I’m 72. Had to begin RMD’s this year, and that, combined with moderate SS and pension kicked me into the 27% tax bracket. For those who are lucky enough to maximize Roth NOW, do it! I’d remind you others that it wasn’t so long ago there just wasn’t Roth, so I had no other choice except pre-tax investments.
Great chart, but there are a few other variables. I took the big conversion hit to lower my conventional IRA to a Roth to reduce my MRD's in the future to keep my income below the threshold required to raise my medicare premiums as well as any bracket hikes in the future that would potentially increase my taxes.
Great video. I retired last year and plan to maximize Roth conversions up through the 22% bracket and possibly a bit into 24% until I start taking SocSec at age 70. Another point to consider is taxes to beneficiaries. I assume I will not outlive my retirement assets and hope to leave some portion of my Roth accounts to my daughters. If I leave them a taxable IRA they will be forced to take RMDs on top of their working income which will likely be at a higher rate than my retirement income. They can take Roth distributions tax free at a time when they may be facing college expenses for my grand kids or free up cash to super-charge their own retirement contributions.
Another piece I've learned from other presentations you have provided, that may be equally or more important, is the ability to use these Roth conversion funds in later years when combined with social security income to lower one's taxation on social security amounts without decreasing one's standard of living. For example, a person could pull 40,000 from Roth funds and this amount does not count towards income for tax purposes on SSI. RMD's count as income in the year converted; however, RMDs AND social security create something of a tax trap. Such good content guys. Keep up the work.
Single folks pay higher taxes than married folks filing jointly, so as you age and a spouse dies, your taxes can go up 'automatically' regardless of whether federal taxes increase or not. We are doing the roth conversion now for that reason.
I may have missed it, but it's important to note that if you're going to do Roth conversions before 59.5, you don't want to pay the tax out of the conversion money, because if you do you will be subject to penalties.
This video should be a required class in high school and college. I spent my entire working career mindlessly dumping money into a pre tax Ira. At 65 I educated myself on financial planning and realized what an idiot I’ve been. For the past 4-1/2 years my entire focus has been getting as much money as I can into Roth while staying in the 12% bracket. If I had done this 20 years ago my social security would have been tax free instead of paying tax on 85% of it. Your biggest expense in retirement is taxes, not housing or health care. Tax planning is key and you need to start immediately.
Don, staying in the 12% tax bracket might not be optimal, depending on the size of the IRA. If you project the growth of your IRA minus your annual conversion amounts and then at age 72 start examining what tax brackets the RMDs will push you into for the rest of your life, it could make sense to convert even more now at a higher tax rate to get the size of the IRA down enough so that RMDs don't overwhelm you later on. Check some of the other Safeguard Wealth Management videos for more info on this.
@@Lukionest I’ve got some pretty intense spreadsheets looking out 30 years with all sorts of rates of return. Most predictions are for much lower returns for the next 10 years. If that’s true I can stay in the 12% bracket. If it’s not I can live with jumping up a bracket or two. I start collecting SS in July between that and a couple small pensions I can easily maintain my current lifestyle without touching my retirement fund. That said I still lament not starting tax planning much earlier.
@@donofd9626 I feel the same way about wishing I’d started my planning earlier. Glad to hear you are thoroughly analyzing your options to find what works best for you.
I really appreciated your video presentation! I used to debate with a friend that took the position that Roth(s) in general didn't make sense because the end amount was the same compared to a tax deferred account after the same tax rate was applied. But it's more complex than that, which you do a great job in the video of explaining. Besides some of the TCJA sunsetting or possibly being replaced in the not to distant future, some of the hidden down the road advantages (S.S. tax impact, Medicare impact, widow's tax trap, legacy impact) to do a conversion seem to strengthen the justification to support roth conversions for someone interested in tax strategies as it pertains to retirement and legacy planning. Well done.
Good video. One of the reasons I prefer the deferred account is risk management. Two points on your example where you showed the same outcome if you have the same tax rate. One is that your math is correct you will end up at the same point, but it will not be in year 10 as shown in your chart since you will pay the tax on the deferred account will be done over many years, potentially including after you are dead. Which brings me to point 2 which is you manage risk by deferring because when RMDs start to ramp up in your mid 80’s, you have fewer years to fund, therefore a market decline or some extra tax will not have a material impact compared to Roth where conversion in your early 60’s when you may have 25%+ years to fund, a market downturn after paying the tax will have a much bigger impact.
totally agree-And the original deferred account is more judgement proof including if you need long-term care- And remember if you pass your taxable IRA to your heirs its likely you can find grandkids or kids in a lower bracket which would be a net tax savings
I feel so much better after watching this video! I've always paid the taxes on conversions and contributions from after tax sources until the last year or so when I found my taxable funds amount getting lower than I really wanted them to be. I've done conversions since I've hit my 60's and a couple of contributions years ago while still working but always tried to make Roth contributions when my income wouldn't make it too expensive. An IRA or SEP might be a better choice sometimes. I did 2 conversions this year and had tax withheld on the 1st one but not the 2nd.. I can easily add some money to my January estimated tax. The reason I didn't just have it withheld was because Vanguard convinced me to convert all of my mutual funds to brokerage accounts and I called to verify the amount already converted which is now expressed in shares rather than dollars. It's really not difficult to calculate but the Rep on the phone thought I should not have it withheld. I think that it was to avoid any problems with his involvement if the tax was miscalculated. I would point out that one point that is being left out here that could be potentially large is the growth of on the Roth with the taxes payed from after tax sources! For someone who has their Roth funded for a long period of time, the amount of difference could be huge!
What would happen if you weren't willing to settle for paying taxes on your Roth conversions? This same $100k could be converted completely tax free over time between the ages of 67 and 72 simply by bumping up your tax free zone from the standard deduction to the highest income limit of the maximum form 8880 retirement saver's credit with a little earned income ($4,000 MFJ) that's entirely put into your Roth IRA accounts. If you retire early and work this same plan you can move mountains over time and under taxable limits as well...keeping you firmly in the 12% tax bracket where Long Term Capital Gains and Qualified Dividends enjoy a 0% tax rate. I figured this out in my mid 40's and have been slowly and systematically working this plan with another 17 years to go until FRA with another 5 years after that if needed until age 72. Even if we have a bit left in tax deferred accounts this will easily be bleed off rather quickly and under taxable limits by using the metric of what we can take each year while remaining tax free rather than the RMD percentage. Most folks think they can't or won't cut their spending down to this level but honestly, it's child's play as with no mortgage or any other debt how much money do you really need spend? The answer is "not much" as the real "good life" is extremely affordable and available to all. This year (2021) the limit is $39,500 and for 2022 it's $41,000. Keep in mind that this is TAXABLE income and as social security is only partially taxed based upon your provisional income your actual spendable income is even higher. The bonus is that at these taxable income levels, you're also assured to pay the lowest medicare premiums as well. If you're really smart, you'll craft a wonderfully frugal lifestyle that will leave a large surplus each and every year that will have you shoving even more money into taxable investments as well which you can use in retirement to supplement your income without incurring taxes. This is how EVERYTHING is won; retirement, income, taxes both now and later, and even slaying both the "tax torpedo" and the "widow's tax trap".
This is a debate I am having with my current financial advisor. I intend to do small to moderate conversions annually to convert as much as possible before social security hits me (God willing) and pushes me into a higher tax bracket. Also, historically, my Roth investments are, hands down, performing much better than my workplace target date plan. I will customize conversion amounts in order to remain in the same tax bracket while converting. He told me because of my age (early sixties) it would not be a good idea to rollover because the taxes would diminish my investments. But I'm paying them out of my savings or foregoing refund amounts (because I've always gotten substantial refunds). So, for example, a 10K withdrawal from my workplace plan would deposit 10K directly into my Roth (my employer and the plan administrator allow direct conversions that bypass the traditional IRA route.). So the tax-free growth would ultimately be the same or better. That's why your video caught my eye and your calculations seem to confirm my approach. I am a new subscriber.
Great video, as always! ROTH's can also, potentially, help reduce the percentage of your SS you have to pay taxes on and/or reduce the size of Required Minimum Withdrawals (at and after age 72) that may drive you into a higher tax bracket. Unfortunately, you may have to limit the size of your conversions to avoid IRMA on your Medicare if you are within two years of taking Medicare.
You're exactly right Terry. I would emphasize the word may when you mentioned someone may have to limit the size of the conversion. A lot of times we see people scared off by the idea of a medicare increase when the math would show they should still convert up past a penalty zone or two.
What about the fact that future gains in the Roth on converted money is not taxable but future gains on money you choose not to convert in an or IRA is taxable?
Great video, I had heard that if you pay taxes out of the tax conversion, the amount of tax is counted as a distribution and taxed again or be hit with a penalty. FYI, I am 64 years old
Another great video but I think I might have missed something. I believe when you plan to pay the taxes out of the conversion amount, in this case say u are converting $100k, (22% tax bracket, < 59.5yrs old), the IRS requires you to take out the $22k as a distribution from the tax deferred account which is subject to 10% penalty. This is effective 24.2% tax rate of the total conversion. After conversion the final amount should be $75.8k. This additional 10% penalty changes the outlook imo on this strategy
Thank you, this was very reasonable. You are the only person I've listened to who separated the "tax equivalent" from the "optimal" method of tax payment. I want to do some Roth conversions in a 3 year window, and the taxes paid from savings are enough to keep me from doing it at all! That is definitely a case of the best being the enemy of the good.
I get what you are saying, but you are not having to pull $120k out to get to a distribution of $84,900. Your going to be in the 12% bracket for the most part depending if you file jointly, or as a single. Different story if your conversions are going to be on top of other incomes you've received. Just remember the standard deduction come right off the top. So for a married filing jointly you'll be netting $96800 after pain the $13,200 in taxes.
I came across your channel last week and have watched a number of your videos. They are quite well done. I thought I'd leave a comment on this one. I'm not sure you'll see it, since this video is already a few months old, but what the heck. You mention at around 10:30 that the Roth reduces the risk of tax hikes in the future. This is true, when one views only the personal income tax; however, the risk might be higher for corporate rates. If you take a look at the history of sources of government tax revenue the percentage of revenue taken from personal income taxes is at an extreme (high) relative to corporate taxes. I think this means that tax increases are more likely at the corporate level than they are at the individual level. If so, the person holding equities in their Roth won't escape the effects of increased taxation. Another potential risk for the Roth holder is a rule change. For example, many years ago the rules for calculating provisional income to determine the % of Social Security is taxable were changed such that provisional income included municipal bond interest. In effect this is a very indirect (sneaky) way of making municipal bond interest taxable. It's possible in the future that a tax strapped government would include Roth distributions in the formula for PI. Thoughts?
Like the taxing of social security, anything by the govt is possible. But my guess is like the elimination of the backdoor Roth, the govt like Biden will tax the rich first, tax Roth second, then tax everyone. The opposite was the Trump tax cut which ends in 2026 but the permanent changes will help the rich more than the middle class. Did the tax cuts really create jobs? There is something to the frugal 12% tax bracket lifestyle over the next 22% bracket lifestyle. But everyone must decide for his/herself how to spend disposable income.
Nice job! I've been making these exact points to my friends for years. I plan to send this video to a bunch of them. One idea for a future video is to also include the tax benefits youth expenditures of taking a series of distributions from a tax deferred account. It does come out a little bit ahead which is also something to consider and quantify.
You did not mention that 1) Traditional IRAs are subjected to Required Minimum Distributions (RMD) and Roth's are not. 2) When you withdraw from a Traditional IRA, it increases your taxable income, which means that more of your Social Security payments will be subjected to income tax, too, perhaps up to 85% of your Social Security may become taxable. 3) If you take money out of your Traditional IRA each year, the increase in your taxable income will also trigger Income Related Monthly Adjustment Amounts (IRMAA) on your Medicare Part B premiums, but withdrawals from your Roth will not. So, the advantages of a Roth conversion are many.
Bryan, thanks for the comment. You are right, I did not mention those things in this video because we have mentioned these tax hurdles in 80%+ of our other videos. My goal with this video was to dispel common myths and fix common mistakes that prevent many from doing conversions.
@@SafeguardWealthManagement You're right. This was the first video of yours that I had seen, so I was watching it out of context. The very next video that TH-cam recommend to me was a video of yours that covered these exact issues. So, I take back my criticism. Thanks a lot for the reply!
Thank you for this video lesson. Have done a few backdoor Roth contributions which are, in effect, small Roth conversions. Hoping to do more of these (much larger) once I quit working in 4+ years. Planning to do conversions 2026-2030 or so, in an attempt to minimize income taxes in retirement and pass along as much tax-free money to heirs as possible.
A Roth conversion with tax paid from cash is a great way of effectively contributing to your retirement fund. Roth contributions have a limit, Roth conversion have none.
New retirement suggests that we are in the 22% tax bracket age 59 conversion doesn't make sense in retirement. How do you know the growth rate will be 6%? It's all a guess pushing the Roth very confusing. So the moral of the story is you pay the taxes now or later. Plus if you don’t have enough cash to do conversion don’t do it!
The issue with tax equivalent is a hard one for some to understand. The way I explained it to someone is: No conversion: Principle* (1.06)*(1.06)*(1.06)*(1.06)*(1.06)*(1.06)*(1.06)*(1.06)*(1.06)*(1.06)*(0.78) [ 6% annual growth and pay taxes on withdrawal ] Conversion up front: Principle*(0.78)*(1.06)*(1.06)*(1.06)*(1.06)*(1.06)*(1.06)*(1.06)*(1.06)*(1.06)*(1.06) [ pay taxes on conversion and then get exact same performance] Notice that it doesn't matter if you multiply by 0.78 first or last, you get the same answer. Now yes, there are some nuances, but that's the basics of it.
This is good general information, but we need to look at our own individual circumstances. The video talks about a "break even" point in the IRA balance in 10 years, 20 years, 30 years. Older folks may not have that much time! The two points the video makes are worth considering, but I'm going to keep my traditional IRA because I'm in the lowest bracket as it is. There's no compelling reason to pay higher taxes now just to have the same amount in the IRA account in 10 years. For 2021 taxes, I paid $200. This will go up, of course, as the RMDs go up, but I'd still rather pay as I go. Someone else's circumstances may be different.
What I tell my clients is exactly what was presented in this video-it’s a wash. However, a Roth conversion makes sense for estate planning. If a child inherits $1M from his/her parents and makes $60k a year, that child will be forced to take the distributions over a 10 year period. Those distributions would add to their income and could possibly force them into a much higher tax bracket. It used to be that the child could take small sums over the course of their lifetime, but with the SECURE Act stopped that. I had a client who was making $35k as a waitress and inherited $5M from her father. Her taxes as a single mother shot up to the IRS maximum despite years of financial planning. Imagine amassing $5M and then it’s taxed away at 37-39%.
You do great videos on topics not well understood. One consideration that you might have mentioned is the benefit of planning conversions in the early part of the year. If I am not mistaken, if you do a Roth conversion at year end and then pay the taxes on the conversion from a checking or savings account (optimal case), you may be subject to a tax penalty for under-withholding if you're making quarterly estimated tax payments. However, taxes withheld from an IRA distribution are treated as if they were withheld equally throughout the year even if done at year end and will not result in an under-withholding penalty. Additionally, you get the benefit of tax-free growth for the entire rest of the year. Unfortunately, the risk is having some surprise (maybe RMD's on an inherited IRA?) income later in the year and having higher income than planned.
“If you’re paying the same tax rate.” I am not a tax expert and will be exploring tax law, but isn’t the assumption that one is in a lower tax bracket (lower income) in retirement than when they were working making a big income?
Depends on everyone's situation. A lot of retirees will have a lower effective tax rate but see their marginal rate at different points skyrocket because of various tax hurdles. We have quite a few trainings on this topic: th-cam.com/video/12seHaZoJaw/w-d-xo.html The "If you're paying the same rate" comment was to show that if the tax rate is the same, conversions vs. withdrawing later are tax-equivalent scenarios.
If I'm under 59.5 years old, and plan to use part of the conversion from IRA to Roth to pay the taxes, don't I get hit with the 10% penalty for early withdrawl on the portion used to pay taxes?
The chances of the tax “percentages”‘going down obviously doesn’t make sense. Percentage will go up. But one thing missing in this analysis is the tax bracket income range. I pulled a 2000 single tax bracket table to demonstrate this: 0-26,249 15% 26,250-63,539 28% 63,550-132,599 31% 132,600 36% In comparison in 2022: A single person can have taxable income up to 41,775 and still be in 12% bracket. 20 years ago it was 28% The income brackets are obviously inflation adjusted. So it’s not right to compare 22% now and in 10-20 years. Most likely even with these cuts and while it may indeed go up to 28% the income level would be much higher anyhow. Doing Roth conversions while working doesn’t appear to be a good move.
If I understood the 10% penalty could by avoided by paying taxes using my brokerage and savings accts, I would have started my Roth conversions before I retired early at 56. One of the reasons for working in Silicon Valley is stock options in your Roth account!
Interesting presentation on using Roth funds to pay for taxes at the time of conversion which I would like to do but I didn't see you address the loss opportunity on the taxed amount used to pay the taxes.
You kinda dismiss the taxes and filling up the tax buckets in retirement. Why? Because when you are working your IRA/401k money tax bracket is based on the last dollars taxed at your marginal tax rate. So if I am working and in the 22% bracket, my tax rate on a Roth contribution or conversion is 22% on those conversion dollars. But if I am retired and no SS income, then if pull out 150k in IRA and convert it. Then the tax buckets get filled as a married couple.....standard deduction 24k at 0%, then the next 20k at 10%, the next 60k at 12%, and over that at 22%. So with 150k converted at the marginal tax rate of 22% has an effective tax rate of 12.88%. And sure it gets a little worse if we factor in taking Social Security.
I'm sorry if I give that impression but thats certainly not the case. You absolutely want to fill up lower brackets with tax-deferred up until the point where the tax is too expensive for your situation. But when we are performing a conversion at 22%, we aren't trying to replace lower bracket withdrawals, we are trying to replace the top, most expensive withdrawals down the road. So convert at 22% to avoid some tax above 22%, not avoid filling lower brackets.
Pre tax value vs. after tax value = more fees for more "amount under management" for certain "financial advisors"? So incentivized to recommend against Roth/Roth Conversion?
If you do a conversion and also use IRA funds to pay the taxes, isn't the part taken for taxes a distribution? If you take a distribution to pay taxes and you are under 59.5 then do you get hit with a 10% penalty?
I have a small pension, but if you cannot delay SS until 70 because current living expenses high , then look again if doing Roth conversions make sense at cheap 10 or 12%. Save the 22% for when you are taking SS to travel. Hope your pension gets COLA.
A couple of things to consider. First if you are single and presently in the 22% tax bracket and you pull 100k from an traditional 401k, you will easily be in the 24% bracket or worse the 32% bracket. Second, people under medicare will see jump in their medicare premium since the medicare premium is income based. This jump could be substantial. And last people must understand when this money is placed in the Roth account, it is locked up for 5 years. Using available cash from savings to pay the taxes is dangerous if in the future you must pull money from the Roth. You will pay a substantial penalty.
Roger, of course brackets vary for married filers vs. single. IRMAA is something you always need to consider. If over 59 1/2, conversion money is not locked up for 5 years, however. Cash is frequently the best source for conversion taxes.
@@SafeguardWealthManagement What I meant was the money placed in a Roth must remain there for 5 years or you forfeit any gain. To me that money is locked up. Please correct me if I’m wrong.
@@GaryMonfeli it depends on your age. 59.5 is the golden year. If you are over 59.5, you can convert one year and withdraw that converted amount freely the next year. If younger, than yes, the 5 year conversion rule applies until 5 years has passed or you turn 59.5.
Yes. But make sure you are focusing on marginal tax rate and not effective tax rate. Here is a video that describes this: th-cam.com/video/wYPOUlKL-hI/w-d-xo.html
How many think the stock market will go up in the future??? All Hands up. How many think the tax rates will go up in the future??? All Hands up . Both crystal ball!!!! Just look at how many paid less with just the increase in the standard deduction. Im waiting for the big EV tax credit to pay my taxes.
I did a Roth conversion in December 2021, can I pay the conversion taxes in April 2022 or do I need to pay earlier to avoid penalties? (I am retired and last year I didn’t owe anything in taxes)
Great video. Lots of people think the Roth 401k is automatically better because it's tax free profits. As you've shown if tax rates are the same, then there is no difference. Also, for most people their tax rate will be lower in retirement compared to their prime earning years. If that's true, then the Roth 401k will be less than the traditional 401k after taxes.
I totally agree. I am in 22% marginal tax bracket now, but after retirement, I don’t see myself in the same 22% bracket. Most likely 12%. Then, why do I pay 10% more tax now???
Wrong if married filing jointly! The mathematics don't matter because you need to account for the first spouse dying and the widow(er) moving to a single tax rate. There is a huge difference in taxes because the surviving spouse will be pushed into a higher bracket and have a lower standard deduction.
@@SafeguardWealthManagement The example assumed a 22% bracket to start with, say for example $100K per year. Unless the person decreases their income, at today's rates, $100K per year will be in the 24% bracket after one spouse dies, with only a single exemption. There is nothing wrong with the math, only the assumption that the tax rate will remain constant.
@@tomgradel4999 thank you for the added clarification. The video is only showing that mathematically paying 22% now vs. 22% down the road gives you the same outcome. A lot of people think that making a conversion today is ill-advised because you are ending up with a smaller balance. This video is meant to show that this is a important miscalculation. We are 100% in alignment that taxes will likely not be the same in most situations, thus why conversions make sense. You are referring to what we call the widow trap. You are 100% right that this is a huge reason for conversions along with numerous other tax hurdles. Let me know if you'd like me to link to other conversion videos that show all of the reasons a conversion makes sense.
Hey James, because the majority of the time the tax rate today is much different that the tax rate in the future. This video simply shows that if the tax rates are the same, it’s a tax equivalent scenario. Many think there is an opportunity cost to a conversion which isn’t the case. Hope this explanation helps
@@SafeguardWealthManagement Yes, if the assumption is the tax rate would increase (most likely it's going to be the case), in the future, then make the conversion make sense. Provided that the conversion should be controlled at the minimum possible tax rate possible when doing it.
If you made $30K last year, you are in the 12% tax bracket with the room to convert $22K per year until RMD starts at 72...75! The extra tax on the $22K is only $1200 after the standard deduction. I am 61 myself and will be happy with converting $300K even if I pay the taxes out of my IRA funds.
More in tax dollars does not always mean a lower after tax net worth. Is does not need to be complicated. If your tax rate is not lower today then in the future, there is no reason to convert. If it is lower today than when the money will otherwise be withdrawn, it MAY be beneficial to convert, after consideration of the time value of money and you and your heirs future tax rates. Even then, it will likely take many years to come out ahead. I can show an example where looking at a conversion at age 65 will take until the late 80s to provide benefit, even paying 25% or 28% in the future. Yes you will pay more tax over the 25 year period, but the difference in net worth is minimal. I would prefer strategic withdrawals from tax deferred accounts and investing in a brokerage account, where you can avoid future taxes by investing in cash value universal life, and tax free muni bonds and growth stocks which my heirs get a step up in basis and don’t need to liquidate the account in 10 years like they would with a Roth. If needed I can withdraw tax free from the cash value and harvest losses in the brokerage account.
Incorrect. Both 401ks and IRAs (both Roth and traditional IRAs) which are both non qualified plans, need to be emptied by the 10th year if you are subject to the 10 year rule. The one difference is that Roth do not have annual RMDs during years 1 to 9 which a traditional IRA or 401k does have IF the original owner was already taking RMDs. In addition, if the 5 year rule applies, such as when the beneficiary is the Estate or certain trusts, the Roth must be emptied within 5 years.
Does it make more sense to use $7000 cash to pay for the tax on a $32,000 roth conversion (22% tax rate) or use this cash to deposit directly into my roth account(I am over 50)?
Yes as you will no longer have the IRS as your partner in your retirement account. Plus medicare is not free. If you are withdrawing from your retirement accounts You will have to pay erma costs which are about 4K per/yr if your income is 0 and over 10K if you are taking out just small amounts from your IRA. Plus it will save your ss from being taxed. The only big fly in the ointment is congress specifically Senator Wyden who now has decided Congress should tax ROTH IRA if they are too large ...the Peter Thiel blow back...wait until the new Billionaire tax blow back occurs as well a tax on unrealized capital gains... to pay for things most of us don't want and if there is not enough Congress will just inflate our dollar and make it worth less and less and less. Congress needs to get better hobbies instead of trying to figure out how to screw its citizens
If you deposit it directly into your Roth this year, that alone will be the amount of your maximum yearly contribution (if the Roth is originated and held by a bank, and not a government employees system). If the amount is not a problem from a contribution limit standpoint, because you are over fifty, be sure that this amount will not trigger "invisible taxes," more income tax(es), or result in other consequences, such as being removed from receiving means-tested aid. Making a Roth conversion of any amount adds to your ordinary income, so be ready for that. If you are sure that you know all of the consequences of the conversion, and they are acceptable to you, doing the conversion this year ( and paying cash to cover the taxes) will likely be the way to go because 1) The Trump tax cuts are still in effect 2) you are over fifty, and trying to do all of your conversions within three or four years can be mind-bending 3) if your Roth holds dollar-cost averaged stocks, it's a down market, so now is your opportunity for future growth (not a good time to put off conversions). Paying the taxes with cash keeps the purchasing power of dollar-cost averaged investments intact. You did not say how much over fifty you are. You should run this reply by your CFP, no matter what your age. If you are over 70, the situation is very different, of course.
Even if you pay the taxes from the conversion. It's still better to convert to a Roth. Especially if your past retirement. Great information 👍 thank you.
Your example is a bit disingenuous. The numbers work with a 6% average annual return and a 22% tax bracket. If you have a greater return and/or a higher tax bracket keeping the traditional IRA is better.
Isn't true that there isn't 100% certainty that in 2026 marginal tax rates will increase since this is politically unfavorable? In addition the government has other ways to increase tax revenue other than increasing marginal rates? So is conversions in that light as powerful?
Hey John, Great question. I don't think anything is 100% in certain when you're including the government in conversation. As of right now, with no congressional action, most provisions in the TCJA are set to expire in 2026. Could they install TCJA permanently or extend its expiration? Yes. I would make an equal case that I think it could end sooner than 2026, however. It was put into law by the Trump Administration which is enough for many to call for its repeal. I should note that conversions are still powerful after the TCJA expires, they just become less obvious in many scenarios. Yes, they could raise tax revenue in other ways other than income taxes. Over the past two decades, they've tried to raise tax revenue in stealthier ways. Unbeknown to most, this has still raised marginal tax rates. You will never see me make the case/video to perform a conversion because we 'think' congress is going to raise taxes. The only point I was making in this video, if you are converting today at a rate to avoid taxes at the same rate down the road, I think you could make a case to perform that conversion due to the elimination of tax hike risk. At worst, you end up in the same wealth position. This comes back to bite you if the lower marginal rates but that seems unlikely in my humble opinion.
I’m 72. Had to begin RMD’s this year, and that, combined with moderate SS and pension kicked me into the 27% tax bracket. For those who are lucky enough to maximize Roth NOW, do it! I’d remind you others that it wasn’t so long ago there just wasn’t Roth, so I had no other choice except pre-tax investments.
Great chart, but there are a few other variables. I took the big conversion hit to lower my conventional IRA to a Roth to reduce my MRD's in the future to keep my income below the threshold required to raise my medicare premiums as well as any bracket hikes in the future that would potentially increase my taxes.
Great video. I retired last year and plan to maximize Roth conversions up through the 22% bracket and possibly a bit into 24% until I start taking SocSec at age 70. Another point to consider is taxes to beneficiaries. I assume I will not outlive my retirement assets and hope to leave some portion of my Roth accounts to my daughters. If I leave them a taxable IRA they will be forced to take RMDs on top of their working income which will likely be at a higher rate than my retirement income. They can take Roth distributions tax free at a time when they may be facing college expenses for my grand kids or free up cash to super-charge their own retirement contributions.
Another piece I've learned from other presentations you have provided, that may be equally or more important, is the ability to use these Roth conversion funds in later years when combined with social security income to lower one's taxation on social security amounts without decreasing one's standard of living. For example, a person could pull 40,000 from Roth funds and this amount does not count towards income for tax purposes on SSI. RMD's count as income in the year converted; however, RMDs AND social security create something of a tax trap. Such good content guys. Keep up the work.
Thank you Jeffery!
Wow, great point! Never thought of that. Thanks (planning on converting my traditional to Roth soon)!
Single folks pay higher taxes than married folks filing jointly, so as you age and a spouse dies, your taxes can go up 'automatically' regardless of whether federal taxes increase or not. We are doing the roth conversion now for that reason.
This is a fantastic reason to perform conversions. We call it the Widow Trap. We have a few videos on this if you'd like me to link to them
@@SafeguardWealthManagement please do; I think others would find those helpful as well as myself!
I may have missed it, but it's important to note that if you're going to do Roth conversions before 59.5, you don't want to pay the tax out of the conversion money, because if you do you will be subject to penalties.
One more thing to add into the conversion is the 6% earned in the Roth is never taxed. So over all you will pay tax on a smaller amount of income.
My main driver is to avoid larger RMDs in the future & avoid those pushing me into a higher tax bracket.
Also magi
Exactly
This video should be a required class in high school and college. I spent my entire working career mindlessly dumping money into a pre tax Ira. At 65 I educated myself on financial planning and realized what an idiot I’ve been. For the past 4-1/2 years my entire focus has been getting as much money as I can into Roth while staying in the 12% bracket. If I had done this 20 years ago my social security would have been tax free instead of paying tax on 85% of it. Your biggest expense in retirement is taxes, not housing or health care. Tax planning is key and you need to start immediately.
Thanks Don!
If the money went into a 401k you may be able to do a mega backdoor Roth with the pretax funds.
Don, staying in the 12% tax bracket might not be optimal, depending on the size of the IRA. If you project the growth of your IRA minus your annual conversion amounts and then at age 72 start examining what tax brackets the RMDs will push you into for the rest of your life, it could make sense to convert even more now at a higher tax rate to get the size of the IRA down enough so that RMDs don't overwhelm you later on. Check some of the other Safeguard Wealth Management videos for more info on this.
@@Lukionest I’ve got some pretty intense spreadsheets looking out 30 years with all sorts of rates of return. Most predictions are for much lower returns for the next 10 years. If that’s true I can stay in the 12% bracket. If it’s not I can live with jumping up a bracket or two. I start collecting SS in July between that and a couple small pensions I can easily maintain my current lifestyle without touching my retirement fund. That said I still lament not starting tax planning much earlier.
@@donofd9626 I feel the same way about wishing I’d started my planning earlier. Glad to hear you are thoroughly analyzing your options to find what works best for you.
I really appreciated your video presentation! I used to debate with a friend that took the position that Roth(s) in general didn't make sense because the end amount was the same compared to a tax deferred account after the same tax rate was applied. But it's more complex than that, which you do a great job in the video of explaining. Besides some of the TCJA sunsetting or possibly being replaced in the not to distant future, some of the hidden down the road advantages (S.S. tax impact, Medicare impact, widow's tax trap, legacy impact) to do a conversion seem to strengthen the justification to support roth conversions for someone interested in tax strategies as it pertains to retirement and legacy planning. Well done.
Just our luck they will change the Roth rules making conversion pointless.
Good video. One of the reasons I prefer the deferred account is risk management. Two points on your example where you showed the same outcome if you have the same tax rate. One is that your math is correct you will end up at the same point, but it will not be in year 10 as shown in your chart since you will pay the tax on the deferred account will be done over many years, potentially including after you are dead. Which brings me to point 2 which is you manage risk by deferring because when RMDs start to ramp up in your mid 80’s, you have fewer years to fund, therefore a market decline or some extra tax will not have a material impact compared to Roth where conversion in your early 60’s when you may have 25%+ years to fund, a market downturn after paying the tax will have a much bigger impact.
totally agree-And the original deferred account is more judgement proof including if you need long-term care- And remember if you pass your taxable IRA to your heirs its likely you can find grandkids or kids in a lower bracket which would be a net tax savings
This is the best teaching on Roth conversion that I’ve ever heard. Thank you
Great video, thanks so much! Used to think taking taxes out of converted funds was a bad idea.
I feel so much better after watching this video! I've always paid the taxes on conversions and contributions from after tax sources until the last year or so when I found my taxable funds amount getting lower than I really wanted them to be. I've done conversions since I've hit my 60's and a couple of contributions years ago while still working but always tried to make Roth contributions when my income wouldn't make it too expensive. An IRA or SEP might be a better choice sometimes. I did 2 conversions this year and had tax withheld on the 1st one but not the 2nd.. I can easily add some money to my January estimated tax. The reason I didn't just have it withheld was because Vanguard convinced me to convert all of my mutual funds to brokerage accounts and I called to verify the amount already converted which is now expressed in shares rather than dollars. It's really not difficult to calculate but the Rep on the phone thought I should not have it withheld. I think that it was to avoid any problems with his involvement if the tax was miscalculated.
I would point out that one point that is being left out here that could be potentially large is the growth of on the Roth with the taxes payed from after tax sources! For someone who has their Roth funded for a long period of time, the amount of difference could be huge!
What would happen if you weren't willing to settle for paying taxes on your Roth conversions? This same $100k could be converted completely tax free over time between the ages of 67 and 72 simply by bumping up your tax free zone from the standard deduction to the highest income limit of the maximum form 8880 retirement saver's credit with a little earned income ($4,000 MFJ) that's entirely put into your Roth IRA accounts.
If you retire early and work this same plan you can move mountains over time and under taxable limits as well...keeping you firmly in the 12% tax bracket where Long Term Capital Gains and Qualified Dividends enjoy a 0% tax rate. I figured this out in my mid 40's and have been slowly and systematically working this plan with another 17 years to go until FRA with another 5 years after that if needed until age 72. Even if we have a bit left in tax deferred accounts this will easily be bleed off rather quickly and under taxable limits by using the metric of what we can take each year while remaining tax free rather than the RMD percentage.
Most folks think they can't or won't cut their spending down to this level but honestly, it's child's play as with no mortgage or any other debt how much money do you really need spend? The answer is "not much" as the real "good life" is extremely affordable and available to all. This year (2021) the limit is $39,500 and for 2022 it's $41,000. Keep in mind that this is TAXABLE income and as social security is only partially taxed based upon your provisional income your actual spendable income is even higher. The bonus is that at these taxable income levels, you're also assured to pay the lowest medicare premiums as well. If you're really smart, you'll craft a wonderfully frugal lifestyle that will leave a large surplus each and every year that will have you shoving even more money into taxable investments as well which you can use in retirement to supplement your income without incurring taxes. This is how EVERYTHING is won; retirement, income, taxes both now and later, and even slaying both the "tax torpedo" and the "widow's tax trap".
This is a debate I am having with my current financial advisor. I intend to do small to moderate conversions annually to convert as much as possible before social security hits me (God willing) and pushes me into a higher tax bracket. Also, historically, my Roth investments are, hands down, performing much better than my workplace target date plan. I will customize conversion amounts in order to remain in the same tax bracket while converting. He told me because of my age (early sixties) it would not be a good idea to rollover because the taxes would diminish my investments. But I'm paying them out of my savings or foregoing refund amounts (because I've always gotten substantial refunds). So, for example, a 10K withdrawal from my workplace plan would deposit 10K directly into my Roth (my employer and the plan administrator allow direct conversions that bypass the traditional IRA route.). So the tax-free growth would ultimately be the same or better. That's why your video caught my eye and your calculations seem to confirm my approach. I am a new subscriber.
That is the CLEAREST explanation yet! Thanks!
AND this has been my issue of explaining and understanding the taxes.
Thank you!
Great video, as always! ROTH's can also, potentially, help reduce the percentage of your SS you have to pay taxes on and/or reduce the size of Required Minimum Withdrawals (at and after age 72) that may drive you into a higher tax bracket. Unfortunately, you may have to limit the size of your conversions to avoid IRMA on your Medicare if you are within two years of taking Medicare.
You're exactly right Terry. I would emphasize the word may when you mentioned someone may have to limit the size of the conversion. A lot of times we see people scared off by the idea of a medicare increase when the math would show they should still convert up past a penalty zone or two.
@@SafeguardWealthManagement That is my concern. Taking too much and making Medicare cost more.
Good video. For me at age 64, I’m doing Roth conversions and staying within the 12% bracket. The main factor is peace of mind.
Thank you! Peace of mind should be the #1 goal in my opinion in retirement.
I wish mine were 12% I'm paying 24% FED 6% State still the right approach because future RMDs will be overwhelmed with taxes.
I appreciate the detail and pace of this video.
Thank you!
What about the fact that future gains in the Roth on converted money is not taxable but future gains on money you choose not to convert in an or IRA is taxable?
Great video, I had heard that if you pay taxes out of the tax conversion, the amount of tax is counted as a distribution and taxed again or be hit with a penalty. FYI, I am 64 years old
Other reasons for Roth conversion. Inheritance. Avoid Widow tax trap. Creating a bucket of tax-free money for a large expense such as long term care.
Yes, exactly!
Another great video but I think I might have missed something. I believe when you plan to pay the taxes out of the conversion amount, in this case say u are converting $100k, (22% tax bracket, < 59.5yrs old), the IRS requires you to take out the $22k as a distribution from the tax deferred account which is subject to 10% penalty. This is effective 24.2% tax rate of the total conversion. After conversion the final amount should be $75.8k. This additional 10% penalty changes the outlook imo on this strategy
Thank you, this was very reasonable. You are the only person I've listened to who separated the "tax equivalent" from the "optimal" method of tax payment. I want to do some Roth conversions in a 3 year window, and the taxes paid from savings are enough to keep me from doing it at all! That is definitely a case of the best being the enemy of the good.
I get what you are saying, but you are not having to pull $120k out to get to a distribution of $84,900. Your going to be in the 12% bracket for the most part depending if you file jointly, or as a single. Different story if your conversions are going to be on top of other incomes you've received. Just remember the standard deduction come right off the top. So for a married filing jointly you'll be netting $96800 after pain the $13,200 in taxes.
I came across your channel last week and have watched a number of your videos. They are quite well done. I thought I'd leave a comment on this one. I'm not sure you'll see it, since this video is already a few months old, but what the heck. You mention at around 10:30 that the Roth reduces the risk of tax hikes in the future. This is true, when one views only the personal income tax; however, the risk might be higher for corporate rates. If you take a look at the history of sources of government tax revenue the percentage of revenue taken from personal income taxes is at an extreme (high) relative to corporate taxes. I think this means that tax increases are more likely at the corporate level than they are at the individual level. If so, the person holding equities in their Roth won't escape the effects of increased taxation.
Another potential risk for the Roth holder is a rule change. For example, many years ago the rules for calculating provisional income to determine the % of Social Security is taxable were changed such that provisional income included municipal bond interest. In effect this is a very indirect (sneaky) way of making municipal bond interest taxable. It's possible in the future that a tax strapped government would include Roth distributions in the formula for PI.
Thoughts?
Like the taxing of social security, anything by the govt is possible. But my guess is like the elimination of the backdoor Roth, the govt like Biden will tax the rich first, tax Roth second, then tax everyone. The opposite was the Trump tax cut which ends in 2026 but the permanent changes will help the rich more than the middle class. Did the tax cuts really create jobs? There is something to the frugal 12% tax bracket lifestyle over the next 22% bracket lifestyle. But everyone must decide for his/herself how to spend disposable income.
Nice job! I've been making these exact points to my friends for years. I plan to send this video to a bunch of them. One idea for a future video is to also include the tax benefits youth expenditures of taking a series of distributions from a tax deferred account. It does come out a little bit ahead which is also something to consider and quantify.
Great work Eric , great clarity, great comparison ( as usual).
Your example assumes that you pay the tax out of the conversion. If you don’t, the Roth outperforms the tax deferred account significantly.
You did not mention that 1) Traditional IRAs are subjected to Required Minimum Distributions (RMD) and Roth's are not. 2) When you withdraw from a Traditional IRA, it increases your taxable income, which means that more of your Social Security payments will be subjected to income tax, too, perhaps up to 85% of your Social Security may become taxable. 3) If you take money out of your Traditional IRA each year, the increase in your taxable income will also trigger Income Related Monthly Adjustment Amounts (IRMAA) on your Medicare Part B premiums, but withdrawals from your Roth will not. So, the advantages of a Roth conversion are many.
Bryan, thanks for the comment. You are right, I did not mention those things in this video because we have mentioned these tax hurdles in 80%+ of our other videos.
My goal with this video was to dispel common myths and fix common mistakes that prevent many from doing conversions.
@@SafeguardWealthManagement You're right. This was the first video of yours that I had seen, so I was watching it out of context. The very next video that TH-cam recommend to me was a video of yours that covered these exact issues. So, I take back my criticism. Thanks a lot for the reply!
@@bjtwuk No worries! Thank you for the comment nonetheless! All were great points.
Another issue is the 401k conversion is taxable and can kind your social security payment taxable. But the Roth distributions are not taxable income.
by far the best presentation in this topic. Thank you!!!
Thank you for this video lesson. Have done a few backdoor Roth contributions which are, in effect, small Roth conversions. Hoping to do more of these (much larger) once I quit working in 4+ years. Planning to do conversions 2026-2030 or so, in an attempt to minimize income taxes in retirement and pass along as much tax-free money to heirs as possible.
Excellent! And thank you!
Just be aware the current Tax Laws expire in 2026.
A Roth conversion with tax paid from cash is a great way of effectively contributing to your retirement fund. Roth contributions have a limit, Roth conversion have none.
"Never pay taxes on it again" Never say never.
New retirement suggests that we are in the 22% tax bracket age 59 conversion doesn't make sense in retirement. How do you know the growth rate will be 6%? It's all a guess pushing the Roth very confusing. So the moral of the story is you pay the taxes now or later. Plus if you don’t have enough cash to do conversion don’t do it!
The issue with tax equivalent is a hard one for some to understand. The way I explained it to someone is:
No conversion: Principle* (1.06)*(1.06)*(1.06)*(1.06)*(1.06)*(1.06)*(1.06)*(1.06)*(1.06)*(1.06)*(0.78) [ 6% annual growth and pay taxes on withdrawal ]
Conversion up front: Principle*(0.78)*(1.06)*(1.06)*(1.06)*(1.06)*(1.06)*(1.06)*(1.06)*(1.06)*(1.06)*(1.06) [ pay taxes on conversion and then get exact same performance]
Notice that it doesn't matter if you multiply by 0.78 first or last, you get the same answer. Now yes, there are some nuances, but that's the basics of it.
This is good general information, but we need to look at our own individual circumstances. The video talks about a "break even" point in the IRA balance in 10 years, 20 years, 30 years. Older folks may not have that much time!
The two points the video makes are worth considering, but I'm going to keep my traditional IRA because I'm in the lowest bracket as it is. There's no compelling reason to pay higher taxes now just to have the same amount in the IRA account in 10 years. For 2021 taxes, I paid $200. This will go up, of course, as the RMDs go up, but I'd still rather pay as I go. Someone else's circumstances may be different.
What I tell my clients is exactly what was presented in this video-it’s a wash. However, a Roth conversion makes sense for estate planning. If a child inherits $1M from his/her parents and makes $60k a year, that child will be forced to take the distributions over a 10 year period. Those distributions would add to their income and could possibly force them into a much higher tax bracket. It used to be that the child could take small sums over the course of their lifetime, but with the SECURE Act stopped that. I had a client who was making $35k as a waitress and inherited $5M from her father. Her taxes as a single mother shot up to the IRS maximum despite years of financial planning. Imagine amassing $5M and then it’s taxed away at 37-39%.
Eye opener video. Thank you!
Glad it was helpful!
You do great videos on topics not well understood. One consideration that you might have mentioned is the benefit of planning conversions in the early part of the year. If I am not mistaken, if you do a Roth conversion at year end and then pay the taxes on the conversion from a checking or savings account (optimal case), you may be subject to a tax penalty for under-withholding if you're making quarterly estimated tax payments. However, taxes withheld from an IRA distribution are treated as if they were withheld equally throughout the year even if done at year end and will not result in an under-withholding penalty. Additionally, you get the benefit of tax-free growth for the entire rest of the year. Unfortunately, the risk is having some surprise (maybe RMD's on an inherited IRA?) income later in the year and having higher income than planned.
We will have a video coming out on this very soon :)
“If you’re paying the same tax rate.” I am not a tax expert and will be exploring tax law, but isn’t the assumption that one is in a lower tax bracket (lower income) in retirement than when they were working making a big income?
Depends on everyone's situation. A lot of retirees will have a lower effective tax rate but see their marginal rate at different points skyrocket because of various tax hurdles. We have quite a few trainings on this topic: th-cam.com/video/12seHaZoJaw/w-d-xo.html
The "If you're paying the same rate" comment was to show that if the tax rate is the same, conversions vs. withdrawing later are tax-equivalent scenarios.
If I'm under 59.5 years old, and plan to use part of the conversion from IRA to Roth to pay the taxes, don't I get hit with the 10% penalty for early withdrawl on the portion used to pay taxes?
You are correct. Under 59 1/2 will require careful planning to pay the taxes. Either withdrawn from savings or even a Roth itself
@@SafeguardWealthManagement Can you pay taxes from a Roth if it is less than 5 years old?
The chances of the tax “percentages”‘going down obviously doesn’t make sense. Percentage will go up.
But one thing missing in this analysis is the tax bracket income range.
I pulled a 2000 single tax bracket table to demonstrate this:
0-26,249 15%
26,250-63,539 28%
63,550-132,599 31%
132,600 36%
In comparison in 2022:
A single person can have taxable income up to 41,775 and still be in 12% bracket. 20 years ago it was 28%
The income brackets are obviously inflation adjusted.
So it’s not right to compare 22% now and in 10-20 years.
Most likely even with these cuts and while it may indeed go up to 28% the income level would be much higher anyhow.
Doing Roth conversions while working doesn’t appear to be a good move.
If I understood the 10% penalty could by avoided by paying taxes using my brokerage and savings accts, I would have started my Roth conversions before I retired early at 56. One of the reasons for working in Silicon Valley is stock options in your Roth account!
Interesting presentation on using Roth funds to pay for taxes at the time of conversion which I would like to do but I didn't see you address the loss opportunity on the taxed amount used to pay the taxes.
Al the examples in this video show that there isn’t an opportunity cost lost. It all comes down to tax rates
Finally! The answer I have been looking for.
Awesome! Glad we could help Tammy!
my guess is that tax rates in the future will be more than tax rates now!
One other consideration for deferring is age/state tax planning. Nice job.
what if your balance goes down over time-you cannot write off losses in your Roth and you would have paid tax off the original balance
You kinda dismiss the taxes and filling up the tax buckets in retirement. Why? Because when you are working your IRA/401k money tax bracket is based on the last dollars taxed at your marginal tax rate. So if I am working and in the 22% bracket, my tax rate on a Roth contribution or conversion is 22% on those conversion dollars. But if I am retired and no SS income, then if pull out 150k in IRA and convert it. Then the tax buckets get filled as a married couple.....standard deduction 24k at 0%, then the next 20k at 10%, the next 60k at 12%, and over that at 22%. So with 150k converted at the marginal tax rate of 22% has an effective tax rate of 12.88%. And sure it gets a little worse if we factor in taking Social Security.
I'm sorry if I give that impression but thats certainly not the case. You absolutely want to fill up lower brackets with tax-deferred up until the point where the tax is too expensive for your situation. But when we are performing a conversion at 22%, we aren't trying to replace lower bracket withdrawals, we are trying to replace the top, most expensive withdrawals down the road. So convert at 22% to avoid some tax above 22%, not avoid filling lower brackets.
If the conversion avoids magi you're way ahead.
Pre tax value vs. after tax value = more fees for more "amount under management" for certain "financial advisors"? So incentivized to recommend against Roth/Roth Conversion?
Exactly. Unfortunately, this is a massive problem in this industry. Along with many others...
If you do a conversion and also use IRA funds to pay the taxes, isn't the part taken for taxes a distribution? If you take a distribution to pay taxes and you are under 59.5 then do you get hit with a 10% penalty?
Yes to both questions
But many people are in a higher tax bracket later in retirement because of Social Security pensions and RMD’s
It is more realistic and painful to forget about 10% and 12% conversion tax rates it you go straight from working to a pension and SS income.
I have a small pension, but if you cannot delay SS until 70 because current living expenses high , then look again if doing Roth conversions make sense at cheap 10 or 12%. Save the 22% for when you are taking SS to travel. Hope your pension gets COLA.
A couple of things to consider. First if you are single and presently in the 22% tax bracket and you pull 100k from an traditional 401k, you will easily be in the 24% bracket or worse the 32% bracket. Second, people under medicare will see jump in their medicare premium since the medicare premium is income based. This jump could be substantial. And last people must understand when this money is placed in the Roth account, it is locked up for 5 years. Using available cash from savings to pay the taxes is dangerous if in the future you must pull money from the Roth. You will pay a substantial penalty.
Roger, of course brackets vary for married filers vs. single. IRMAA is something you always need to consider.
If over 59 1/2, conversion money is not locked up for 5 years, however. Cash is frequently the best source for conversion taxes.
@@SafeguardWealthManagement What I meant was the money placed in a Roth must remain there for 5 years or you forfeit any gain. To me that money is locked up. Please correct me if I’m wrong.
@@SafeguardWealthManagement it’s all locked for 5 years in a ROTH right?
@@GaryMonfeli it depends on your age. 59.5 is the golden year. If you are over 59.5, you can convert one year and withdraw that converted amount freely the next year. If younger, than yes, the 5 year conversion rule applies until 5 years has passed or you turn 59.5.
So are you saying Roth only makes sense if tax rate of RMD, SS other income is higher than the conversion rate?
Yes. But make sure you are focusing on marginal tax rate and not effective tax rate. Here is a video that describes this: th-cam.com/video/wYPOUlKL-hI/w-d-xo.html
How many think the stock market will go up in the future??? All Hands up.
How many think the tax rates will go up in the future??? All Hands up .
Both crystal ball!!!!
Just look at how many paid less with just the increase in the standard deduction.
Im waiting for the big EV tax credit to pay my taxes.
Is the goal to covert all IRA to Roth IRA?
nobody is accounting for the tax rate increasing over 10 years best convert before the tax rate increases like it did last year from 20 % to 22%
I did a Roth conversion in December 2021, can I pay the conversion taxes in April 2022 or do I need to pay earlier to avoid penalties? (I am retired and last year I didn’t owe anything in taxes)
need to slow down when u present ur video. thx!
Great video. Lots of people think the Roth 401k is automatically better because it's tax free profits. As you've shown if tax rates are the same, then there is no difference. Also, for most people their tax rate will be lower in retirement compared to their prime earning years. If that's true, then the Roth 401k will be less than the traditional 401k after taxes.
I totally agree. I am in 22% marginal tax bracket now, but after retirement, I don’t see myself in the same 22% bracket. Most likely 12%. Then, why do I pay 10% more tax now???
Uh if you're under 59 1/2 and pay taxes from the IRA, wouldn't you pay a penalty(10%)?
Correct
Wrong if married filing jointly! The mathematics don't matter because you need to account for the first spouse dying and the widow(er) moving to a single tax rate. There is a huge difference in taxes because the surviving spouse will be pushed into a higher bracket and have a lower standard deduction.
I'm sorry, so what do you think is wrong?
@@SafeguardWealthManagement The example assumed a 22% bracket to start with, say for example $100K per year. Unless the person decreases their income, at today's rates, $100K per year will be in the 24% bracket after one spouse dies, with only a single exemption. There is nothing wrong with the math, only the assumption that the tax rate will remain constant.
@@tomgradel4999 thank you for the added clarification. The video is only showing that mathematically paying 22% now vs. 22% down the road gives you the same outcome. A lot of people think that making a conversion today is ill-advised because you are ending up with a smaller balance. This video is meant to show that this is a important miscalculation.
We are 100% in alignment that taxes will likely not be the same in most situations, thus why conversions make sense.
You are referring to what we call the widow trap. You are 100% right that this is a huge reason for conversions along with numerous other tax hurdles. Let me know if you'd like me to link to other conversion videos that show all of the reasons a conversion makes sense.
If at the end everything is equal, then why bother to do the conversion?
Hey James, because the majority of the time the tax rate today is much different that the tax rate in the future. This video simply shows that if the tax rates are the same, it’s a tax equivalent scenario. Many think there is an opportunity cost to a conversion which isn’t the case. Hope this explanation helps
@@SafeguardWealthManagement Yes, if the assumption is the tax rate would increase (most likely it's going to be the case), in the future, then make the conversion make sense. Provided that the conversion should be controlled at the minimum possible tax rate possible when doing it.
I need to find out If I made $30k for 2021 and I want to covert $525k from Traditional IRA to Roth IRA, how much taxes would I owe ?
If you made $30K last year, you are in the 12% tax bracket with the room to convert $22K per year until RMD starts at 72...75! The extra tax on the $22K is only $1200 after the standard deduction. I am 61 myself and will be happy with converting $300K even if I pay the taxes out of my IRA funds.
More in tax dollars does not always mean a lower after tax net worth. Is does not need to be complicated. If your tax rate is not lower today then in the future, there is no reason to convert. If it is lower today than when the money will otherwise be withdrawn, it MAY be beneficial to convert, after consideration of the time value of money and you and your heirs future tax rates. Even then, it will likely take many years to come out ahead. I can show an example where looking at a conversion at age 65 will take until the late 80s to provide benefit, even paying 25% or 28% in the future. Yes you will pay more tax over the 25 year period, but the difference in net worth is minimal. I would prefer strategic withdrawals from tax deferred accounts and investing in a brokerage account, where you can avoid future taxes by investing in cash value universal life, and tax free muni bonds and growth stocks which my heirs get a step up in basis and don’t need to liquidate the account in 10 years like they would with a Roth. If needed I can withdraw tax free from the cash value and harvest losses in the brokerage account.
Sorry, but who told you that your heirs will need to liquidate the roth account after 10 years? This rule applies only to qualified accounts.
Incorrect. Both 401ks and IRAs (both Roth and traditional IRAs) which are both non qualified plans, need to be emptied by the 10th year if you are subject to the 10 year rule. The one difference is that Roth do not have annual RMDs during years 1 to 9 which a traditional IRA or 401k does have IF the original owner was already taking RMDs. In addition, if the 5 year rule applies, such as when the beneficiary is the Estate or certain trusts, the Roth must be emptied within 5 years.
Your heirs will thank you.
Does it make more sense to use $7000 cash to pay for the tax on a $32,000 roth conversion (22% tax rate) or use this cash to deposit directly into my roth account(I am over 50)?
Yes as you will no longer have the IRS as your partner in your retirement account. Plus medicare is not free. If you are withdrawing from your retirement accounts You will have to pay erma costs which are about 4K per/yr if your income is 0 and over 10K if you are taking out just small amounts from your IRA. Plus it will save your ss from being taxed. The only big fly in the ointment is congress specifically Senator Wyden who now has decided Congress should tax ROTH IRA if they are too large ...the Peter Thiel blow back...wait until the new Billionaire tax blow back occurs as well a tax on unrealized capital gains... to pay for things most of us don't want and if there is not enough Congress will just inflate our dollar and make it worth less and less and less. Congress needs to get better hobbies instead of trying to figure out how to screw its citizens
If you deposit it directly into your Roth this year, that alone will be the amount of your maximum yearly contribution (if the Roth is originated and held by a bank, and not a government employees system). If the amount is not a problem from a contribution limit standpoint, because you are over fifty, be sure that this amount will not trigger "invisible taxes," more income tax(es), or result in other consequences, such as being removed from receiving means-tested aid. Making a Roth conversion of any amount adds to your ordinary income, so be ready for that. If you are sure that you know all of the consequences of the conversion, and they are acceptable to you, doing the conversion this year ( and paying cash to cover the taxes) will likely be the way to go because
1) The Trump tax cuts are still in effect
2) you are over fifty, and trying to do all of your conversions within three or four years can be mind-bending
3) if your Roth holds dollar-cost averaged stocks, it's a down market, so now is your opportunity for future growth (not a good time to put off conversions). Paying the taxes with cash keeps the purchasing power of
dollar-cost averaged investments intact.
You did not say how much over fifty you are. You should run this reply by your CFP, no matter what your age. If you are over 70, the situation is very different, of course.
Even if you pay the taxes from the conversion. It's still better to convert to a Roth. Especially if your past retirement.
Great information 👍 thank you.
IRMMA ! IRMMA ! Ouch (does RMD from non-Roth trigger this?)
Yes! Effectively all taxable income does
Your example is a bit disingenuous. The numbers work with a 6% average annual return and a 22% tax bracket. If you have a greater return and/or a higher tax bracket keeping the traditional IRA is better.
I think you are misunderstanding Frank. If returns are equal on both sides, they are tax equivalent scenarios at equal tax rates.
Isn't true that there isn't 100% certainty that in 2026 marginal tax rates will increase since this is politically unfavorable? In addition the government has other ways to increase tax revenue other than increasing marginal rates? So is conversions in that light as powerful?
Hey John,
Great question. I don't think anything is 100% in certain when you're including the government in conversation.
As of right now, with no congressional action, most provisions in the TCJA are set to expire in 2026. Could they install TCJA permanently or extend its expiration? Yes.
I would make an equal case that I think it could end sooner than 2026, however. It was put into law by the Trump Administration which is enough for many to call for its repeal.
I should note that conversions are still powerful after the TCJA expires, they just become less obvious in many scenarios.
Yes, they could raise tax revenue in other ways other than income taxes. Over the past two decades, they've tried to raise tax revenue in stealthier ways. Unbeknown to most, this has still raised marginal tax rates.
You will never see me make the case/video to perform a conversion because we 'think' congress is going to raise taxes.
The only point I was making in this video, if you are converting today at a rate to avoid taxes at the same rate down the road, I think you could make a case to perform that conversion due to the elimination of tax hike risk. At worst, you end up in the same wealth position. This comes back to bite you if the lower marginal rates but that seems unlikely in my humble opinion.
@@SafeguardWealthManagement hey that makes sense, appreciate the clarification and thanks for another informative vid!
The Trump taxes expire at the beginning of 2026. The Congress doesn't need to do anything, as the rates will revert to the normal higher rates.
@@johnkumpelis1121 our pleasure!
Mute your swallowing sounds in post production.
well taxes have dropped under Trump from back under Carter, so you could get screwed if taxes do end up dropping lol
Today’s administration wants to dump anything with Trumps name on it so taxes will definitely be going up.
Please speak more slowly.
Will do. Thanks for the constructive criticism
hh781s
#von.ong