Rollover IRA or Roth conversion

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Topic Author
WalnutBadger
Posts: 19
Joined: Wed Sep 29, 2021 8:36 am

Rollover IRA or Roth conversion

Post by WalnutBadger »

Greetings, I have a question regarding my wife's old 401(k) accounts. My wife has three different inactive 401(k) accounts that I am working to get consolidated and organized. There are two accounts of roughly $5k and one with roughly $13k, we are both in our early - mid 30s (32 and 33), my wife is currently not working and is a stay at home mom.

Emergency funds: 3 months

Debt: $28k in student loans and $92k in mortgage

Tax Filing Status: Married Filing Jointly with one dependent (1 year old)

Tax Rate: 12% Federal (marginal), 5% State

State of Residence: Wisconsin

Age: I am 32 and she is 33

Taxable = negligible

His 403b
40% Vanguard 2045 Target Date Retirement Fund (VTIVX) (0.08%)
No company match

His Roth IRA at Vanguard
60% Vanguard Total World (VTWAX) (0.1%)

Contributions

New annual Contributions
$3600 his 403b
$6000 his Roth IRA
$1200 his 457 (governmental)

I currently make $60k a year and will make $73k next year, this is our only source of income.

My question(s) are:
1. When I consolidate my wife's old accounts should I simply do a Rollover IRA or does it make sense to do a Roth conversion with these funds?

2. Will the convertible dollars be taxed at my current regular tax rate?

3. Are there any issues I need to be prepared for?
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retired@50
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Joined: Tue Oct 01, 2019 2:36 pm
Location: Living in the U.S.A.

Re: Rollover IRA or Roth conversion

Post by retired@50 »

WalnutBadger wrote: Mon May 16, 2022 9:52 am
My question(s) are:
1. When I consolidate my wife's old accounts should I simply do a Rollover IRA or does it make sense to do a Roth conversion with these funds?

2. Will the convertible dollars be taxed at my current regular tax rate?

3. Are there any issues I need to be prepared for?
I'd start by getting the 3 old 401k accounts consolidated into a single Rollover IRA.

This will simplify things, then, if you decide to proceed with a Roth conversion on any of the money in the Rollover IRA, you could set up a Roth IRA at the same custodian. Trying to convert from a 401k -> directly to a Roth IRA will likely lead to confusion and withholding taxes on the 401k distributions.

As for question 2, yes, any money converted from Rollover IRA to Roth IRA will be taxed at your marginal rate. I'd suggest that you pay the additional taxes out of an emergency fund or other taxable account assets if you decide to do a conversion. In other words, if $1,000 leaves the Rollover IRA, then $1,000 should go into the Roth IRA.

As for question 3, if you're concerned as to how this will impact your income tax returns (Federal + State) then I'd suggest a small conversion amount (say $2,000) to get familiar with the added paperwork. Then, once you understand the process, you can convert more in the future if you decide to.

Regards,
If liberty means anything at all it means the right to tell people what they do not want to hear. -George Orwell
Topic Author
WalnutBadger
Posts: 19
Joined: Wed Sep 29, 2021 8:36 am

Re: Rollover IRA or Roth conversion

Post by WalnutBadger »

retired@50 wrote: Mon May 16, 2022 10:05 am
I'd start by getting the 3 old 401k accounts consolidated into a single Rollover IRA.

This will simplify things, then, if you decide to proceed with a Roth conversion on any of the money in the Rollover IRA, you could set up a Roth IRA at the same custodian. Trying to convert from a 401k -> directly to a Roth IRA will likely lead to confusion and withholding taxes on the 401k distributions.

As for question 2, yes, any money converted from Rollover IRA to Roth IRA will be taxed at your marginal rate. I'd suggest that you pay the additional taxes out of an emergency fund or other taxable account assets if you decide to do a conversion. In other words, if $1,000 leaves the Rollover IRA, then $1,000 should go into the Roth IRA.

As for question 3, if you're concerned as to how this will impact your income tax returns (Federal + State) then I'd suggest a small conversion amount (say $2,000) to get familiar with the added paperwork. Then, once you understand the process, you can convert more in the future if you decide to.

Regards,
retired@50, thank you for the quick feedback! Your answers are extremely helpful and exactly what I was looking for, I appreciate it!
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retired@50
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Joined: Tue Oct 01, 2019 2:36 pm
Location: Living in the U.S.A.

Re: Rollover IRA or Roth conversion

Post by retired@50 »

WalnutBadger wrote: Mon May 16, 2022 10:18 am
retired@50, thank you for the quick feedback! Your answers are extremely helpful and exactly what I was looking for, I appreciate it!
You're welcome. :beer

Regards,
If liberty means anything at all it means the right to tell people what they do not want to hear. -George Orwell
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FiveK
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Re: Rollover IRA or Roth conversion

Post by FiveK »

WalnutBadger wrote: Mon May 16, 2022 9:52 am New annual Contributions
$3600 his 403b
$6000 his Roth IRA
$1200 his 457 (governmental)

I currently make $60k a year and will make $73k next year, this is our only source of income.
At least for this year (and assuming you don't increase your AGI above the limit for the credit named later), contributing (not converting) at least $2000 to her IRA (either traditional or Roth) would provide an extra $200 from the Saver's credit. E.g., instead of $6K to his and $0K to hers, do $4K to his and $2K to hers, or $3K to each, etc.
little_star
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Re: Rollover IRA or Roth conversion

Post by little_star »

You mention consolidating your wife's old 401k accounts but you do not list any existing IRA accounts for her. If you are filing as MFJ, she is eligible to contribute to an IRA based on your earnings, even if she has no earned income herself (commonly known as a spousal IRA, but not titled as such at the brokerage). You may want to weigh the options of using spare cash to pay the taxes for Roth conversion of her existing retirement funds relative to the benefits of making new Roth IRA contributions for her.

ETA: I see that FiveK beat me to this concept and has additional information regarding the potential benefit of the saver's tax credit.
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retiredjg
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Re: Rollover IRA or Roth conversion

Post by retiredjg »

If you convert the $23k in old 401ks to Roth, it will all be taxed at 12% ($2,760) unless you are in some kind of phase out. To my knowledge, there are no phase outs in the range where you are, but I'm not sure. You might want to run this through tax software to be sure.

With the salary numbers you mentioned, you should easily be in the 12% bracket next year as well.

All of the tax needs to be paid out of savings, not from the 401ks/rollover IRA. If money is withheld for taxes, there will be a penalty because it would be considered an early withdrawal. You want to avoid that.

Getting money into Roth at only 12% is a very good thing as it seems pretty unlikely that you will ever be in a tax bracket lower than 12%. So if you can find the money to pay the tax, I think this is a good choice.
Topic Author
WalnutBadger
Posts: 19
Joined: Wed Sep 29, 2021 8:36 am

Re: Rollover IRA or Roth conversion

Post by WalnutBadger »

FiveK wrote: Mon May 16, 2022 11:09 am
WalnutBadger wrote: Mon May 16, 2022 9:52 am New annual Contributions
$3600 his 403b
$6000 his Roth IRA
$1200 his 457 (governmental)

I currently make $60k a year and will make $73k next year, this is our only source of income.
At least for this year (and assuming you don't increase your AGI above the limit for the credit named later), contributing (not converting) at least $2000 to her IRA (either traditional or Roth) would provide an extra $200 from the Saver's credit. E.g., instead of $6K to his and $0K to hers, do $4K to his and $2K to hers, or $3K to each, etc.
Thank you for the feedback, I hadn't thought about splitting the $6k contribution in order to maximize the Saver's credit. Great idea!
Topic Author
WalnutBadger
Posts: 19
Joined: Wed Sep 29, 2021 8:36 am

Re: Rollover IRA or Roth conversion

Post by WalnutBadger »

little_star wrote: Mon May 16, 2022 11:13 am You mention consolidating your wife's old 401k accounts but you do not list any existing IRA accounts for her. If you are filing as MFJ, she is eligible to contribute to an IRA based on your earnings, even if she has no earned income herself (commonly known as a spousal IRA, but not titled as such at the brokerage). You may want to weigh the options of using spare cash to pay the taxes for Roth conversion of her existing retirement funds relative to the benefits of making new Roth IRA contributions for her.

ETA: I see that FiveK beat me to this concept and has additional information regarding the potential benefit of the saver's tax credit.
I was already planning on getting going on a "spousal IRA" for her after I had maxed mine, but I'm definitely open to funding both in order to capture the Saver's credit. Thanks!
Topic Author
WalnutBadger
Posts: 19
Joined: Wed Sep 29, 2021 8:36 am

Re: Rollover IRA or Roth conversion

Post by WalnutBadger »

little_star wrote: Mon May 16, 2022 11:13 am You mention consolidating your wife's old 401k accounts but you do not list any existing IRA accounts for her. If you are filing as MFJ, she is eligible to contribute to an IRA based on your earnings, even if she has no earned income herself (commonly known as a spousal IRA, but not titled as such at the brokerage). You may want to weigh the options of using spare cash to pay the taxes for Roth conversion of her existing retirement funds relative to the benefits of making new Roth IRA contributions for her.

ETA: I see that FiveK beat me to this concept and has additional information regarding the potential benefit of the saver's tax credit.
I was already planning on getting going on a "spousal IRA" for her after I had maxed mine, but I'm definitely open to funding both in order to capture the Saver's credit. Thanks!
Topic Author
WalnutBadger
Posts: 19
Joined: Wed Sep 29, 2021 8:36 am

Re: Rollover IRA or Roth conversion

Post by WalnutBadger »

retiredjg wrote: Mon May 16, 2022 11:27 am If you convert the $23k in old 401ks to Roth, it will all be taxed at 12% ($2,760) unless you are in some kind of phase out. To my knowledge, there are no phase outs in the range where you are, but I'm not sure. You might want to run this through tax software to be sure.

With the salary numbers you mentioned, you should easily be in the 12% bracket next year as well.

All of the tax needs to be paid out of savings, not from the 401ks/rollover IRA. If money is withheld for taxes, there will be a penalty because it would be considered an early withdrawal. You want to avoid that.

Getting money into Roth at only 12% is a very good thing as it seems pretty unlikely that you will ever be in a tax bracket lower than 12%. So if you can find the money to pay the tax, I think this is a good choice.
That was my thinking, I am moving into a higher paying position within my school district next school year and there is significantly more room for higher wages in this new position. In addition, my wife will be going back to work at some point so I figured this will likely be the lowest our tax rate will ever be.
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retiredjg
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Re: Rollover IRA or Roth conversion

Post by retiredjg »

I think you will have to choose between the saver's credit and the Roth conversion(s). It seems like the Roth conversions might push your income too high for the saver's credit. You should check.

Maybe you could do the saver's credit this year and all the Roth conversion next year.
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