That myth that Roth conversions are only for the wealthy is just bad logic. The truth is, a Roth conversion could actually be a smart move for a lot of people, no matter the income level. It’s about future savings and making sure you’re set for retirement without tax worries hanging over your head
Right, the point is not just about how much you have now. It’s about looking ahead and seeing what tax situation you’ll face down the line. I’ve got friends who retired thinking their tax bracket would be lower, but with inflation and everything else, they’re actually paying more. You can’t always bank on being in a lower bracket, especially with the way things are going
Retirement is now more difficult than it was in the past. it's all about balancing your risk tolerance with your long-term goals. Maybe consider speaking to an advisor to help in diversifying your portfolio to spread out the risk
Agreed, I've always delegated my excesses to a CFA suffering major portfolio loss early 2020, amid covid outbreak. I'm now semi-retired and only work 7.5 hours a week, with barely 25% short of my $3m retirement goal after subsequent investments to date
Thanks for sharing your experience! I've been managing my portfolio myself, but it's not working out. Do you have any recommendations for a good investment advisor? I could really use some help
I retired 18 months ago. Have been doing Roth conversions since then, maximizing the 22% bracket. Yes it is hard writing that tax check each year (for the conversion and the taxes on the conversion) but it should pay-off once I start collecting SS in 5 years and 60% of my IRA has been converted to Roth.
Nice! In your situation- how much do you end up saving with the conversion compared to nothing at all? I’m getting a second opinion, but one advisors calculated almost a $350K savings versus staying put with our current pre-tax savings.
Thanks. My sit exactly. For a IRA > 1M you need a VERY large taxable account to pay the large tax bill. Who has that kind of money on the side? I dont.
A point that is missing from most Roth conversion video or talks, including that video, is at what age is the breaking even point of a Roth conversion? Roth conversion are based on optimizing the total value of the accounts during the whole retirement. While this looks like a great goal, it might also mean not doing things one want to do early in retirement to get more money much later, when one cannot enjoy it. In other words, is the retiree the real beneficiary of the Roth conversion, or are his heirs the mains beneficiaries? There no single answer, it depends... But at least everyone should be aware of that.
Taxable accounts don't always have a tax drag. If you understand qualified vs. nonqualified dividends, capital gains tax rate brackets, and which funds are tax efficient in a taxable account (e.g., VTSAX, VTIAX), one can pay close to or even 0% taxes on taxable account money. One just has to have enough knowledge to know to do so.
Paying the conversion tax out of a taxable account effectively shifts dollars from the taxable account to the Roth account where it can grow tax free (with the amount shifted equal to the tax). I view this as a kind of "backdoor" way of making a Roth contribution when I no longer have earned income to make an actual contribution.
Doing the same through 2025. In 2026 I'm hoping for a nice, fat stock market draw down so I can hopefully sell near the bottom in my taxable account and immediately buy back in my Roth, as a sort of backdoor Roth contribution of part of my current unrealized gains (assuming the market eventually recovers). I actually did something similar during the Aug 5 2024 selloff, although in that case it was selling off my remaining IRA equities while simultaneously buying them back in my Roth. In that case I guess it was more of a backdoor conversion instead of contribution. Caveat: If this results in an actual tax loss in a taxable account, wash sale rules apply even if the buyback was done in a Roth. I would need to buy a substantially different replacement asset in that case.
@@captsorghum i don't get it. you are selling down equities in your ira and then buying the same in a roth? why not just do a conversion especially when the market is down. when you say "buying the same in a roth" so that should mean you still have earned income and within the income contribution limits for a roth. are you still working?
@@Random-ld6wg I'm doing conversions as well. But as a result of those conversions, a big chunk of my Roth is sitting in money market and bond funds. Selling stocks in an IRA and buying them back in a Roth using idle Roth funds is not a taxable event and doesn't impact my conversion schedule. No, I'm not working and not making Roth contributions.
@@captsorghum so you make an ira withdrawal when the market is down. you pay taxes on the whole ira withdrawal. within your roth ira, you get some of the roth funds parked in a MM and buy the equivalent equity position you just withdrew from the IRA, reducing your MMF balance in your Roth and increasing the equity portion in your Roth. i still don't understand what the advantage of doing so. why not just increase the equity portion in your roth by using the roth MMF without doing an ira withdrawal that you are not using for expenses. this way you don't pay any marginal tax on the ira withdrawal since you don't really use it for living expenses and is not part of an RMD. unless you are talking about ira withdrawals from an RMD.
Paying from a taxable account can reduce marginal income tax from investment income in that account so that more can grow in a Roth account, tax free. But beware. If you are 63, the conversion will increase your MAGI for the conversion year and may put you into a higher Medicare part B bracket 2 years later. Also, remember the taxes owed on the conversion are calculated at your marginal tax bracket and the conversion push some of the conversion income into a higher tax bracket the year of the conversion. Also remember that total income for any given year is paid at your average tax rate and a marginal tax rate is always higher than an average tax rate.
This is so true! Glad you did this video. As example, I have done several Roth conversions starting in 2022 and continuing thru 2024 and will do same in 2025, filling up the 22% bucket. In each case (including 2022) I have made more in growth within these conversion accounts than the conversion tax liability was in the year of the conversion. In all of the years, I was able to pay the tax liability from the Roth account (always making the Roth conversion in January of the year, and always paying the tax liability in December from the Roth account "principal"). Basically, in these cases, the Roth conversion paid for the tax liability itself. I ended each year with (at least) the same balance in each Roth account as I converted in January. Of course, this is highly influenced on how the Roth account is invested.
I am not challenging whether converting at 22% was a good decision as I don’t know enough about your situation and what % tax you would pay if deferring. With that said, the growth of the account and covering the tax has nothing to do with whether a conversion makes sense. Whether you are up 5% or 50% does not change the math.
@@keithmachado-pp6fv Even if the person stays in the same 22% fed tax bracket, if the TCJA is not extended in 2026 (and beyond), that bracket will increase to 25% fed tax bracket. That 3% savings by doing Roth conversions now should be worth doing.
Good point but one of the presidential candidates has already indicated he will extend the current rates and the other has vowed not to raise taxes on those making under $400k, which would be the top of the 24% bracket. In addition my RMDs won’t start until 2036 so who knows what the rates and brackets will be by then. Even if it goes to 25% you don’t pay that on all your income. I would rather pay a bit more when I am older (closer to the finish line) than pre pay to save a small amount. To each their own.
@@keithmachado-pp6fv Yes, I understand that one stated he will extend the current rates. So if he is elected, most of us "ordinary" people will stay in our current tax brackets. However, the other that vowed not to raise taxes on those making under $400k, is using that as a technicality and will increase taxes by not extending the TCJA. The technicality is that she will let the TCJA expire, so taxes will go up 3% in most tax brackets, and thus, it is a tax increase for most people, even those making under $400k. The one exception is those in the lowest tax (10%) tax bracket. The tax bracket that most people are in will increase from 12% => 15%, 22% => 25%, 24% => 28%. And, yes, I understand that income taxes are increases progressively and that not ALL your income gets taxed at the highest rate in your tax bracket. As for me, I have been doing partial Roth conversions up to the top of my income tax bracket (filling up my current tax bracket). This will stop me from having to jump into the next higher tax bracket once I reach RMD age, since I will still have tax deferred (TIRA) when I reach that age. Even though I have to pay the income tax on my conversions, all my earnings from my conversions will be compounding tax free after that. I will save some on income taxes, which will benefit me some, but it will definitely benefit my heirs once I pass.
Hi Eric. Great video and discussion on this topic that can be so confusing. Hopefully this will clear things up for your viewers, I suspect it will. Have a great weekend and keep up the useful content. Thanks Eric. Larry, Central Valley, Ca.
Couple of items people forget on conversions. If you lower your income enough, you can eliminate the taxes on your SS, which would really speed up your break even time line. Your income also affects your healthcare cost, bigtime prior to age 65 and even after 65 it can affect how much you pay for Medicare. I just did a large conversion this year, which is going to save me 24K a year on healthcare for the next 9 years till I turn 65, because the ACA premiums are based on income.
Great video! Have never understood that other messaging. Question, what's a good planning program available to do it yourself ppl to help identify optimal conversions?
I recently adjusted my Roth IRA to 50% in SCHD, 25% in SCHX, and 25% in SCHG. For my Roth 401k, I went with 70% in Vanguard's S&P 500 Index, 20% in the Vanguard Growth Index, and 10% in the Vanguard International Index. My goal is to grow my $350k to over $1 million within the next three years.
I agree-having an advisor manage my investments has been invaluable since my work schedule doesn't allow time for in-depth analysis. Thankfully, my portfolio has grown fivefold in just four years, reaching nearly $1 million today.
Rebecca Lynne Buie has consistently been my top recommendation. She’s widely recognized for her expertise in financial markets and has a strong track record. I highly recommend her.
Example: If you want to convert $100,000 to a Roth acct from an IRA acct and say, have your brokerage withhold 20% from that IRA for taxes, that 20% extra is itself a taxable distribution; isn't it? So you have to pay tax on the tax withholding. Sounds like a vicious circle unless I'm missing something fundamental.
I heard that you say many times that the Roth conversion is viable, but I didn't hear or see any comparisons to not doing the conversion. I see some charts but can't really read them on the video. Other than saying it, can you show a side-by-side timeline of each strategy and how in the end, the conversion gives the person more income?
I guessed correctly what your teaser was hinting at. This drives me crazy too. Would you be better off with 100k in pretax, or 70k in roth? That's all that matters.
Too many ppl use generalized guidelines to be steered into Roth conversions. 1) If in high income bracket already, paying the taxes early is not always better. The $ paid ti IRS will nvr compound. There must be a tax rate arbitrage. 2) how old is one & jow long expected to live? I did my detailed projections, I will be 95 b4 conversion breakeven, assuming I live that long. 115 b4 significant advantage. I know my physical health will decline rapidly from 70+ and will prob not travel after 80. I'd rather have the $ to enjoy those physical adventures earlier in retirement. 3) If I die early, IRS would be the real benefactor. 4) If the children inherited a higher tax burden, do I care? They're already very luck indeed.
These discussions tend to just compare tax rates of a person at the time of Roth conversion vs tax percent that would be paid when the RMD would otherwise come due... but there is far less discussed about the benefit that all remaining compounding of earnings becomes tax free once the money goes into the Roth account, which seems possibly the bigger benefit. The longer the converted money is in the Roth account, the more beneficial this strategy will become, since the money may actually multiply in value. So for example, if you pay tax on $20K when you convert to Roth, vs at retirement when you need the money or take an RMD, it may be paying tax on $40K, $60K or ? depending on time and growth rate. Even taking the money out and putting it in a taxable account may have some benefit, because you will pay full earned income rates on all before tax IRA funds as an RMD (or anytime out of the IRA).... but if you take the $20K out and pay the 22%, 24%, etc tax on the $20K today, then remaining earnings are Long Term Capital gains, and if those funds grow to $60K in the taxable account, but most people will pay 15% on the additional $40K of earnings, rather than 22%, 24% (or whatever) earned income rate bracket you are at - of course again this depends somewhat on your relative tax brackets when you convert or when you use the money. If your retirement income is low enough, this strategy will not be as beneficial. But I think this point is that pre-tax IRA investments are probably over-sold as a sole retirement investing strategy. It would generally be better to have a mix of investment types - taxable, pre-tax and Roth, and possibly tap a mix of all 3 types each year as a retiree, with the ability to adjust the percent of each that you take out, to somewhat control tax rates if you truly want to minimize over-all lifetime tax paid... of course no method can be made 100% perfect because we can't forecast every possibility of our future (longevity, earnings rates, medical/unusual expenses, future tax rates), but I believe this would produce over-all better results (lower lifetime tax paid). Also, controlling what types of assets you put in each type of investment would help - don't just put the same risk balance of stocks, bonds, and cash in each investment type - lean toward bonds in pre-tax IRA/401K (whose interest/dividend income earnings will be paid as earned income rates in any case), and stocks and more speculative, higher earning investments in Roth, and remaining investment types that make up your over-all preferred stock bond cash risk adjusted mix, in your standard taxable brokerage and bank accounts. So keep more of the capital gain investments in the Roth or standard brokerage accounts if possible because for most people they can take advantage of the tax at a lower 15%, rather than full earned income rates, (and any tax exempt investments, like muni bonds, in your taxable brokerage account for sure - otherwise your tax exempt earnings would be taxed), while if you have stock/capital gains funds in a pre-tax IRA/401K you're going to pay earned income rates on the capital gains when you finally withdraw the funds from the IRA/401K. That's my take. My apologies to those who know this already, but I know, I wish I had taken the time to figure this out earlier or that the brokerage advisor would have pointed this out in helping clients manage taxes more efficiently, to reduce lifetime tax cost. Note that for most people, it is not beneficial to put all of your investments into Roth (and gives less options during your working years), so that in retirement you only have Roth funds, because due to deductions and the tax brackets, it is generally going to be better to have a mix of fund sources to draw from so you take full advantage of filling the standard deduction and low 10% or 12% brackets, maybe higher. The goal should be to have a more consistent annual tax rate through your lifetime as possible, thru working and retirement years, which will reduce your lifetime tax payments, rather than trying to pay all tax during working years and have only Roth funds in retirement or paying none of your retirement taxes by using exclusively pre-tax IRA investments because either of these approaches will likely cause higher lifetime taxes, by pushing too much taxable income before or after retirement rather than smoothing it out thru your lifetime. Also note that if you have significant (deductible amounts of medical or nursing expenses) you may be able to off-set taxes for funds you take from your IRA to pay these bills - another reason for not having only tax free income in retirement. ---- Sorry I just got on a roll --- probably too much info But perhaps something here could also provide points to discuss with an investment / brokerage or tax advisor.
At the 7:30 mark of this video you show a conversion case study with no taxable account. The couple retires at 65 taking $85K/year from their pre-tax account until they start Social Security. Their RMD’s start at 73 which is 8 years after retirement. Every Roth conversion video I see does not take into account that over time, due to inflation, the standard deduction and upper limit of each tax bracket goes up. While I realize financial planners can’t predict what the standard deduction and upper limit of each tax bracket will be, I get the feeling that this may result in financial planners recommending Roth conversions unnecessarily for their clients when the client would be able to absorb the RMD and not jump a bracket.
I have also thought about inflation effects with respect to time value of money. I’m currently squarely in the 22/25% bracket and will be in the 24/28% bracket when RMDs hit in 13 years. Converting $100K today would cost $22,000 to avoid $28,000 in 13 years. A present value calculation with 2.5% annual inflation shows that $28,000 thirteen years from now is worth $20,311 today. Spending the money today appears to be more costly.
@@Fedupgarbageguy You're not considering the growth in the account over 13 years, on which you would pay tax in a pretax account but in a Roth account that $22,000 would be the last tax you ever pay on it no matter how big the balance gets.
How about using the gains in a Traditional IRA to perform Roth Conversions? Say you have $1 million in the Traditional IRA and you earn a conservative $50k a year. You then convert $100k to Roth and use $25k of gains to pay the tax. So you're converting a gross of $125k and netting $100k of conversions. You can then do this over several years until you're at a point where you are no longer generating enough to do a full $100k conversion. So you can lower the conversion amount to adjust for the returns you are getting. Each yearly conversion can be put in a more growth orientated investments, assuming you started the process with a more conservative portfolio. Of course if you started with a more aggressive portfolio that would be fine provided you account for down years in the market. You might need to suspend conversions in a down market year. Does this seem like a viable strategy and would you consider doing a video on this scenario? It seems like a way to manage Roth Conversions out of a tax differed account when you might not have enough money in a taxable account.
2:45 If our household currently gross income is abound $60 with the AGI being less than half of that and our total income after retirement (in 2034 probably) looks to be about $100k with 10 to 15% of that coming from ROTH accounts (if we were to draw on those at the same rate as our pre-tax accounts). Does it make sense that we should be in nearly the same tax bracket and not have so much to gain by conversion?
Right now my fed tax rate is 22% and state is 4.75%. I'm doing the roth conversions this year just in case a certain person becomes president of the U.S. and jacks up the tax rates to pay for her communist utopia.
Good video as always. I agree paying tax from the taxable account makes sense to maximize the amount in the Roth. With that said, the tax drag on the brokerage account only occurs if you invest in assets that throw off annual income or sell investments for a gain. In 40 years I have had a brokerage account and never taken $1 of cap gains.
Yes that is the plan. Spend down as much of the tax deferred as possible and don’t touch the rest other than to harvest losses or if a significant health issue or other catastrophic event causes a need to access it.
Yes, me too. But the max capital gains tax is currently 20% so it makes sense to use those first if you can. That being said I am holding off on doing that right now in the likely case that the Trump Tax cuts will go away in 2026. If they do, I will then use the taxable funds to pay the tax as the capital gains will be lower than the pre 2017 tax rates.
Interesting. Even if your basis was only 10% of current value, wouldn't it still be better to have that 90% gain count toward the target IRMAA threshold than 100% of the portion of the conversion destined for tax witholding? I guess you would have to allow for a larger asset sale to pay CG taxes in addition to conversion taxes, so maybe there is a point at which it stops working.
@@captsorghum I'm not old enough to have to worry about IRMAA. My basis is about 25% for 1/2 of my brokerage, and virtually 0 for the other half. It just seems inefficient to create a taxable event to pay the taxes on a different taxable event, but I could be totally off base with this.
@@kersting13 it depends. If you don’t have brokerage assets with high basis (low unrealized gains), maybe you can offset the CGs with other capital losses.
You have to be aware that if you try this under the age of 59.5 that the taxable amount counts as a distribution from your qualified account and you have to pay a 10% withdraw penalty of those funds. This catches the unaware all the time.
Love your show. So, my question is does the marginal tax rate matter. If my last dollars are at the 22% marginal rate, but overall i am paying an effective tax rate of 12.1, does the conversion to the 22% bracket make any sense? What am i missing?
Thank you so much! Marginal rate is the only thing that matters. Let me use a hypothetical example. Say we are comfortable Roth Converting if we are paying a rate less than 25%. We convert $10,000 in the 24% bracket and $1,000 in the 32% bracket. Our effective tax rate is 24.7% which is below the 25% threshold but if we assess each dollar of conversion (what marginal rate does), we actually messed up. The $1,000 conversion in the 32% bracket caused us to pay a higher tax rate (led to paying more in taxes) than we otherwise could have withdrawn in the future.
Don't expect this video to get mega views, as most Americans' eyes glaze out when it comes to finance, except their eyes perk open for buying lottery tickets for a get rich quick silver bullet to make up for their lack of fiscal discipline. IRA to Roth conversion is the least of their problem as most has next to zero IRA balance.
If paying all that tax up front in the first few years of retirement, where is the breakeven point. How long does the example couple need to live to realize a net gain in overall tax savings. Typically this is about 19 year post conversion. Do your calculations show the same.
Not sure where this statement is coming from, "Typically this is about 19 year post conversion". There's no way to provide a general answer to a very specific question but I will say most people look at the breakeven entirely wrong. Taxes don't stop at your death. Proper breakevens consider tax implications on your life as well as what will happen with the money at death. Tax consequences to your heirs needs to be considered. Say you are converting at 22% and your heirs tax rate is 25%, conversions are immediately beneficial as if you passed away today, the next generation saves.
@@SafeguardWealthManagement See that is where the practical or perhaps my cynical side come in. Based on your statement I’m paying more taxes so that my heirs can pay less. But they would be getting “free” money from me so why should I care if they pay a little more of that “free” money in taxes. Plus, I’ll be dead!
A few facts are missing such as how old the person is, whether they are still working, other income (I assume not much if they have no other assets). If I had $2m in tax deferred and nothing else, the last thing I would be doing is a Roth conversion. What are you going to live on? SS is not enough as we all know. If you are 60 your first RMD is 15 years away, plenty of time to withdraw from the IRA to spend and no need to convert to Roth. Even if the IRA balance is still $2m when you are 75, the first year RMD will only be $80k. After 15 years of inflation adjustments to tax brackets and the standard deduction, you will pay very little tax. N
Great video! I agree conversions can still be beneficial if you don’t have a brokerage. I’m in that boat and will be doing conversions in a few years when I turn 55. One point I would counter. Around the 5 minute mark you said converting now at 22% to save withdrawing later at 22% is basically a wash. I would disagree and say it could still be worth the conversion. You have $1M at 60 years old and do conversions at 22%. Now at 75 years old it’s grown to $2.5M. Had you done conversions most of that growth is now tax free instead of eventually owing 22% on the full $2.5M
I think you missed the point about paying the conversion tax out of the conversion itself. If you do that, you start with less in the Roth. But in the end, the final tax-free amount will equal the net amount from the pre-tax account after taxes (assuming the same tax rate) -- that's the wash. In the scenario you describe (equal amounts in Roth and pre-tax), the conversion tax came from somewhere else, effectively adding to the starting Roth balance.
Sorry but that math is incorrect. If you have $1m and convert in 22% bracket you have $780k. In your example that would grow to $1,950, exactly the same if you did not convert and paid 22% on the $2.5m.
You’re right, my bad. Thanks for the clarification. Guess my math isn’t great at midnight 😂. I’ll remember to do my financial planning earlier in the day!
4:55 I don't really like when people describe this scenario as though its "only" or even "primarily" just a difference of a lower tax rate now vs. a higher one later. That's not actually the problem. The problem is the GROWTH ON TOP OF the tax rate. So it doesn't even honestly matter that much what your current tax RATE is. Say you have $100,000 and you pay taxes on it to convert to never having to pay another dollar in taxes on that money INCLUDING ITS GROWTH going forward, that is a much better scenario than once the money has grown to $1 or $2 million AND THEN paying whatever tax rate as you withdraw those millions of dollars, paying any tax rate on ALL of that money. I'd rather pay ANY tax rate today so that the massive growth in the future is never taxed at all. So the differential tax rates have almost nothing to do with it, even though every source you'll ever read only ever talks about whether you pay a lower tax rate today or will in the future. Nope, its about the PORTFOLIO VALUE you will be taxed on in the future, that's the calculation you have to make.
I just listened to the very next comment about that where you stated that 22% today vs 22% 40 years from now is "a mathematically equal situation"!!!! ON WHAT PLANET? You can pay 22% today on $100,000 and never pay another dime in taxes no matter what that 100k generates over the rest of your life OR you can pay no tax now and pay that same 22% rate on every dime the $2 million that original $100,000 becomes!!! Who on God's green Earth would choose the latter? It's literal insanity. Please stop saying this!
Isn't the total tax savings the conversion tax savings + the tax fee savings on any gains in the Roth? Depending on the length of time, that tax savings on gains in the Roth could be substantial. The total savings is what I'm after.
Yes, but less the time value of money on the taxes paid in advance. We lose all that growth on that tax money we paid early (sometimes decades early). I'm in year 10 of 13 of my planned Roth conversions. Just to let you know I'm pro-Roth conversions, if conversions are done at a lower tax rate than the predicted tax rate that is avoided when Roth withdrawals are made.
You’re looking rather rugged and manly these days my friend. I get the whole Roth conversion argument. However, why not take large distributions during your 60’s enjoying and sharing those funds and paying taxes as you go. Perhaps delaying SS until 70. Thereby entering RMD’s at a reduced rate. It seems to me it accomplishes the same thing. Where you benefit from the funds and not so much the IRS.
I’ve even heard people say it’s not worth it unless you’re wealthy. I don’t know, something about that logic doesn’t sit right with me
That myth that Roth conversions are only for the wealthy is just bad logic. The truth is, a Roth conversion could actually be a smart move for a lot of people, no matter the income level. It’s about future savings and making sure you’re set for retirement without tax worries hanging over your head
Right, the point is not just about how much you have now. It’s about looking ahead and seeing what tax situation you’ll face down the line. I’ve got friends who retired thinking their tax bracket would be lower, but with inflation and everything else, they’re actually paying more. You can’t always bank on being in a lower bracket, especially with the way things are going
Retirement is now more difficult than it was in the past. it's all about balancing your risk tolerance with your long-term goals. Maybe consider speaking to an advisor to help in diversifying your portfolio to spread out the risk
Agreed, I've always delegated my excesses to a CFA suffering major portfolio loss early 2020, amid covid outbreak. I'm now semi-retired and only work 7.5 hours a week, with barely 25% short of my $3m retirement goal after subsequent investments to date
Thanks for sharing your experience! I've been managing my portfolio myself, but it's not working out. Do you have any recommendations for a good investment advisor? I could really use some help
Very important to consider this especially when the stock market crashes. A roth conversion at the bottom has a massive benefit in the long run.
I retired 18 months ago. Have been doing Roth conversions since then, maximizing the 22% bracket. Yes it is hard writing that tax check each year (for the conversion and the taxes on the conversion) but it should pay-off once I start collecting SS in 5 years and 60% of my IRA has been converted to Roth.
Will you convert the whole thing or just the majority?
Nice! In your situation- how much do you end up saving with the conversion compared to nothing at all?
I’m getting a second opinion, but one advisors calculated almost a $350K savings versus staying put with our current pre-tax savings.
Sounds nice, but what is your break even point in age?
Thanks. My sit exactly. For a IRA > 1M you need a VERY large taxable account to pay the large tax bill. Who has that kind of money on the side? I dont.
A point that is missing from most Roth conversion video or talks, including that video, is at what age is the breaking even point of a Roth conversion? Roth conversion are based on optimizing the total value of the accounts during the whole retirement. While this looks like a great goal, it might also mean not doing things one want to do early in retirement to get more money much later, when one cannot enjoy it. In other words, is the retiree the real beneficiary of the Roth conversion, or are his heirs the mains beneficiaries? There no single answer, it depends... But at least everyone should be aware of that.
Taxable accounts don't always have a tax drag. If you understand qualified vs. nonqualified dividends, capital gains tax rate brackets, and which funds are tax efficient in a taxable account (e.g., VTSAX, VTIAX), one can pay close to or even 0% taxes on taxable account money. One just has to have enough knowledge to know to do so.
Paying the conversion tax out of a taxable account effectively shifts dollars from the taxable account to the Roth account where it can grow tax free (with the amount shifted equal to the tax). I view this as a kind of "backdoor" way of making a Roth contribution when I no longer have earned income to make an actual contribution.
If you have the available cash to do it, it's a great plan.
Doing the same through 2025. In 2026 I'm hoping for a nice, fat stock market draw down so I can hopefully sell near the bottom in my taxable account and immediately buy back in my Roth, as a sort of backdoor Roth contribution of part of my current unrealized gains (assuming the market eventually recovers).
I actually did something similar during the Aug 5 2024 selloff, although in that case it was selling off my remaining IRA equities while simultaneously buying them back in my Roth. In that case I guess it was more of a backdoor conversion instead of contribution.
Caveat: If this results in an actual tax loss in a taxable account, wash sale rules apply even if the buyback was done in a Roth. I would need to buy a substantially different replacement asset in that case.
@@captsorghum i don't get it. you are selling down equities in your ira and then buying the same in a roth? why not just do a conversion especially when the market is down. when you say "buying the same in a roth" so that should mean you still have earned income and within the income contribution limits for a roth. are you still working?
@@Random-ld6wg I'm doing conversions as well. But as a result of those conversions, a big chunk of my Roth is sitting in money market and bond funds.
Selling stocks in an IRA and buying them back in a Roth using idle Roth funds is not a taxable event and doesn't impact my conversion schedule.
No, I'm not working and not making Roth contributions.
@@captsorghum so you make an ira withdrawal when the market is down. you pay taxes on the whole ira withdrawal. within your roth ira, you get some of the roth funds parked in a MM and buy the equivalent equity position you just withdrew from the IRA, reducing your MMF balance in your Roth and increasing the equity portion in your Roth.
i still don't understand what the advantage of doing so. why not just increase the equity portion in your roth by using the roth MMF without doing an ira withdrawal that you are not using for expenses. this way you don't pay any marginal tax on the ira withdrawal since you don't really use it for living expenses and is not part of an RMD. unless you are talking about ira withdrawals from an RMD.
Paying from a taxable account can reduce marginal income tax from investment income in that account so that more can grow in a Roth account, tax free. But beware. If you are 63, the conversion will increase your MAGI for the conversion year and may put you into a higher Medicare part B bracket 2 years later. Also, remember the taxes owed on the conversion are calculated at your marginal tax bracket and the conversion push some of the conversion income into a higher tax bracket the year of the conversion. Also remember that total income for any given year is paid at your average tax rate and a marginal tax rate is always higher than an average tax rate.
This is so true! Glad you did this video. As example, I have done several Roth conversions starting in 2022 and continuing thru 2024 and will do same in 2025, filling up the 22% bucket. In each case (including 2022) I have made more in growth within these conversion accounts than the conversion tax liability was in the year of the conversion. In all of the years, I was able to pay the tax liability from the Roth account (always making the Roth conversion in January of the year, and always paying the tax liability in December from the Roth account "principal"). Basically, in these cases, the Roth conversion paid for the tax liability itself. I ended each year with (at least) the same balance in each Roth account as I converted in January. Of course, this is highly influenced on how the Roth account is invested.
I am not challenging whether converting at 22% was a good decision as I don’t know enough about your situation and what % tax you would pay if deferring. With that said, the growth of the account and covering the tax has nothing to do with whether a conversion makes sense. Whether you are up 5% or 50% does not change the math.
Don't you get penalized doing the conversion in the 1st quarter and paying the tax in 4th quarter?
@@keithmachado-pp6fv Even if the person stays in the same 22% fed tax bracket, if the TCJA is not extended in 2026 (and beyond), that bracket will increase to 25% fed tax bracket. That 3% savings by doing Roth conversions now should be worth doing.
Good point but one of the presidential candidates has already indicated he will extend the current rates and the other has vowed not to raise taxes on those making under $400k, which would be the top of the 24% bracket. In addition my RMDs won’t start until 2036 so who knows what the rates and brackets will be by then. Even if it goes to 25% you don’t pay that on all your income. I would rather pay a bit more when I am older (closer to the finish line) than pre pay to save a small amount. To each their own.
@@keithmachado-pp6fv Yes, I understand that one stated he will extend the current rates. So if he is elected, most of us "ordinary" people will stay in our current tax brackets. However, the other that vowed not to raise taxes on those making under $400k, is using that as a technicality and will increase taxes by not extending the TCJA. The technicality is that she will let the TCJA expire, so taxes will go up 3% in most tax brackets, and thus, it is a tax increase for most people, even those making under $400k. The one exception is those in the lowest tax (10%) tax bracket. The tax bracket that most people are in will increase from 12% => 15%, 22% => 25%, 24% => 28%. And, yes, I understand that income taxes are increases progressively and that not ALL your income gets taxed at the highest rate in your tax bracket. As for me, I have been doing partial Roth conversions up to the top of my income tax bracket (filling up my current tax bracket). This will stop me from having to jump into the next higher tax bracket once I reach RMD age, since I will still have tax deferred (TIRA) when I reach that age. Even though I have to pay the income tax on my conversions, all my earnings from my conversions will be compounding tax free after that. I will save some on income taxes, which will benefit me some, but it will definitely benefit my heirs once I pass.
Hi Eric. Great video and discussion on this topic that can be so confusing. Hopefully this will clear things up for your viewers, I suspect it will. Have a great weekend and keep up the useful content. Thanks Eric. Larry, Central Valley, Ca.
Couple of items people forget on conversions. If you lower your income enough, you can eliminate the taxes on your SS, which would really speed up your break even time line. Your income also affects your healthcare cost, bigtime prior to age 65 and even after 65 it can affect how much you pay for Medicare. I just did a large conversion this year, which is going to save me 24K a year on healthcare for the next 9 years till I turn 65, because the ACA premiums are based on income.
Great video! Have never understood that other messaging. Question, what's a good planning program available to do it yourself ppl to help identify optimal conversions?
Look into Pralana Gold. It's not free, and there's a bit of a learning curve, but it's very comprehensive.
Boldin, formerly NewRetirement is also a good one. I believe it’s around $120/year
I recently adjusted my Roth IRA to 50% in SCHD, 25% in SCHX, and 25% in SCHG. For my Roth 401k, I went with 70% in Vanguard's S&P 500 Index, 20% in the Vanguard Growth Index, and 10% in the Vanguard International Index. My goal is to grow my $350k to over $1 million within the next three years.
It might be worth considering a financial advisor to avoid constant adjustments. Your selections are strong, especially for a $350k portfolio.
I agree-having an advisor manage my investments has been invaluable since my work schedule doesn't allow time for in-depth analysis. Thankfully, my portfolio has grown fivefold in just four years, reaching nearly $1 million today.
That's impressive! Would you mind sharing your advisor's details? I’m in urgent need of rebalancing my portfolio.
Rebecca Lynne Buie has consistently been my top recommendation. She’s widely recognized for her expertise in financial markets and has a strong track record. I highly recommend her.
Example: If you want to convert $100,000 to a Roth acct from an IRA acct and say, have your brokerage withhold 20% from that IRA for taxes, that 20% extra is itself a taxable distribution; isn't it? So you have to pay tax on the tax withholding. Sounds like a vicious circle unless I'm missing something fundamental.
I would call the "Roth" acount the "Tax Advantaged" account because not only does that include a ROTH IRA, but life insurance as well.
I heard that you say many times that the Roth conversion is viable, but I didn't hear or see any comparisons to not doing the conversion. I see some charts but can't really read them on the video. Other than saying it, can you show a side-by-side timeline of each strategy and how in the end, the conversion gives the person more income?
When the next administration delivers a tax free Roth conversion I will move it all!
I guessed correctly what your teaser was hinting at. This drives me crazy too. Would you be better off with 100k in pretax, or 70k in roth? That's all that matters.
So you're filling up the 22% bracket with Roth conversions. Then what are you living off of?
Too many ppl use generalized guidelines to be steered into Roth conversions. 1) If in high income bracket already, paying the taxes early is not always better. The $ paid ti IRS will nvr compound. There must be a tax rate arbitrage. 2) how old is one & jow long expected to live? I did my detailed projections, I will be 95 b4 conversion breakeven, assuming I live that long. 115 b4 significant advantage. I know my physical health will decline rapidly from 70+ and will prob not travel after 80. I'd rather have the $ to enjoy those physical adventures earlier in retirement. 3) If I die early, IRS would be the real benefactor. 4) If the children inherited a higher tax burden, do I care? They're already very luck indeed.
These discussions tend to just compare tax rates of a person at the time of Roth conversion vs tax percent that would be paid when the RMD would otherwise come due... but there is far less discussed about the benefit that all remaining compounding of earnings becomes tax free once the money goes into the Roth account, which seems possibly the bigger benefit. The longer the converted money is in the Roth account, the more beneficial this strategy will become, since the money may actually multiply in value. So for example, if you pay tax on $20K when you convert to Roth, vs at retirement when you need the money or take an RMD, it may be paying tax on $40K, $60K or ? depending on time and growth rate. Even taking the money out and putting it in a taxable account may have some benefit, because you will pay full earned income rates on all before tax IRA funds as an RMD (or anytime out of the IRA).... but if you take the $20K out and pay the 22%, 24%, etc tax on the $20K today, then remaining earnings are Long Term Capital gains, and if those funds grow to $60K in the taxable account, but most people will pay 15% on the additional $40K of earnings, rather than 22%, 24% (or whatever) earned income rate bracket you are at - of course again this depends somewhat on your relative tax brackets when you convert or when you use the money. If your retirement income is low enough, this strategy will not be as beneficial. But I think this point is that pre-tax IRA investments are probably over-sold as a sole retirement investing strategy. It would generally be better to have a mix of investment types - taxable, pre-tax and Roth, and possibly tap a mix of all 3 types each year as a retiree, with the ability to adjust the percent of each that you take out, to somewhat control tax rates if you truly want to minimize over-all lifetime tax paid... of course no method can be made 100% perfect because we can't forecast every possibility of our future (longevity, earnings rates, medical/unusual expenses, future tax rates), but I believe this would produce over-all better results (lower lifetime tax paid). Also, controlling what types of assets you put in each type of investment would help - don't just put the same risk balance of stocks, bonds, and cash in each investment type - lean toward bonds in pre-tax IRA/401K (whose interest/dividend income earnings will be paid as earned income rates in any case), and stocks and more speculative, higher earning investments in Roth, and remaining investment types that make up your over-all preferred stock bond cash risk adjusted mix, in your standard taxable brokerage and bank accounts. So keep more of the capital gain investments in the Roth or standard brokerage accounts if possible because for most people they can take advantage of the tax at a lower 15%, rather than full earned income rates, (and any tax exempt investments, like muni bonds, in your taxable brokerage account for sure - otherwise your tax exempt earnings would be taxed), while if you have stock/capital gains funds in a pre-tax IRA/401K you're going to pay earned income rates on the capital gains when you finally withdraw the funds from the IRA/401K. That's my take. My apologies to those who know this already, but I know, I wish I had taken the time to figure this out earlier or that the brokerage advisor would have pointed this out in helping clients manage taxes more efficiently, to reduce lifetime tax cost. Note that for most people, it is not beneficial to put all of your investments into Roth (and gives less options during your working years), so that in retirement you only have Roth funds, because due to deductions and the tax brackets, it is generally going to be better to have a mix of fund sources to draw from so you take full advantage of filling the standard deduction and low 10% or 12% brackets, maybe higher. The goal should be to have a more consistent annual tax rate through your lifetime as possible, thru working and retirement years, which will reduce your lifetime tax payments, rather than trying to pay all tax during working years and have only Roth funds in retirement or paying none of your retirement taxes by using exclusively pre-tax IRA investments because either of these approaches will likely cause higher lifetime taxes, by pushing too much taxable income before or after retirement rather than smoothing it out thru your lifetime. Also note that if you have significant (deductible amounts of medical or nursing expenses) you may be able to off-set taxes for funds you take from your IRA to pay these bills - another reason for not having only tax free income in retirement. ---- Sorry I just got on a roll --- probably too much info But perhaps something here could also provide points to discuss with an investment / brokerage or tax advisor.
At the 7:30 mark of this video you show a conversion case study with no taxable account. The couple retires at 65 taking $85K/year from their pre-tax account until they start Social Security. Their RMD’s start at 73 which is 8 years after retirement. Every Roth conversion video I see does not take into account that over time, due to inflation, the standard deduction and upper limit of each tax bracket goes up. While I realize financial planners can’t predict what the standard deduction and upper limit of each tax bracket will be, I get the feeling that this may result in financial planners recommending Roth conversions unnecessarily for their clients when the client would be able to absorb the RMD and not jump a bracket.
I have also thought about inflation effects with respect to time value of money. I’m currently squarely in the 22/25% bracket and will be in the 24/28% bracket when RMDs hit in 13 years. Converting $100K today would cost $22,000 to avoid $28,000 in 13 years. A present value calculation with 2.5% annual inflation shows that $28,000 thirteen years from now is worth $20,311 today. Spending the money today appears to be more costly.
@@Fedupgarbageguy You're not considering the growth in the account over 13 years, on which you would pay tax in a pretax account but in a Roth account that $22,000 would be the last tax you ever pay on it no matter how big the balance gets.
How about using the gains in a Traditional IRA to perform Roth Conversions? Say you have $1 million in the Traditional IRA and you earn a conservative $50k a year. You then convert $100k to Roth and use $25k of gains to pay the tax. So you're converting a gross of $125k and netting $100k of conversions. You can then do this over several years until you're at a point where you are no longer generating enough to do a full $100k conversion. So you can lower the conversion amount to adjust for the returns you are getting. Each yearly conversion can be put in a more growth orientated investments, assuming you started the process with a more conservative portfolio. Of course if you started with a more aggressive portfolio that would be fine provided you account for down years in the market. You might need to suspend conversions in a down market year.
Does this seem like a viable strategy and would you consider doing a video on this scenario? It seems like a way to manage Roth Conversions out of a tax differed account when you might not have enough money in a taxable account.
2:45 If our household currently gross income is abound $60 with the AGI being less than half of that and our total income after retirement (in 2034 probably) looks to be about $100k with 10 to 15% of that coming from ROTH accounts (if we were to draw on those at the same rate as our pre-tax accounts). Does it make sense that we should be in nearly the same tax bracket and not have so much to gain by conversion?
Right now my fed tax rate is 22% and state is 4.75%.
I'm doing the roth conversions this year just in case a certain person becomes president of the U.S. and jacks up the tax rates to pay for her communist utopia.
Good video as always. I agree paying tax from the taxable account makes sense to maximize the amount in the Roth. With that said, the tax drag on the brokerage account only occurs if you invest in assets that throw off annual income or sell investments for a gain. In 40 years I have had a brokerage account and never taken $1 of cap gains.
I guess you plan on leaving it all to heirs then?
Yes that is the plan. Spend down as much of the tax deferred as possible and don’t touch the rest other than to harvest losses or if a significant health issue or other catastrophic event causes a need to access it.
I have a brokerage account that has a VERY low basis, so I'd have to pay lots of capital gains taxes on any sales to get cash.
Yes, me too. But the max capital gains tax is currently 20% so it makes sense to use those first if you can. That being said I am holding off on doing that right now in the likely case that the Trump Tax cuts will go away in 2026. If they do, I will then use the taxable funds to pay the tax as the capital gains will be lower than the pre 2017 tax rates.
Interesting. Even if your basis was only 10% of current value, wouldn't it still be better to have that 90% gain count toward the target IRMAA threshold than 100% of the portion of the conversion destined for tax witholding? I guess you would have to allow for a larger asset sale to pay CG taxes in addition to conversion taxes, so maybe there is a point at which it stops working.
@@captsorghum I'm not old enough to have to worry about IRMAA. My basis is about 25% for 1/2 of my brokerage, and virtually 0 for the other half. It just seems inefficient to create a taxable event to pay the taxes on a different taxable event, but I could be totally off base with this.
@@kersting13 it depends. If you don’t have brokerage assets with high basis (low unrealized gains), maybe you can offset the CGs with other capital losses.
You have to be aware that if you try this under the age of 59.5 that the taxable amount counts as a distribution from your qualified account and you have to pay a 10% withdraw penalty of those funds. This catches the unaware all the time.
You shouldn't convert if you are in the highest tax bracket.
Love your show. So, my question is does the marginal tax rate matter. If my last dollars are at the 22% marginal rate, but overall i am paying an effective tax rate of 12.1, does the conversion to the 22% bracket make any sense? What am i missing?
Thank you so much!
Marginal rate is the only thing that matters. Let me use a hypothetical example. Say we are comfortable Roth Converting if we are paying a rate less than 25%. We convert $10,000 in the 24% bracket and $1,000 in the 32% bracket. Our effective tax rate is 24.7% which is below the 25% threshold but if we assess each dollar of conversion (what marginal rate does), we actually messed up. The $1,000 conversion in the 32% bracket caused us to pay a higher tax rate (led to paying more in taxes) than we otherwise could have withdrawn in the future.
Don't expect this video to get mega views, as most Americans' eyes glaze out when it comes to finance, except their eyes perk open for buying lottery tickets for a get rich quick silver bullet to make up for their lack of fiscal discipline. IRA to Roth conversion is the least of their problem as most has next to zero IRA balance.
True but when they leave their job (and many people have 5 jobs in the course of their career) they dump their 401Ks into an IRA.
If paying all that tax up front in the first few years of retirement, where is the breakeven point. How long does the example couple need to live to realize a net gain in overall tax savings. Typically this is about 19 year post conversion. Do your calculations show the same.
Not sure where this statement is coming from, "Typically this is about 19 year post conversion".
There's no way to provide a general answer to a very specific question but I will say most people look at the breakeven entirely wrong. Taxes don't stop at your death. Proper breakevens consider tax implications on your life as well as what will happen with the money at death. Tax consequences to your heirs needs to be considered. Say you are converting at 22% and your heirs tax rate is 25%, conversions are immediately beneficial as if you passed away today, the next generation saves.
@@SafeguardWealthManagement See that is where the practical or perhaps my cynical side come in. Based on your statement I’m paying more taxes so that my heirs can pay less. But they would be getting “free” money from me so why should I care if they pay a little more of that “free” money in taxes. Plus, I’ll be dead!
A few facts are missing such as how old the person is, whether they are still working, other income (I assume not much if they have no other assets). If I had $2m in tax deferred and nothing else, the last thing I would be doing is a Roth conversion. What are you going to live on? SS is not enough as we all know. If you are 60 your first RMD is 15 years away, plenty of time to withdraw from the IRA to spend and no need to convert to Roth. Even if the IRA balance is still $2m when you are 75, the first year RMD will only be $80k. After 15 years of inflation adjustments to tax brackets and the standard deduction, you will pay very little tax. N
Great video! I agree conversions can still be beneficial if you don’t have a brokerage. I’m in that boat and will be doing conversions in a few years when I turn 55.
One point I would counter. Around the 5 minute mark you said converting now at 22% to save withdrawing later at 22% is basically a wash. I would disagree and say it could still be worth the conversion. You have $1M at 60 years old and do conversions at 22%. Now at 75 years old it’s grown to $2.5M. Had you done conversions most of that growth is now tax free instead of eventually owing 22% on the full $2.5M
I think you missed the point about paying the conversion tax out of the conversion itself. If you do that, you start with less in the Roth. But in the end, the final tax-free amount will equal the net amount from the pre-tax account after taxes (assuming the same tax rate) -- that's the wash. In the scenario you describe (equal amounts in Roth and pre-tax), the conversion tax came from somewhere else, effectively adding to the starting Roth balance.
Sorry but that math is incorrect. If you have $1m and convert in 22% bracket you have $780k. In your example that would grow to $1,950, exactly the same if you did not convert and paid 22% on the $2.5m.
You’re right, my bad. Thanks for the clarification. Guess my math isn’t great at midnight 😂. I’ll remember to do my financial planning earlier in the day!
You are assuming tax rates will not increase in the future 🤦♂️
4:55 I don't really like when people describe this scenario as though its "only" or even "primarily" just a difference of a lower tax rate now vs. a higher one later. That's not actually the problem. The problem is the GROWTH ON TOP OF the tax rate. So it doesn't even honestly matter that much what your current tax RATE is. Say you have $100,000 and you pay taxes on it to convert to never having to pay another dollar in taxes on that money INCLUDING ITS GROWTH going forward, that is a much better scenario than once the money has grown to $1 or $2 million AND THEN paying whatever tax rate as you withdraw those millions of dollars, paying any tax rate on ALL of that money. I'd rather pay ANY tax rate today so that the massive growth in the future is never taxed at all. So the differential tax rates have almost nothing to do with it, even though every source you'll ever read only ever talks about whether you pay a lower tax rate today or will in the future. Nope, its about the PORTFOLIO VALUE you will be taxed on in the future, that's the calculation you have to make.
I just listened to the very next comment about that where you stated that 22% today vs 22% 40 years from now is "a mathematically equal situation"!!!! ON WHAT PLANET? You can pay 22% today on $100,000 and never pay another dime in taxes no matter what that 100k generates over the rest of your life OR you can pay no tax now and pay that same 22% rate on every dime the $2 million that original $100,000 becomes!!! Who on God's green Earth would choose the latter? It's literal insanity. Please stop saying this!
Huh?😢
**Qualified dividends enter chat**
Isn't the total tax savings the conversion tax savings + the tax fee savings on any gains in the Roth? Depending on the length of time, that tax savings on gains in the Roth could be substantial. The total savings is what I'm after.
Yes, but less the time value of money on the taxes paid in advance. We lose all that growth on that tax money we paid early (sometimes decades early).
I'm in year 10 of 13 of my planned Roth conversions. Just to let you know I'm pro-Roth conversions, if conversions are done at a lower tax rate than the predicted tax rate that is avoided when Roth withdrawals are made.
You’re looking rather rugged and manly these days my friend. I get the whole Roth conversion argument. However, why not take large distributions during your 60’s enjoying and sharing those funds and paying taxes as you go. Perhaps delaying SS until 70. Thereby entering RMD’s at a reduced rate. It seems to me it accomplishes the same thing. Where you benefit from the funds and not so much the IRS.