Roth IRA Money Market Account for living expenses?

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avalpert1
Posts: 595
Joined: Sat Mar 02, 2024 6:15 pm

Re: Roth IRA Money Market Account for living expenses?

Post by avalpert1 »

RyeBourbon wrote: Tue May 14, 2024 5:02 pm
avalpert1 wrote: Tue May 14, 2024 4:52 pm
Silk McCue wrote: Tue May 14, 2024 3:57 pm
marcopolo wrote: Tue May 14, 2024 2:35 pm
Philx wrote: Tue May 14, 2024 2:28 pm Thanks to everyone for the replies and discussion - all greatly appreciated and informative. I will need to re-read the 40 post's many more times.

My question aligns closely with Silk McCue's description.

Regards, and thank you
Phil
Silk McCue's situation yield some benefit because they are right at the boundary of a tax bracket.
That is, the benefit only exists if the conversion is at a lower bracket than the income the conversion generates.
You have to dial in your conversion very accurately to have the conversion at say the 12% rate, but the income at the 22% rate.
Are you doing that?

If they are both at the same rate 12%, or 22%, then there is no real benefit.
See the example math i posted above.
This thread is NOT about normal Roth conversions intended for long term growth. It is about performing a Roth conversion for the funds you plan on withdrawing from your Traditional IRA for spending in the current tax year. Allowing that amount to grow tax free while then taking withdrawals throughout the year that would have otherwise come from the Traditional IRA. By doing so any gains that are achieved from holding it in a safe Money Market fund in today’s high interest rate environment will go untaxed.

Even if you weren’t trying to stay in a particular tax bracket and didn’t care if some went into the 22% bracket it would still yield a tax free growth benefit.

The results are not big money but it is real money.

Cheers
And again, you would get the same tax free growth benefit if you left it in the traditional IRA (and withdrew at the same marginal income tax rate).

Traditional IRAs have deferred income tax, growth on your post-tax income is exactly as tax-free as in a Roth. A part of this thread is indeed about a 'normal Roth conversion' because that is what is being done, a normal Roth conversion.
Again, ignoring the AGI issue. It's a second-order optimization, but thanks for your concern.
What is a 'second-order optimization'? Tax optimization between traditional and Roth is all about 'AGI' (really marginal rates but close enough) - the tax rate paid on the income is the only differentiator.
RyeBourbon
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Location: Delaware/Philly

Re: Roth IRA Money Market Account for living expenses?

Post by RyeBourbon »

avalpert1 wrote: Tue May 14, 2024 5:05 pm
RyeBourbon wrote: Tue May 14, 2024 5:02 pm
avalpert1 wrote: Tue May 14, 2024 4:52 pm
Silk McCue wrote: Tue May 14, 2024 3:57 pm
marcopolo wrote: Tue May 14, 2024 2:35 pm

Silk McCue's situation yield some benefit because they are right at the boundary of a tax bracket.
That is, the benefit only exists if the conversion is at a lower bracket than the income the conversion generates.
You have to dial in your conversion very accurately to have the conversion at say the 12% rate, but the income at the 22% rate.
Are you doing that?

If they are both at the same rate 12%, or 22%, then there is no real benefit.
See the example math i posted above.
This thread is NOT about normal Roth conversions intended for long term growth. It is about performing a Roth conversion for the funds you plan on withdrawing from your Traditional IRA for spending in the current tax year. Allowing that amount to grow tax free while then taking withdrawals throughout the year that would have otherwise come from the Traditional IRA. By doing so any gains that are achieved from holding it in a safe Money Market fund in today’s high interest rate environment will go untaxed.

Even if you weren’t trying to stay in a particular tax bracket and didn’t care if some went into the 22% bracket it would still yield a tax free growth benefit.

The results are not big money but it is real money.

Cheers
And again, you would get the same tax free growth benefit if you left it in the traditional IRA (and withdrew at the same marginal income tax rate).

Traditional IRAs have deferred income tax, growth on your post-tax income is exactly as tax-free as in a Roth. A part of this thread is indeed about a 'normal Roth conversion' because that is what is being done, a normal Roth conversion.
Again, ignoring the AGI issue. It's a second-order optimization, but thanks for your concern.
What is a 'second-order optimization'? Tax optimization between traditional and Roth is all about 'AGI' (really marginal rates but close enough) - the tax rate paid on the income is the only differentiator.
Thanks for the input.
Retired June 2023. LMP (TIPS Ladder/SS Bridge) 25%/Risk Portfolio 75%, AA = 70/0/30
Topic Author
Philx
Posts: 18
Joined: Sun Apr 18, 2021 6:34 am

Re: Roth IRA Money Market Account for living expenses?

Post by Philx »

My annual IRA distribution is currently $51K. This amount after taxes pays for living expenses, keeps me in the 12% bracket, allows me to get a good obamacare discount, and draws down my IRA (all factors).

My question about the Roth Money Market was asked because I have $100K in a Brokerage Money Market Account that I use as a Savings Account and the dividends earned, while great, have to be included in the $51K, and reduce the annual IRA distribution and the impact on IRA draw down. I take 75% of the $51K early in the year, factor in my expected money market dividend and make a final distribution at the end of the year getting as close to $51K as possible.

With the information provided here, (next year) I will open a Money Market account in my Roth and "Convert" the $51K IRA distribution to the new Roth MM and allow it to grow tax free, while I draw down the Brokerage MM account.

Again - Thanks everyone for the discussion

Regards,
Phil
dknightd
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Joined: Wed Mar 07, 2018 10:57 am

Re: Roth IRA Money Market Account for living expenses?

Post by dknightd »

Philx wrote: Wed May 15, 2024 4:57 am
With the information provided here, (next year) I will open a Money Market account in my Roth and "Convert" the $51K IRA distribution to the new Roth MM and allow it to grow tax free, while I draw down the Brokerage MM account.

Again - Thanks everyone for the discussion

Regards,
Phil
I think this is a good decision. With the caveat that I'd reduce your Brokerage MM balance next year, and instead leave more in the Roth. Use the Roth as a tax free savings account instead of keeping so much in your taxable savings account.

Just as a follow up to other posts, and to hopefully help explain why I consider this a good idea.

Silk McCue is correct. There is a potential small benefit from doing this.

The "secret" to obtaining this benefit is to delay paying taxes for as long as possible.
Otherwise, marcopolo is also correct. If you pay taxes when you do the IRA to Roth conversion, there is no benefit.

Let me try to explain using a numerical example.

What the OP was doing is moving about $51k from IRA to taxable (mostly at the beginning of the year), where the interest is taxable. Lets say it makes $1K interest. No mention of when they pay taxes on the withdrawal, could be withholding, or making estimated payments. But it does not matter. Moving money into a taxable account before it is needed is not optimal.

Instead, lets do as others have suggested, and just take the money more slowly from IRA as needed:
In January they buy $51k of MM in IRA (a non-taxable event).
They take out money as needed throughout the year (each potentially taxable).
The money they have not taken out yet earns interest. Lets say it $1k
In December they take out what they need, or Roth convert it, and have enough withheld to pay all the taxes due that year. Withholding is always considered timely.
The result: $1k of tax deferred interest.
I think we can agree $1k of tax deferred interest is better than $1k of taxable interest.

Now lets do what Silk McCue, I, and perhaps others suggest (and what Philx has decided to do):
In January they buy $51k of MM in IRA (a non-taxable event).
Then they convert most of it to a Roth (a taxable event, but, DO NOT pay taxes on it yet).
They take out money as needed throughout the year from Roth (not taxable).
The money they have not taken out yet earns interest. Lets say the same $1k (it should be if MM interest rates are the same, and withdraws are at same time).
In December they pay taxes using withholding (probably mostly from Roth, unless they did not convert enough in January)
The result: $1k of tax free interest.
I think we can agree $1k of tax free interest is better than $1k of tax deferred interest.

This is a small benefit. But repeated over many years it would add up. And if I ended up not needing all that $51k for spending (including taxes) the benefit is larger.

In an ideal world, in January I would know exactly how much I wanted to take out of the tax deferred IRA that year. I'd Roth convert it all on January 1. Not pay taxes on the conversion (yet). Withdraw from Roth as needed. Pay taxes by withholding from Roth in December.

The reason this works is because tax withholding is always considered timely. Unlike estimated payments. So put off paying taxes if you can.
You still have to pay the tax eventually. If you leave it in IRA you earn tax deferred interest. If you convert it to Roth you earn tax free interest. Which would you prefer?
Retired 2019. So far, so good. I want to wake up every morning. But I want to die in my sleep. Just another conundrum. I think the solution might be afternoon naps ;)
nyone
Posts: 54
Joined: Sat Oct 10, 2020 12:56 pm

Re: Roth IRA Money Market Account for living expenses?

Post by nyone »

Re the Silk McCue method, IF you have room in your pretax IRA for more fixed/MM, would it make sense to invest the conversion money used for living expenses into equity (ie VTI) to allow more tax free growth and adjust your pre tax allocation accordingly? I guess it could negate the tax savings leading to more withdrawal from the IRA if equities decrease. is that too risky?
Silk McCue
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Re: Roth IRA Money Market Account for living expenses?

Post by Silk McCue »

nyone wrote: Wed May 15, 2024 12:35 pm Re the Silk McCue method, IF you have room in your pretax IRA for more fixed/MM, would it make sense to invest the conversion money used for living expenses into equity (ie VTI) to allow more tax free growth and adjust your pre tax allocation accordingly? I guess it could negate the tax savings leading to more withdrawal from the IRA if equities decrease. is that too risky?
Yes it is unnecessarily risky.

There is a wide chasm between safely gaining a modest tax free benefit using the approach I and others use and trying to throw the dice on a speculative gambit that could have a large downside.

Cheers
avalpert1
Posts: 595
Joined: Sat Mar 02, 2024 6:15 pm

Re: Roth IRA Money Market Account for living expenses?

Post by avalpert1 »

dknightd wrote: Wed May 15, 2024 7:22 am The reason this works is because tax withholding is always considered timely. Unlike estimated payments. So put off paying taxes if you can.
You still have to pay the tax eventually. If you leave it in IRA you earn tax deferred interest. If you convert it to Roth you earn tax free interest. Which would you prefer?
And, I hate sounding like a broken record, but once again this is not an accurate representation - in both cases, the earnings on post-income tax investment is tax free. The only distinction is when you pay that income tax (and thus potentially at what rate). If the income tax rate paid is the same it doesn't matter when it is withdrawn - the amount of post-tax dollars you have to spend is exactly the same.

The only advantage you could have with this plan is if you reduce the amount that is withdrawn at 22% income tax rates (for example) - but that doesn't apply to the OP who has $100k in taxable they could spend instead of the interest earned on the money market funds and thus wouldn't need to withdraw that this year if it would come at a higher marginal rate.

As for the advantage of paying taxes later in the year so that money has more time to grow, you can do that just as much with withholding on withdrawals from a traditional IRA in December as you can a Roth.
RyeBourbon
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Location: Delaware/Philly

Re: Roth IRA Money Market Account for living expenses?

Post by RyeBourbon »

avalpert1 wrote: Wed May 15, 2024 1:37 pm
dknightd wrote: Wed May 15, 2024 7:22 am The reason this works is because tax withholding is always considered timely. Unlike estimated payments. So put off paying taxes if you can.
You still have to pay the tax eventually. If you leave it in IRA you earn tax deferred interest. If you convert it to Roth you earn tax free interest. Which would you prefer?
the amount of post-tax dollars you have to spend is exactly the same.
I'm not here to convince you of anything, but I will give you a numerical example. Assume the following:
1. Traditional IRA of 500k, Roth of 100k, no taxable account.
2. Both accounts invested in fixed income yielding 4.8% (initial monthly income of $2000 and $500, tIRA and Roth respectively).
3. Desired AGI = 80k, this will be done as a Roth conversion.
4. Monthly spending from Roth = 10k

If the conversion is done early in the year, my calculations show ending balances of
tIRA = $440,944 | Roth = $65,823 | Total = $506,767 (total income was $26,767)

If the conversion is done toward the end of the year, say November:
tIRA = $444,215 | Roth = $62,552 | Total = $506,767 (the same as in the previous example)

I think you will agree that in both cases, taxes owed will be the same, the total balance is the same, but in the first case, there is almost $3300 more in the Roth, so it is preferable.

The suggestion in this thread was rather than withdrawing from tIRA and putting the funds in taxable (where they create taxable income), it is better to do an early Roth conversion. I'm not really sure what your exact withdrawal sequence is, but I'm retired and have time on my hands, so I guess I can run the numbers for you. In the case of withdrawing and moving it to taxable, because of the taxable interest, we have to withdraw less than 80k to maintain desired AGI. Given that income will be the same, AGI is the same, taxes will be the same, I maintain that the total balance will be the same, but since you took less from tIRA, the Roth balance MUST be lower than in my first example. If you give me numbers, I will plug them in the spreadsheet and post the results.
Retired June 2023. LMP (TIPS Ladder/SS Bridge) 25%/Risk Portfolio 75%, AA = 70/0/30
RyeBourbon
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Location: Delaware/Philly

Re: Roth IRA Money Market Account for living expenses?

Post by RyeBourbon »

Silk McCue wrote: Wed May 15, 2024 1:15 pm
nyone wrote: Wed May 15, 2024 12:35 pm Re the Silk McCue method, IF you have room in your pretax IRA for more fixed/MM, would it make sense to invest the conversion money used for living expenses into equity (ie VTI) to allow more tax free growth and adjust your pre tax allocation accordingly? I guess it could negate the tax savings leading to more withdrawal from the IRA if equities decrease. is that too risky?
Yes it is unnecessarily risky.

There is a wide chasm between safely gaining a modest tax free benefit using the approach I and others use and trying to throw the dice on a speculative gambit that could have a large downside.

Cheers
I agree with Silk.
Retired June 2023. LMP (TIPS Ladder/SS Bridge) 25%/Risk Portfolio 75%, AA = 70/0/30
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