pros and cons for rollover to tIRA or other 401k from previous employer

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lakpr
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Re: pros and cons for rollover to tIRA or other 401k from previous employer

Post by lakpr » Mon Apr 15, 2019 2:27 pm

lepa71 wrote:
Mon Apr 15, 2019 2:26 pm
another thought. Can I just isolate $2080 and $2160 with their earning in to different fund for right now?
Yes, that is step 1 I suggested

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lepa71
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Re: pros and cons for rollover to tIRA or other 401k from previous employer

Post by lepa71 » Mon Apr 15, 2019 2:56 pm

But then I don't have to recategorize anything. Am I missing anything?

lakpr
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Re: pros and cons for rollover to tIRA or other 401k from previous employer

Post by lakpr » Mon Apr 15, 2019 3:10 pm

lepa71 wrote:
Mon Apr 15, 2019 2:56 pm
But then I don't have to recategorize anything. Am I missing anything?
That is correct. To make things clear:

Option 1
===========
Recharacterize $2080 only, for 2018, by end of today. (Since you have only 2 hours, I guess you are out of time )

Amend the 2018 tax return, as the IRS lady said you can do this until April 2022 (3 years from the date of filing)

Disadvantage: The $2160 from 2017 is still sitting there as non deductible basis; 3 years constraint

Option 2
=============
Follow the 5 step plan I outlined before, with both 2017’s $2160 non-deductible portion, as well as 2018’s $2080 non-deductible portion

Disadvantage: Pray for flawless execution. Once the deductible portion is safely in 401k, you can convert the isolated basis fund into a Roth IRA

Advantage: minimal tax bite, no time constraints.

Option 3
=============
Convert the whole damn thing to Roth in a single year. We computed that you will still be in the 22% tax bracket, PROVIDED you also max out $19k 401k and your wife’s tIRA for the same year.

This is still a good deal, same income will be taxed at 25% starting 2026, you might even find yourself in AMT jaws depending on types of other income.

Advantages: Cleanest, no time constraints, no amendments of already filed tax returns, no getting-down-on-your-knees-and-pray required.

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lepa71
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Re: pros and cons for rollover to tIRA or other 401k from previous employer

Post by lepa71 » Mon Apr 15, 2019 3:34 pm

Thank you again for all of your help. This has been very educational and hope it will help somebody later on.

I think I will look into 3rd option. I had lost of write off for rental in 2018 and don't expect much in 2019. That could play a role for my MAGI. With this in mind, I will have to see if I would do it this year or next. I'm still thinking to go ahead and call Vanguard and isolate those 2 into a separete fund just in case. At least now I don't have time constrains.

How is that sound?

lakpr
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Re: pros and cons for rollover to tIRA or other 401k from previous employer

Post by lakpr » Mon Apr 15, 2019 3:39 pm

Sounds good, best of luck!!

Edited to add: if you are separating the basis and associated earnings into a separate fund, make sure you convert that fund ALSO to Roth at the same time (or at least in the same year) as with the main pre-tax IRA fund. Otherwise the pro-rata rules will kick in again.

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lepa71
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Re: pros and cons for rollover to tIRA or other 401k from previous employer

Post by lepa71 » Mon Apr 15, 2019 7:20 pm

Just trying to get my head around pro-rata rules. Does it work the if hypothetically speaking if I retire at 60 and start Roth conversion than until I get 72 and in the meantime contribute both (mine and wife's) into Roth IRA as well as 10/8% split trad/Roth into 401K? I currently have $550K in pre-tax accounts between mine and my wife. Maybe I should consider contributing only to Roth for both 401k and IRA. I checked my prior years' taxes and I'm was in 25% bracket.

If I try to convert that 95k-4K to Roth then it may push me to 24% or higher bracket. I'm also would have to pay MN state tax.

lakpr
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Re: pros and cons for rollover to tIRA or other 401k from previous employer

Post by lakpr » Mon Apr 15, 2019 7:25 pm

Funds in 401k do not figure in the pro-rata rule, that is why we recommend that you roll your pretax money into 401k plans. If you don’t roll over, the pro-rata rule bites you every time you do a partial conversion, leaving some money in the tIRA as of 12/31/20xx. It NEVER goes away. Even if you retire and start drawing down.

Regarding your tax bracket, you said a few posts earlier that your 2018 taxable income is $75k odd. Add $91k gives you $166k. The 22% tax bracket for married filing jointly ends at $169k for 2019. You are really close to the top of 22% bracket, but safely below it, you can get a $3k per year hike in salary and still be within 22% bracket.

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lepa71
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Re: pros and cons for rollover to tIRA or other 401k from previous employer

Post by lepa71 » Mon Apr 15, 2019 7:30 pm

Can you give an example with numbers?

I calculated that if I try to convert $91K to Roth I would have to pay 22% federal and 7.5+ for MN state. This is almost 30%. $27000.

lakpr
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Re: pros and cons for rollover to tIRA or other 401k from previous employer

Post by lakpr » Mon Apr 15, 2019 7:33 pm

Yep those figures are correct. Sorry boss, I know it bites but think about it this way. Conversion now will make the next 20 years free of tax hassles.

You want to reconsider Option 2?

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lepa71
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Re: pros and cons for rollover to tIRA or other 401k from previous employer

Post by lepa71 » Mon Apr 15, 2019 7:39 pm

I know but hear me out. I think we are not on the same page here somewhere. If I retire at 60 and just simply start to withdraw from tIRA, not converting. The only income I will have is money from this account. As I said before, I would use this account 1st in retirement. I understand that I will pay taxes as it would consider an income. I'm not planning to draw SS until I'm 70. Does it make a difference?

lakpr
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Re: pros and cons for rollover to tIRA or other 401k from previous employer

Post by lakpr » Mon Apr 15, 2019 7:44 pm

Your withdrawals are assumed to be proportional to the amount of basis and pre-tax amounts. Let me simplify the figures, assume you have $5k basis and $95k pretax at the time of age 60. You withdraw $10k per year intending to draw down every penny before age 70. Assume zero growth.

The $10k withdrawal is deemed to consist of $9500 taxable and $500 non-taxable.

Pro-rata rule in disguise.

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lepa71
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Re: pros and cons for rollover to tIRA or other 401k from previous employer

Post by lepa71 » Mon Apr 15, 2019 9:17 pm

Here is a really good explanation of pro-rata rules
The pro-rata rule is an important, though commonly misunderstood, rule that affects the taxation of IRA money. It only comes into play when your traditional IRA consists of both pre-tax and after-tax monies. These after-tax dollars can come from non-deductible IRA contributions or rollovers of after-tax funds from employer plans. Either way, once those monies are in the account, subsequent distributions or conversions are subject to the pro-rata rule. The pro-rata rule does not apply to Roth IRA assets. Instead, Roth IRA distributions are subject to their own set of ordering rules.
I see what you are saying now. I'm a little bit slow today. It's better late than never. :D :sharebeer
I used a retirement calc and projected that with starting balance $95K for my 47-60 years old with annual rate return 5% and no additional contribution, I would end up with $170K in that account. This is what I could do. I would bite a bullet and just withdraw all in one year at 60/61. I think I would be in some 22-25% bracket. The bigger concern comes with other pre-tax $525K current balance( including $28K in wife's tIRA. her tIRA does not have non-deductible contributions). Using the same criteria (annual rate return 5%) and an additional $19K annual contribution to pre-tax 401k until 60, I would end up with the balance of $1.345M. This is why I was splitting my trad and Roth 401k contribution. Then I will only have let say 9-10 years( until 72) to convert as much as possible to Roth from that 1.3M balance. What does this tell you?

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lepa71
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Re: pros and cons for rollover to tIRA or other 401k from previous employer

Post by lepa71 » Tue Apr 16, 2019 8:07 am

I was reading more about pro-rata rule last night. Let me run by you another scenario.
  • Option. After I isolate non-deductible basis and their earnings into a different fund. Can I just convert that portion into Roth? That should be workable. I know I will pay pro-rata anount and I believe the rest of the amount would be taxable at ordinary rates. Here is the formula. Basis $2080+$2160=$4240. Let say with earnings, it makes total = $5000. $5000/$95000~= 5%. Taxable amount of $5000 distribution $5000*0.05=$250. So I will have to pay $250 plus $5000-$250=$4750 at my income lavel tax rate. Am I missing anything?
  • Option. I can take that $5000 and do charitable donation. Pro-rata does not apply to charitable distributions.
After those either options are done. I should be able to rollover tIRA into 401k.

What do you think?

lakpr
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Re: pros and cons for rollover to tIRA or other 401k from previous employer

Post by lakpr » Tue Apr 16, 2019 8:25 am

Sorry that does not work :)
Taxable amount of the $5000 distribution = 95% of $5000 = $4750 is taxable. Only $250 is non-taxable.

Charitable donations still gets you bitten by the pro-rata rule, you can't just donate shares that have your taxable basis.

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lepa71
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Re: pros and cons for rollover to tIRA or other 401k from previous employer

Post by lepa71 » Tue Apr 16, 2019 9:53 am

Is the $4750 taxable as my income rate? If yes, how much will end up on my Roth IRA. Of cource if it is possible at all. Do you think Vanguard could figure it out?
I'm just trying to remove non-deductible basis and their earnings out of tIRA. Am I at least in the right path logicaly?

Thanks

lakpr
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Joined: Fri Mar 18, 2011 9:59 am

Re: pros and cons for rollover to tIRA or other 401k from previous employer

Post by lakpr » Tue Apr 16, 2019 10:02 am

lepa71 wrote:
Tue Apr 16, 2019 9:53 am
Is the $4750 taxable as my income rate? If yes, how much will end up on my Roth IRA. Of cource if it is possible at all. Do you think Vanguard could figure it out?
I'm just trying to remove non-deductible basis and their earnings out of tIRA. Am I at least in the right path logicaly?

Thanks
Yes it is taxable at your current marginal income tax rate. 22% or 12% -- you are right on that border line, this $4750 might push you over from 12% to 22% bracket.

Removal of the non-deductible basis and their earnings out of tIRA is the first step. As I said before, you have to do this unless you elect to convert everything to Roth IRA in one-shot (or at least within the same calendar year). Yes Vanguard can help.

If you are able to successfully do this, suddenly the Option-2 becomes viable for you ...

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lepa71
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Re: pros and cons for rollover to tIRA or other 401k from previous employer

Post by lepa71 » Tue Apr 16, 2019 12:05 pm

I think we are talking about the same concept. Your was to take deductible portion of tIRA and move it into 401k than covert non-deductible/the rest into Roth and mine was covert to Roth 1st and have a freedom to either leave it as is or roll it over to 401k. Is there harm to leave tIRA after above step as long as I don;t polude it with non-deductible contributions? Does pro-rata still apply?

lakpr
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Joined: Fri Mar 18, 2011 9:59 am

Re: pros and cons for rollover to tIRA or other 401k from previous employer

Post by lakpr » Tue Apr 16, 2019 12:24 pm

lepa71 wrote:
Tue Apr 16, 2019 12:05 pm
I think we are talking about the same concept. Your was to take deductible portion of tIRA and move it into 401k than covert non-deductible/the rest into Roth and mine was covert to Roth 1st and have a freedom to either leave it as is or roll it over to 401k. Is there harm to leave tIRA after above step as long as I don;t polude it with non-deductible contributions? Does pro-rata still apply?
Yep, as long as there is a balance left in the traditional IRA (as of 12/31/20xx), the pro-rata rule still applies.

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lepa71
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Re: pros and cons for rollover to tIRA or other 401k from previous employer

Post by lepa71 » Tue Apr 16, 2019 1:34 pm

So you are saying. Once polluted, stays polluted :wink:

Just wondering. If I wouldn't have those non-deductible contributions. How normal Roth conversion would go in retirement?

lakpr
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Re: pros and cons for rollover to tIRA or other 401k from previous employer

Post by lakpr » Tue Apr 16, 2019 1:47 pm

lepa71 wrote:
Tue Apr 16, 2019 1:34 pm
So you are saying. Once polluted, stays polluted :wink:

Just wondering. If I wouldn't have those non-deductible contributions. How normal Roth conversion would go in retirement?
Not just in retirement ... if there is no basis there is no pro-rata rule. So every Roth conversion is taxable income. It just adds to the Adjusted Gross Income on your tax return to arrive at the "Modified Adjusted Gross Income", and you will be taxed on this MAGI

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lepa71
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Re: pros and cons for rollover to tIRA or other 401k from previous employer

Post by lepa71 » Tue Apr 16, 2019 3:53 pm

lepa71 wrote:
Mon Apr 15, 2019 7:30 pm
Can you give an example with numbers?

I calculated that if I try to convert $91K to Roth I would have to pay 22% federal and 7.5+ for MN state. This is almost 30%. $27000.
lakpr wrote:
Mon Apr 15, 2019 7:33 pm
Yep those figures are correct. Sorry boss, I know it bites but think about it this way. Conversion now will make the next 20 years free of tax hassles.

You want to reconsider Option 2?
I just want to clarify something. That $27000 are additional income or what will have to be paid? Adding $27K to my income would still keep me in 22%. Paying $27K out of the pocket is bad.

lakpr
Posts: 1140
Joined: Fri Mar 18, 2011 9:59 am

Re: pros and cons for rollover to tIRA or other 401k from previous employer

Post by lakpr » Tue Apr 16, 2019 3:56 pm

lepa71 wrote:
Tue Apr 16, 2019 3:53 pm
I just want to clarify something. That $27000 are additional income or what will have to be paid? Adding $27K to my income would still keep me in 22%. Paying $27K out of the pocket is bad.
You have to pay $27k to the IRS. At the time of Roth conversion you will have the chance to either pay the tax out of pocket, or from within the Roth conversion amount (called withholding percentage). If you are converting to Roth, it is better to actually pay the tax out of pocket (more money gets into Roth, and therefore more money will grow tax free for decades).

The $27k is TAX on the conversion, you add $91K to the income.

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