right now, more dazed by spreadsheets. But no, no ACA and yes, oh yes, California , so taxes. I’m on COBRA until a few months before Medicare next summer, so may have ACA briefly for 1/2 of next year. I haven’t even thought about that factor

I’ll try out the 24% in the model tomorrow. Good idea
Age 63, life turned upside down 3/2/19, thanking God for what I've learned from this group
Topic Author
DebiT
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Re: Roth conversion planning -- birds eye view questions

Post by DebiT »

LilyFleur wrote: Fri Jun 11, 2021 5:06 pm
DebiT wrote: Fri Jun 11, 2021 3:33 pm So I am now deep in the woods at trying to plan somewhat optimal Roth conversions, and am trying to develop some general principles for my situation.

Age 63, widow with survivors benefits, will take my higher benefit at 70. Just under $2M total portfolio, with about 1/3 taxable, 2/3 401K, overall AA 35/65.

RPM says that if I do no Roths, likely will be within the current 22% bracket forever, maybe 1 year of IRMAA

Given that, does it make sense, at least until 2026, but more likely up to age 72, to fill my 22% bracket, regardless of more IRMAA. RPM shows a substantially larger ending portfolio if I do this, despite larger IRMAA (with all accounts set to 35/65 AA for simplicity). I think this is because at age 72, when I stop converting, I end up in the 15% bracket for life. I need to recheck that bracket, because I have high SS but still significant RMD, but likely it's correct, at least as far as apples to apples within the RPM model

As an aside, regarding that IRMAA, I have posted in the main RPM thread that I think I've found an anomaly, so my actual IRMAA may be 1/2 that.
viewtopic.php?p=6060817#p6060817

Anyway, what are good bird's eye view principles for someone in my position, with SS income already, and a significant 401K proportion?
You have a very large portfolio for a single. I am curious why you are planning on staying in the 15% tax bracket after age 72? It seems to me like you might want to withdraw from your savings and have a little fun?
It’s not my plan, it’s what RPM said in results. I’m not even sure it’s accurate at this point. I have a nice budget set up, allowing for my travel than my nerves may even allow for. That’s another hurdle, learning how to travel, esp long flights, with no hubby by my side. A group is not the same. The ORC tool, which I love, says I’m in good enough shape, and so does RPM in terms of the ending numbers. It’s the finer point numbers that are hard to interpret. My current withdrawal rate is so low, about 1.5 %. Once life starts up more, a very generous travel budget makes it 2.5%. But that isn’t figuring in proper income taxes, so it all has to be re-run again.

Sigh.
Age 63, life turned upside down 3/2/19, thanking God for what I've learned from this group
KlangFool
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Re: Roth conversion planning -- birds eye view questions

Post by KlangFool »

DebiT wrote: Fri Jun 11, 2021 5:33 pm
KlangFool wrote: Fri Jun 11, 2021 3:42 pm OP,

I am not that smart. So, I will stick to the big picture.

A) Do you need ACA insurance? I assume that the answer is no or you do not care about ACA insurance subsidy.

B) Do you pay state income taxes?

C) It would seem to me that it is safer to convert to 24% tax bracket for the next few years. It is only 2% more. Converting more and earlier is a safer bet especially it is only 2% more.

KlangFool
I am not feeling super smart right now, more dazed by spreadsheets. But no, no ACA and yes, oh yes, California , so taxes. I’m on COBRA until a few months before Medicare next summer, so may have ACA briefly for 1/2 of next year. I haven’t even thought about that factor

I’ll try out the 24% in the model tomorrow. Good idea
DebiT,

Do you qualify for the COBRA subsidy under the American Rescue Plan this year?

Please check out this thread.

viewtopic.php?f=2&t=350856

KlangFool
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VanGar+Goyle
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Re: Roth conversion planning -- birds eye view questions

Post by VanGar+Goyle »

Are you still working or plan to work? That might affect health insurance, ability to use qualified retirement accounts, or contribute to IRAs.
You might also qualify for CalCobra after 18 months of COBRA.
Well, you pay a little bit, we're a little bit tough. | You pay very much,very much tough. | You pay a too much, we're too much a tough. | How much you pay? ... Well, then we're plenty tough. - Marx
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DebiT
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Re: Roth conversion planning -- birds eye view questions

Post by DebiT »

No more working, not qualified for Cobra subsidy. Once I figure out my general Roth conversion plan, though, I should check it against allowing for an ACA subsidy for 6 months in 2022 until I qualify for Medicare. The ACA PPO plan here in So Cal is not first rate, in my opinion, but then I’m very picky. So I’ll keep my COBRA thru this year, but likely not thru April 2022, even though I can. I got 3 years of COBRA due to my husband’s death.

I’ll be trying out the RPM model filling not just the 22% but also the 24% in a bit here.
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delamer
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Re: Roth conversion planning -- birds eye view questions

Post by delamer »

This is really getting into the weeds, but if you have heirs who’ll be in a high tax bracket then Roths are even more attractive.

I’m sorry you won’t get to travel with your husband.
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tibbitts
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Re: Roth conversion planning -- birds eye view questions

Post by tibbitts »

Instead of giving us a choice of federal brackets, you should supply your actual marginal brackets: federal, state, and whoever else charges you income tax included. Now if in a certain year you plan to change local taxing authorities... that does make things more complicated.

My guess is you'll want to convert into the 24% territory with federal only, depending on future plans possibly.
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LilyFleur
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Re: Roth conversion planning -- birds eye view questions

Post by LilyFleur »

DebiT wrote: Fri Jun 11, 2021 5:40 pm
LilyFleur wrote: Fri Jun 11, 2021 5:06 pm
DebiT wrote: Fri Jun 11, 2021 3:33 pm So I am now deep in the woods at trying to plan somewhat optimal Roth conversions, and am trying to develop some general principles for my situation.

Age 63, widow with survivors benefits, will take my higher benefit at 70. Just under $2M total portfolio, with about 1/3 taxable, 2/3 401K, overall AA 35/65.

RPM says that if I do no Roths, likely will be within the current 22% bracket forever, maybe 1 year of IRMAA

Given that, does it make sense, at least until 2026, but more likely up to age 72, to fill my 22% bracket, regardless of more IRMAA. RPM shows a substantially larger ending portfolio if I do this, despite larger IRMAA (with all accounts set to 35/65 AA for simplicity). I think this is because at age 72, when I stop converting, I end up in the 15% bracket for life. I need to recheck that bracket, because I have high SS but still significant RMD, but likely it's correct, at least as far as apples to apples within the RPM model

As an aside, regarding that IRMAA, I have posted in the main RPM thread that I think I've found an anomaly, so my actual IRMAA may be 1/2 that.
viewtopic.php?p=6060817#p6060817

Anyway, what are good bird's eye view principles for someone in my position, with SS income already, and a significant 401K proportion?
You have a very large portfolio for a single. I am curious why you are planning on staying in the 15% tax bracket after age 72? It seems to me like you might want to withdraw from your savings and have a little fun?
It’s not my plan, it’s what RPM said in results. I’m not even sure it’s accurate at this point. I have a nice budget set up, allowing for my travel than my nerves may even allow for. That’s another hurdle, learning how to travel, esp long flights, with no hubby by my side. A group is not the same. The ORC tool, which I love, says I’m in good enough shape, and so does RPM in terms of the ending numbers. It’s the finer point numbers that are hard to interpret. My current withdrawal rate is so low, about 1.5 %. Once life starts up more, a very generous travel budget makes it 2.5%. But that isn’t figuring in proper income taxes, so it all has to be re-run again.

Sigh.
I understand. I have been single now for ten years, and I doubt if I would travel alone. I have gone with my two young adult children (paying for all three of us), which was great fun, and I would like to take some trips with my sister in the future.

It is a bit of a challenge to do all of your own financial planning as a single, given all the moving parts (ACA subsidies, IRMAA, Roth conversions, tax implications, any help for children, etc.) I'm pretty good at spreadsheets but I like guidance from more than one source. I have a brokerage account at Schwab, and my advisor gives me a complementary financial plan update once a year, running the Monte Carlo simulations. It gives me a report showing my spendable income per year until I'm 90. (the program subtracts for federal and state taxes). I find that a useful data point. I don't know if you have an account at Schwab or not, but I believe I have access to the $500 bonus (I receive nothing, it's all for you) if you want to move $100,000 over. And I think you'd really like my Schwab guy. He is never pushy. Unlike my friend at Fidelity, who was offered an annuity at his complementary Fidelity planning session, I've never been offered an annuity. Admittedly, he is not as well versed in some of the nuances as some of our Bogleheads. I learned about IRMAA here... I told my friend about it who was a financial manager for a city (fairly financially savvy guy), and he was blindsided.

I buy my health insurance on the open market in southern California--the Blue Shield PPO. (Due to a modest pension, I'm not eligible for ACA subsidies.) It's not quite as good as the group health plan I had on COBRA, but due to pre-existing health conditions, I'm grateful I can get insurance at all, and I don't have any complaints other than there isn't a local hand surgeon who takes my insurance.
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Re: Roth conversion planning -- birds eye view questions

Post by Katietsu »

I hope you do not mind that I go off topic. But if you have a friend who might like to travel but who does not have the income, consider paying for both of you. I have known a few different women who were either widowed or with a spouse unable to travel that were very happy that they chose to spend some of their cash that way.
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DebiT
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Re: Roth conversion planning -- birds eye view questions

Post by DebiT »

OK, checking back in on my RPM results, and including effective/marginal tax brackets in 2 situations. I live in California, where SS is not taxed apparently, so while the tax rates have been high as a worker, the absolute $$ are not high in retirement as far as I can see.

I have set all my accounts to my desired overall portfolio AA of 35/65 for simplification, so the metric I am paying most attention to is the final portfolio size at end of life, which I have set to 100, hopefully too high but with my luck.... At this time, I am not concerned with taxes for heirs.

If I do nothing, the base case results show me with 0 taxes until 72, then eff/marginal rates the rest of my life at almost 20/25, and in some years almost 20/28.

I then tested 3 cases:
1. using Roth conversions from now age 63 to 72 to fill 22% bracket,
2. filling 24% bracket only until 2026, then do nothing, and finally
3. filling 24% bracket to 2026, then 12% bracket to age 72.

For final portfolio value, rankings are model 1, then 3, then 2, which surprised me. They each improve the base case by at least 10% of my original portfolio value, and then are only $30K apart from each other

Taxes paid, which correlates with amount converted, are 3, 2, 1 lowest to highest

IRMAA is much lower for model 1. 2 and 3 are equal, and much higher.

Effective / marginal tax rates for model 1 are 17/22, then 20/25 after 2025 age 67 , but then drop to 14/15 age 74 for the rest of my life.

If I am using the final portfolio value, it seems I would use model 1 and just fill the 22% bracket. It's much better than doing nothing, and seems to be optimal but counter-intuitive. Which leaves me posting another question. What would account for that? Why wouldn't filling to 24%, at least for 5 years, be the best?

Thanks all, for helping me figure things out.
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Exchme
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Re: Roth conversion planning -- birds eye view questions

Post by Exchme »

Final portfolio value is not a good metric. Your heirs have to pay taxes on the withdrawals from the inherited tax deferred accounts. Doing large Roth conversions not only shrinks your heir's taxes on the inherited IRA, it shrinks their taxes on the inherited taxable accounts as that's where everything ends up as your heirs withdraw the inherited IRA. Fortunately, RPM looks at the first year tax impact (reported as "Heir Tax Benefit" on the Setup sheet) and I've found that you get a decent estimate of the overall impact if you multiply that by 10 to represent the years that withdrawals take place. If you don't care all that much about your heirs financials or if your heirs will be in a lower tax bracket (even with the inherited IRA), then you can adjust that down, but it shouldn't be ignored.
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Re: Roth conversion planning -- birds eye view questions

Post by PaulieLilly »

Two things I've noted when running RPM scenarios:

1) Asset Allocation (AA) will have a significant impact. When you set all accounts to the same AA it tends to neutralize PreTax results. In reality, most folks would have their more conservative investments in tIRA and more aggressive investments in Roth ... which will make Roth conversions more favorable for final portfolio size. Unfortunately RPM can not maintain different AA's over time so you need to come up with some creative work-arounds, etc.

2) Tax Impact on final portfolio ... RPM does not account for this. I take the final PreTax portfolio numbers and apply multipliers ... something like Taxable(0.85) + tIRA(0.75) + Roth(1.0) = PostTax Total.

FWIW, I don't pay much attention to taxes, it's all about maximizing my PostTax dollars.
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DebiT
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Re: Roth conversion planning -- birds eye view questions

Post by DebiT »

PaulieLilly wrote: Mon Jun 14, 2021 6:37 pm Two things I've noted when running RPM scenarios:

1) Asset Allocation (AA) will have a significant impact. When you set all accounts to the same AA it tends to neutralize PreTax results. In reality, most folks would have their more conservative investments in tIRA and more aggressive investments in Roth ... which will make Roth conversions more favorable for final portfolio size. Unfortunately RPM can not maintain different AA's over time so you need to come up with some creative work-arounds, etc.

2) Tax Impact on final portfolio ... RPM does not account for this. I take the final PreTax portfolio numbers and apply multipliers ... something like Taxable(0.85) + tIRA(0.75) + Roth(1.0) = PostTax Total.

FWIW, I don't pay much attention to taxes, it's all about maximizing my PostTax dollars.
Right now, I am taking note of benefits to heirs, but my primary consideration is me and making sure that I understand how to evaluate doing Roth conversions for my own longevity and cash flow.

So I understand point 1, that real life AA's on different types of accounts will only accentuate the benefits of doing the Roths.

Point 2 is very useful. It shows that there is about 35% more value in my ending accounts doing any of my 3 Roth conversion models, compared to doing nothing.

This is helping me sort out that really there are only 2 models to compare vs the 3 I mentioned above
1. fill 22% bracket until age 72 or
2. fill 24% bracket to 2026, then 12% bracket to age 72.

The two don't generate wildly different end of life balances. #1 means my taxable account is depleted at age 74, and my IRMAA is much lower than #2 (while only a hair higher than base model of do nothing). #2 means my taxable account is depleted at age 70, with a much higher IRMAA.

This probably clinches it for me, at least for this pass. This Roth account is brand new this year, at age 63, 2021. Having some breathing room to deplete it before I would need to start paying bills from the Roth account is important, since I believe I need to wait 5 years before withdrawing contributions.

My next question I have also posted on the main RPM thread, which is in 2 parts:

What inflation factor should I be using for a potentially 37 year retirement? I used 2.6% which is suggested for a 30 year retirement.

And, how do I think about my ending portfolio balances in terms of today's dollars (I believe the term is nominal, trying to remember that by equating it to "now"). RPM shows me with hefty balances, all things considered, but maybe in today's $$ it's the equivalent of $2.99. I assume there is a "divisor" or "multiplier" of some sort, to convert $$ in 2057 values back to today's values, assuming my 2.6% inflation factor. I do see that by 2057 my expenses have increased by 2.5x the original estimate, holding everything else steady

Thank you all, I am learning a lot!
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KlangFool
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Re: Roth conversion planning -- birds eye view questions

Post by KlangFool »

DebiT wrote: Tue Jun 15, 2021 3:14 pm
What inflation factor should I be using for a potentially 37 year retirement? I used 2.6% which is suggested for a 30 year retirement.
DebiT,

A) Do you own your own house? How much is your property tax? A substantial portion of the official inflation rate is related to housing expense which may not be relevant to you.

B) How do you get your medical insurance? Is it increasing faster than the official inflation rate?

IMHO, those are the details that you need to adjust in relation to the official inflation rate.

KlangFool
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dodecahedron
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Re: Roth conversion planning -- birds eye view questions

Post by dodecahedron »

LilyFleur wrote: Sat Jun 12, 2021 5:39 pm
DebiT wrote: Fri Jun 11, 2021 5:40 pm I have a nice budget set up, allowing for my travel than my nerves may even allow for. That’s another hurdle, learning how to travel, esp long flights, with no hubby by my side. A group is not the same. T
I understand. I have been single now for ten years, and I doubt if I would travel alone. I have gone with my two young adult children (paying for all three of us), which was great fun, and I would like to take some trips with my sister in the future.
I also understand (widowed unexpectedly eight years ago with both of us still under 60 and we had been looking forward to travel plans never carried out.)

It is, of course, not the same as traveling with my beloved husband, but I have had some nice trips with one or both of my daughters, precious memorable trips with my mom (also a widow and turning 90 this year), and some very nice trips with my college roommate/lifelong friend. I have friends and family living in fun cities that I enjoy visiting (and that are easily accessible by Amtrak--the train is so much nicer and more civilized than planes these days, especially in Business Class) so I have recently started doing some of that, mostly visiting outdoor public spaces (e.g., sculpture gardens, botanic gardens, arboretums, historic restored neighborhoods, waterfront walkways, etc.)
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DebiT
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Re: Roth conversion planning -- birds eye view questions

Post by DebiT »

KlangFool wrote: Tue Jun 15, 2021 3:43 pm
DebiT wrote: Tue Jun 15, 2021 3:14 pm
What inflation factor should I be using for a potentially 37 year retirement? I used 2.6% which is suggested for a 30 year retirement.
DebiT,

A) Do you own your own house? How much is your property tax? A substantial portion of the official inflation rate is related to housing expense which may not be relevant to you.

B) How do you get your medical insurance? Is it increasing faster than the official inflation rate?

IMHO, those are the details that you need to adjust in relation to the official inflation rate.

KlangFool
One of the few good things financially about living in California is Prop 13, which means my property tax on my paid off house will increase very little every year.

As for medical insurance, after decades of paying full price premiums for the privelege of being self employed, I will reach the promised land of Medicare next summer, so yay! Whatever the rates of increase, it won't be what I've been paying before.
Age 63, life turned upside down 3/2/19, thanking God for what I've learned from this group
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celia
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Re: Roth conversion planning -- birds eye view questions

Post by celia »

DebiT wrote: Mon Jun 14, 2021 3:40 pm I have set all my accounts to my desired overall portfolio AA of 35/65 for simplification,...
I’d like to talk you out of this. First off, 65% of bonds makes for a super conservative portfolio, when you would want to have more growth than the inflation rate, and bonds in taxable means the interest earned will be taxed as regular income, rather than as qualified dividends, which has a more-favorable tax rate.

Secondly, you should apply your desired Asset Allocation to the entire portfolio, not individual accounts. The Tax-efficient Fund Placement wiki page talks about how different accounts should hold different assets.

Basically, your Roth accounts should hold only stock funds, to maximize future tax-free growth.

Tax-deferred accounts should hold bond funds since the interest earned is fully taxed (no tax advantages for interest). Bonds there also slow down the growth of those accounts and the future RMDs that will be fully taxed when withdrawn.

Taxable accounts are good for INDEX funds which are more tax-efficient than managed funds. In addition, international stock funds there can give you a Foreign Tax Credit if the fund pays taxes to other countries. As a shareholder, your partial ownership of the fund allows you to claim your share of the credit on your tax return.

Now, here’s the big challenge: it is rare that anyone’s space in their three types of accounts matches the holdings that should go in each. But if you try to put as much of an asset as you can in the appropriate account, this will make your current and future taxes be lower.
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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DebiT
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Re: Roth conversion planning -- birds eye view questions

Post by DebiT »

celia wrote: Tue Jun 15, 2021 6:15 pm
DebiT wrote: Mon Jun 14, 2021 3:40 pm I have set all my accounts to my desired overall portfolio AA of 35/65 for simplification,...
I’d like to talk you out of this. First off, 65% of bonds makes for a super conservative portfolio, when you would want to have more growth than the inflation rate, and bonds in taxable means the interest earned will be taxed as regular income, rather than as qualified dividends, which has a more-favorable tax rate.

Secondly, you should apply your desired Asset Allocation to the entire portfolio, not individual accounts. The Tax-efficient Fund Placement wiki page talks about how different accounts should hold different assets.

Basically, your Roth accounts should hold only stock funds, to maximize future tax-free growth.

Tax-deferred accounts should hold bond funds since the interest earned is fully taxed (no tax advantages for interest). Bonds there also slow down the growth of those accounts and the future RMDs that will be fully taxed when withdrawn.

Taxable accounts are good for INDEX funds which are more tax-efficient than managed funds. In addition, international stock funds there can give you a Foreign Tax Credit if the fund pays taxes to other countries. As a shareholder, your partial ownership of the fund allows you to claim your share of the credit on your tax return.

Now, here’s the big challenge: it is rare that anyone’s space in their three types of accounts matches the holdings that should go in each. But if you try to put as much of an asset as you can in the appropriate account, this will make your current and future taxes be lower.
Thank you, Celia. I only meant that for the purposes of using RPM, in that spreadsheet, I was setting my AA in each account for 35/65. In real life, I will definitely be doing it differently, in fact just as you described above.

I feel pretty comfortable with that very conservative AA for my overall portfolio. It gets me what I need, and more, so not stressing is a big benefit.
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Exchme
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Re: Roth conversion planning -- birds eye view questions

Post by Exchme »

PaulieLilly wrote: Mon Jun 14, 2021 6:37 pm 2) Tax Impact on final portfolio ... RPM does not account for this. I take the final PreTax portfolio numbers and apply multipliers ... something like Taxable(0.85) + tIRA(0.75) + Roth(1.0) = PostTax Total.
Is there a source for this formula? I'm curious as I've actually seen it quoted by someone else here in the last couple days too. I get the tax deferred number, using 25% as an average tax bracket, where does the 0.85 * taxable come from? I agree there is a definite drag in your taxable account if you do not do Roth conversions both because it may leave a larger taxable account to your heirs and because that's where the inherited IRA is going to end up.

I studied a couple cases in RPM where I looked year by year at the first ten years of heirs financials, for simplicity I assumed the heir financials/income/expenses were identical to the ones at end of life. I did that for both a Roth conversion case and a no-Roth case and took the difference, then I used the rate of return on the portfolio as a discount rate to get that difference back to end of life. Like your suggested formula, the result was influenced both by the inherited IRA and the taxable account, but the results weren't too close to your suggested formula.

The search space is so large I won't claim any generality, but in my case and a case with both more and less assets, the present value at death of the year by year result was fairly closely approximated by the simplest of all things - using 10 times the "Heir Tax Benefit" in RPM (the notes explain that the "Heir Tax Benefit" is the first year only).
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Re: Roth conversion planning -- birds eye view questions

Post by Lee_WSP »

Exchme wrote: Tue Jun 15, 2021 10:02 pm
PaulieLilly wrote: Mon Jun 14, 2021 6:37 pm 2) Tax Impact on final portfolio ... RPM does not account for this. I take the final PreTax portfolio numbers and apply multipliers ... something like Taxable(0.85) + tIRA(0.75) + Roth(1.0) = PostTax Total.
Is there a source for this formula? I'm curious as I've actually seen it quoted by someone else here in the last couple days too. I get the tax deferred number, using 25% as an average tax bracket, where does the 0.85 * taxable come from? I agree there is a definite drag in your taxable account if you do not do Roth conversions both because it may leave a larger taxable account to your heirs and because that's where the inherited IRA is going to end up.
It’s actually incorrect. The correct formula for taxable is:

(taxable - basis) * (1 - cap gains rate) + basis

Most people use the 15% cap gains rate, so end up at .85
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celia
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Re: Roth conversion planning -- birds eye view questions

Post by celia »

Exchme wrote: Tue Jun 15, 2021 10:02 pm
PaulieLilly wrote: Mon Jun 14, 2021 6:37 pm 2) Tax Impact on final portfolio ... RPM does not account for this. I take the final PreTax portfolio numbers and apply multipliers ... something like Taxable(0.85) + tIRA(0.75) + Roth(1.0) = PostTax Total.
Is there a source for this formula? I'm curious as I've actually seen it quoted by someone else here in the last couple days too. I get the tax deferred number, using 25% as an average tax bracket, where does the 0.85 * taxable come from? I agree there is a definite drag in your taxable account if you do not do Roth conversions both because it may leave a larger taxable account to your heirs and because that's where the inherited IRA is going to end up.
I haven’t seen this “formula” before, but I would expect all of the taxable would get a “step-up” on death, unless you live in a non-community-property state and your spouse died before you and already got a step-up on their half of assets. Even then, if you take spouse’s assets as your own and the total is less than the estate tax exclusion (currently $11.7M), everything in taxable would get a step-up.
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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celia
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Re: Roth conversion planning -- birds eye view questions

Post by celia »

OP, if you want a second opinion to RPM, you can check out my spreadsheet method for tracking how much to convert each year. To get a good picture of your situation, I suggest you read this thread and follow my links there. The first one will help you determine if you need to do Roth conversions. The second link will show an example of how to determine how much you should convert each year.

If you find that you are just “treading water” by having the tax-deferred balance remain basically the same each year, you should be able to prevent that by doing larger Roth conversion in the early years.
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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DebiT
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Re: Roth conversion planning -- birds eye view questions

Post by DebiT »

Thanks, Celia. That’s actually one of the tools I’ve been planning on using. I figure eventually I’ll get a handle on this new to me phase of life, and how to best manage the money. I’m fortunate in that my all estimations there is enough for my needs, but I don’t want to waste it , most especially in my lifetime. If I can help my sons have fewer tax problems, that would be good too.

My next chunk of time will be studying my taxable account in terms of Roth conversion taxes. This is a new Roth account as of a month ago. My next question is, I know there is a 5 year clock on being able to withdraw contributions. Is that a one time clock, or does it apply to each conversion?
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KlangFool
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Re: Roth conversion planning -- birds eye view questions

Post by KlangFool »

DebiT wrote: Wed Jun 16, 2021 11:22 am Thanks, Celia. That’s actually one of the tools I’ve been planning on using. I figure eventually I’ll get a handle on this new to me phase of life, and how to best manage the money. I’m fortunate in that my all estimations there is enough for my needs, but I don’t want to waste it , most especially in my lifetime. If I can help my sons have fewer tax problems, that would be good too.

My next chunk of time will be studying my taxable account in terms of Roth conversion taxes. This is a new Roth account as of a month ago. My next question is, I know there is a 5 year clock on being able to withdraw contributions. Is that a one time clock, or does it apply to each conversion?
DebiT,

I do not think that rule apply to someone that is older than 59 1/2 years old. So, there is no 5 years clock at all.

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dodecahedron
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Re: Roth conversion planning -- birds eye view questions

Post by dodecahedron »

KlangFool wrote: Wed Jun 16, 2021 11:45 am
DebiT wrote: Wed Jun 16, 2021 11:22 am Thanks, Celia. That’s actually one of the tools I’ve been planning on using. I figure eventually I’ll get a handle on this new to me phase of life, and how to best manage the money. I’m fortunate in that my all estimations there is enough for my needs, but I don’t want to waste it , most especially in my lifetime. If I can help my sons have fewer tax problems, that would be good too.

My next chunk of time will be studying my taxable account in terms of Roth conversion taxes. This is a new Roth account as of a month ago. My next question is, I know there is a 5 year clock on being able to withdraw contributions. Is that a one time clock, or does it apply to each conversion?
DebiT,

I do not think that rule apply to someone that is older than 59 1/2 years old. So, there is no 5 years clock at all.

KlangFool
It is complicated, as Michael Kitces explains in this authoritative post, but being over 59 1/2 is not entirely sufficient by itself.

There is still a 5-year-clock, even for those over 59 1/2, but as long as the Roth IRA owner has satisfied the 5-year in *any* Roth IRA that s/he owns, the investor is covered in all their Roth IRA accounts, even the ones that are less than 5 years old. So to answer DebiT's question it is a one-time 5-year clock, not a separate 5-year clock for each conversion. This is due to the so-called "aggregation rule" as Kitces explained as well as possible in my aforementioned link.
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DebiT
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Re: Roth conversion planning -- birds eye view questions

Post by DebiT »

dodecahedron wrote: Wed Jun 16, 2021 12:14 pm
KlangFool wrote: Wed Jun 16, 2021 11:45 am
DebiT wrote: Wed Jun 16, 2021 11:22 am Thanks, Celia. That’s actually one of the tools I’ve been planning on using. I figure eventually I’ll get a handle on this new to me phase of life, and how to best manage the money. I’m fortunate in that my all estimations there is enough for my needs, but I don’t want to waste it , most especially in my lifetime. If I can help my sons have fewer tax problems, that would be good too.

My next chunk of time will be studying my taxable account in terms of Roth conversion taxes. This is a new Roth account as of a month ago. My next question is, I know there is a 5 year clock on being able to withdraw contributions. Is that a one time clock, or does it apply to each conversion?
DebiT,

I do not think that rule apply to someone that is older than 59 1/2 years old. So, there is no 5 years clock at all.

KlangFool
It is complicated, as Michael Kitces explains in this authoritative post, but being over 59 1/2 is not entirely sufficient by itself.

There is still a 5-year-clock, even for those over 59 1/2, but as long as the Roth IRA owner has satisfied the 5-year in *any* Roth IRA that s/he owns, the investor is covered in all their Roth IRA accounts, even the ones that are less than 5 years old. So to answer DebiT's question it is a one-time 5-year clock, not a separate 5-year clock for each conversion. This is due to the so-called "aggregation rule" as Kitces explained as well as possible in my aforementioned link.
I think this is still not quite correct, at least for conversions vs contributions. From the Kitces article:

Unlike the 5-year rule for contributions, in the case of conversions, each conversion amount has its own 5-year time period (Treasury Regulation 1.408A-6, Q&A-5(c)), and thus with multiple conversions there may be multiple different 5-year periods underway at once. When withdrawals occur from conversion amounts, they are deemed to be withdrawal on a first-in, first-out basis under IRC Section 408A(d)(4)(B)(ii)(II), which effectively means the oldest conversions (most likely to have finished their 5-year requirement) are withdrawn first, and the most recent conversions are withdrawn last. (Overall, the ordering rules from Roth IRAs stipulate that withdrawals are after-tax contributions first, conversions second, and earnings third.)

and another in Investopedia
https://www.investopedia.com/ask/answer ... odroth.asp

I'm over 59 1/2, but it looks to me like each conversion has its own waiting period. Other articles confirm that the IRS has an ordering rule for withdrawals, and it is contributions, then taxable conversions, then not taxable conversions, then earnings.

Are we agreed, or am I missing something?
Age 63, life turned upside down 3/2/19, thanking God for what I've learned from this group
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dodecahedron
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Re: Roth conversion planning -- birds eye view questions

Post by dodecahedron »

DebiT wrote: Wed Jun 16, 2021 12:31 pm
dodecahedron wrote: Wed Jun 16, 2021 12:14 pm
KlangFool wrote: Wed Jun 16, 2021 11:45 am
DebiT wrote: Wed Jun 16, 2021 11:22 am Thanks, Celia. That’s actually one of the tools I’ve been planning on using. I figure eventually I’ll get a handle on this new to me phase of life, and how to best manage the money. I’m fortunate in that my all estimations there is enough for my needs, but I don’t want to waste it , most especially in my lifetime. If I can help my sons have fewer tax problems, that would be good too.

My next chunk of time will be studying my taxable account in terms of Roth conversion taxes. This is a new Roth account as of a month ago. My next question is, I know there is a 5 year clock on being able to withdraw contributions. Is that a one time clock, or does it apply to each conversion?
DebiT,

I do not think that rule apply to someone that is older than 59 1/2 years old. So, there is no 5 years clock at all.

KlangFool
It is complicated, as Michael Kitces explains in this authoritative post, but being over 59 1/2 is not entirely sufficient by itself.

There is still a 5-year-clock, even for those over 59 1/2, but as long as the Roth IRA owner has satisfied the 5-year in *any* Roth IRA that s/he owns, the investor is covered in all their Roth IRA accounts, even the ones that are less than 5 years old. So to answer DebiT's question it is a one-time 5-year clock, not a separate 5-year clock for each conversion. This is due to the so-called "aggregation rule" as Kitces explained as well as possible in my aforementioned link.
I think this is still not quite correct, at least for conversions vs contributions. From the Kitces article:

Unlike the 5-year rule for contributions, in the case of conversions, each conversion amount has its own 5-year time period (Treasury Regulation 1.408A-6, Q&A-5(c)), and thus with multiple conversions there may be multiple different 5-year periods underway at once. When withdrawals occur from conversion amounts, they are deemed to be withdrawal on a first-in, first-out basis under IRC Section 408A(d)(4)(B)(ii)(II), which effectively means the oldest conversions (most likely to have finished their 5-year requirement) are withdrawn first, and the most recent conversions are withdrawn last. (Overall, the ordering rules from Roth IRAs stipulate that withdrawals are after-tax contributions first, conversions second, and earnings third.)

and another in Investopedia
https://www.investopedia.com/ask/answer ... odroth.asp

I'm over 59 1/2, but it looks to me like each conversion has its own waiting period. Other articles confirm that the IRS has an ordering rule for withdrawals, and it is contributions, then taxable conversions, then not taxable conversions, then earnings.

Are we agreed, or am I missing something?
You are correct that the conversion rule is different from the contribution rule BUT since you are over 59 1/2, the conversion rule is a moot point. If you are over 59 1/2, you only need to worry about the 5-year contribution rule.

Quoting from the abstract at the top of the Kitces link: "For others, the reality is that the Roth conversion 5-year rule is a moot point anyway, because they already meet another exception to the early withdrawal penalty (e.g., already being over age 59 1/2)."
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Re: Roth conversion planning -- birds eye view questions

Post by KlangFool »

dodecahedron wrote: Wed Jun 16, 2021 12:59 pm
DebiT wrote: Wed Jun 16, 2021 12:31 pm
dodecahedron wrote: Wed Jun 16, 2021 12:14 pm
KlangFool wrote: Wed Jun 16, 2021 11:45 am
DebiT wrote: Wed Jun 16, 2021 11:22 am Thanks, Celia. That’s actually one of the tools I’ve been planning on using. I figure eventually I’ll get a handle on this new to me phase of life, and how to best manage the money. I’m fortunate in that my all estimations there is enough for my needs, but I don’t want to waste it , most especially in my lifetime. If I can help my sons have fewer tax problems, that would be good too.

My next chunk of time will be studying my taxable account in terms of Roth conversion taxes. This is a new Roth account as of a month ago. My next question is, I know there is a 5 year clock on being able to withdraw contributions. Is that a one time clock, or does it apply to each conversion?
DebiT,

I do not think that rule apply to someone that is older than 59 1/2 years old. So, there is no 5 years clock at all.

KlangFool
It is complicated, as Michael Kitces explains in this authoritative post, but being over 59 1/2 is not entirely sufficient by itself.

There is still a 5-year-clock, even for those over 59 1/2, but as long as the Roth IRA owner has satisfied the 5-year in *any* Roth IRA that s/he owns, the investor is covered in all their Roth IRA accounts, even the ones that are less than 5 years old. So to answer DebiT's question it is a one-time 5-year clock, not a separate 5-year clock for each conversion. This is due to the so-called "aggregation rule" as Kitces explained as well as possible in my aforementioned link.
I think this is still not quite correct, at least for conversions vs contributions. From the Kitces article:

Unlike the 5-year rule for contributions, in the case of conversions, each conversion amount has its own 5-year time period (Treasury Regulation 1.408A-6, Q&A-5(c)), and thus with multiple conversions there may be multiple different 5-year periods underway at once. When withdrawals occur from conversion amounts, they are deemed to be withdrawal on a first-in, first-out basis under IRC Section 408A(d)(4)(B)(ii)(II), which effectively means the oldest conversions (most likely to have finished their 5-year requirement) are withdrawn first, and the most recent conversions are withdrawn last. (Overall, the ordering rules from Roth IRAs stipulate that withdrawals are after-tax contributions first, conversions second, and earnings third.)

and another in Investopedia
https://www.investopedia.com/ask/answer ... odroth.asp

I'm over 59 1/2, but it looks to me like each conversion has its own waiting period. Other articles confirm that the IRS has an ordering rule for withdrawals, and it is contributions, then taxable conversions, then not taxable conversions, then earnings.

Are we agreed, or am I missing something?
You are correct that the conversion rule is different from the contribution rule BUT since you are over 59 1/2, the conversion rule is a moot point. If you are over 59 1/2, you only need to worry about the 5-year contribution rule.

Quoting from the abstract at the top of the Kitces link: "For others, the reality is that the Roth conversion 5-year rule is a moot point anyway, because they already meet another exception to the early withdrawal penalty (e.g., already being over age 59 1/2)."
dodecahedron,

And, that is my original point. OP is discussing Roth conversion. Thanks for the Kitces link.


KlangFool
Last edited by KlangFool on Wed Jun 16, 2021 1:14 pm, edited 1 time in total.
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DebiT
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Re: Roth conversion planning -- birds eye view questions

Post by DebiT »

OK, so then it seems that there is an initial 5 year waiting period, starting with the tax year of the first conversion, and then I may withdraw without tax or penalty any amount I choose, from that point on. Am I now understanding correctly?

Thanks so much for this guidance. It matters as I look at how my taxable account dwindles by making large conversions starting this year into a brand new Roth account
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Imadeit
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Re: Roth conversion planning -- birds eye view questions

Post by Imadeit »

Here’s a reply to a similar question about the 5 year rule from Ed Slot in irahelp.com.

We get a lot of questions about the five-year rule for Roth IRA distributions! What makes this area so confusing is that there are, in fact, two different five-year rules that may come into play.

The first five-year rule applies to converted funds. If you are under age 59 ½ you must wait five years to access without penalty any converted funds that were taxable at the time of the conversion. This five- year rule does restart for each conversion.

The good news for you is that this five-year rule will not apply to you because you are over age 59 ½. You do not need to worry about the 10% penalty on converted funds when you take distributions from your Roth IRA.

However, there is a second five-year rule that will affect you. To have a qualified, or tax-free, distribution of earnings from a Roth IRA you must meet an overall five-year holding period, even if you are over age 59 ½. This five-year period begins with your first conversion (or Roth contribution) and does not restart with subsequent conversions. If your 2018 conversion was your first foray into a Roth IRA, then your overall five-year period for tax-free distributions of earnings from all of your Roth IRAs would have begun on January 1, 2018.
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Re: Roth conversion planning -- birds eye view questions

Post by Lee_WSP »

dodecahedron wrote: Wed Jun 16, 2021 12:59 pm
DebiT wrote: Wed Jun 16, 2021 12:31 pm
dodecahedron wrote: Wed Jun 16, 2021 12:14 pm
KlangFool wrote: Wed Jun 16, 2021 11:45 am
DebiT wrote: Wed Jun 16, 2021 11:22 am Thanks, Celia. That’s actually one of the tools I’ve been planning on using. I figure eventually I’ll get a handle on this new to me phase of life, and how to best manage the money. I’m fortunate in that my all estimations there is enough for my needs, but I don’t want to waste it , most especially in my lifetime. If I can help my sons have fewer tax problems, that would be good too.

My next chunk of time will be studying my taxable account in terms of Roth conversion taxes. This is a new Roth account as of a month ago. My next question is, I know there is a 5 year clock on being able to withdraw contributions. Is that a one time clock, or does it apply to each conversion?
DebiT,

I do not think that rule apply to someone that is older than 59 1/2 years old. So, there is no 5 years clock at all.

KlangFool
It is complicated, as Michael Kitces explains in this authoritative post, but being over 59 1/2 is not entirely sufficient by itself.

There is still a 5-year-clock, even for those over 59 1/2, but as long as the Roth IRA owner has satisfied the 5-year in *any* Roth IRA that s/he owns, the investor is covered in all their Roth IRA accounts, even the ones that are less than 5 years old. So to answer DebiT's question it is a one-time 5-year clock, not a separate 5-year clock for each conversion. This is due to the so-called "aggregation rule" as Kitces explained as well as possible in my aforementioned link.
I think this is still not quite correct, at least for conversions vs contributions. From the Kitces article:

Unlike the 5-year rule for contributions, in the case of conversions, each conversion amount has its own 5-year time period (Treasury Regulation 1.408A-6, Q&A-5(c)), and thus with multiple conversions there may be multiple different 5-year periods underway at once. When withdrawals occur from conversion amounts, they are deemed to be withdrawal on a first-in, first-out basis under IRC Section 408A(d)(4)(B)(ii)(II), which effectively means the oldest conversions (most likely to have finished their 5-year requirement) are withdrawn first, and the most recent conversions are withdrawn last. (Overall, the ordering rules from Roth IRAs stipulate that withdrawals are after-tax contributions first, conversions second, and earnings third.)

and another in Investopedia
https://www.investopedia.com/ask/answer ... odroth.asp

I'm over 59 1/2, but it looks to me like each conversion has its own waiting period. Other articles confirm that the IRS has an ordering rule for withdrawals, and it is contributions, then taxable conversions, then not taxable conversions, then earnings.

Are we agreed, or am I missing something?
You are correct that the conversion rule is different from the contribution rule BUT since you are over 59 1/2, the conversion rule is a moot point. If you are over 59 1/2, you only need to worry about the 5-year contribution rule.

Quoting from the abstract at the top of the Kitces link: "For others, the reality is that the Roth conversion 5-year rule is a moot point anyway, because they already meet another exception to the early withdrawal penalty (e.g., already being over age 59 1/2)."
Under usc 408(a), if the withdrawer is over 59.5, the amount shall not be included in gross income.

Under usc 72(t) no penalty shall be assessed if the withdrawer is over 59.5
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DebiT
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Re: Roth conversion planning -- birds eye view questions

Post by DebiT »

Because my eyes were starting to cross, I decided to look on the IRS website and found a lovely decision tree flow chart, here
https://www.irs.gov/publications/p590b# ... 1000231071 at Figure 2.1. Extremely helpful. No doubt it is what everyone has been trying to say, but here it is, straight from horse's mouth so to speak.

My summary is, be old enough, set up the Roth and put something in it, once or many times. After 5 years, take out whatever.

Thank you all so much.
Age 63, life turned upside down 3/2/19, thanking God for what I've learned from this group
Lee_WSP
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Re: Roth conversion planning -- birds eye view questions

Post by Lee_WSP »

DebiT wrote: Wed Jun 16, 2021 3:00 pm Because my eyes were starting to cross, I decided to look on the IRS website and found a lovely decision tree flow chart, here
https://www.irs.gov/publications/p590b# ... 1000231071 at Figure 2.1. Extremely helpful. No doubt it is what everyone has been trying to say, but here it is, straight from horse's mouth so to speak.

My summary is, be old enough, set up the Roth and put something in it, once or many times. After 5 years, take out whatever.

Thank you all so much.
You can take it out now. There is no penalty. You are over 59.5.

The IRS is the enforcer of the code, but the actual code is the IRC. That said, it’s a lot harder to read than the IRS’s publications, which aren’t exactly particularly readable.

From that publication though:
After age 59½ and before age 72. After you reach age 59½, you can receive distributions without having to pay the 10% additional tax. Even though you can receive distributions after you reach age 59½, distributions aren't required until you reach age 72. See When Must You Withdraw Assets? (Required Minimum Distributions), earlier.
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dodecahedron
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Re: Roth conversion planning -- birds eye view questions

Post by dodecahedron »

DebiT wrote: Wed Jun 16, 2021 3:00 pm Because my eyes were starting to cross, I decided to look on the IRS website and found a lovely decision tree flow chart, here
https://www.irs.gov/publications/p590b# ... 1000231071 at Figure 2.1. Extremely helpful. No doubt it is what everyone has been trying to say, but here it is, straight from horse's mouth so to speak.

My summary is, be old enough, set up the Roth and put something in it, once or many times. After 5 years, take out whatever.

Thank you all so much.
Very nice chart, which captures my understanding of the rules quite clearly.
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Eagle33
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Re: Roth conversion planning -- birds eye view questions

Post by Eagle33 »

IMHO the Treatment of Distributions summary table in the Notes section of wiki topic Roth IRA is the best concise explanation for which distributions & when they are taxed and/or penalized.
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