Message Font: Serif | Sans-Serif
 
UnThreaded | Threaded | Whole Thread (34) | Ignore Thread Prev Thread | Next Thread
Author: jcmn One star, 50 posts Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: of 121219  
Subject: Reasons to convert a Traditional IRA to a Roth. Date: 4/21/2010 4:36 PM
Post New | Post Reply | Reply Later | Create Poll . Report this Post | Recommend it!
Recommendations: 0
I came across an article, which I will endeavour to find again, that argued against Traditional IRA's and even 401K's(except in the case of the rapidly disappearing company matching funds).

The main point of the article was that the BIG assumption with T-IRAs and 401Ks, is that we will be paying LESS taxes when we retire and start withdrawing from them, therefore, saving us from paying higher taxes overall. Yet, in view of the massive debt this country has accumulated, exacerbated by the wave of bailouts and budget deficits recently seen, can we realistically expect to pay less taxes in the future on a lump on money we have accumulated with taxes deffered on it? Many people, myself included expect to have to work to make ends meet during retriement. It is hard to see how taxes will go down in the future for anyone. Isn't it better to pay the taxes now on your retirement monies and watch it grow knowing that it will be all yours?

If we also add in, the fact that many of us have recently seen our taxable incomes greatly reduced or eliminated in some cases.
AND
The balance of your Tax deferred investments have generally tanked along with the stock market. This implies they will hopefully grow again in a bull mkt increasing the taxable amount when the time comes to withdraw for retirement.

Are these points sufficient to justify a massive conversion of T-IRA's to Roth IRAs? Isn't this something EVERYONE should take a look at right now?

For my part, I did it last late year. My gross income was a mere 27K, the net sum of my IRA+401k was just 13K after the 30%+ beatting they took in 2009. I also got married that year and expect to have significant medical expense deductions for insurance premiums and expenses and job seeking expenses. I'm only 43 so I've go a ways to go before MRDs and all that, but I wanted to see what others thought of this...If you have the article I'm refering to, please link it.
Thanks,
JC
Post New | Post Reply | Reply Later | Create Poll . Report this Post | Recommend it!
Print the post Back To Top
Author: JeanDavid Big gold star, 5000 posts Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 110239 of 121219
Subject: Re: Reasons to convert a Traditional IRA to a Ro Date: 4/21/2010 5:12 PM
Post New | Post Reply | Reply Later | Create Poll . Report this Post | Recommend it!
Recommendations: 0
Isn't this something EVERYONE should take a look at right now?

I think everyone should look at converting regular IRAs to Roth IRAs; they should take a long look. But that does not mean they should do the conversion.

One thing to watch out for is the tax beating you will take right now if you convert. You should be able to pay that tax with funds not in an IRA, because once it is out of the IRA, you cannot really put it back.

I am retired, and there is no way I could pay the tax were I to convert my entire IRA into my Roth-IRA. When the Roth-IRA first came out, I converted a large amount, but in that year I got the benefit of distributing the tax over a four-year period.

There is another advantage that a Roth has that can be important. One is that there is no RMD, so you can leave it in there as long as you like (provided you do not need the money), so you can pass it along to your heirs if you want.

Print the post Back To Top
Author: JAFO31 Big gold star, 5000 posts Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 110240 of 121219
Subject: Re: Reasons to convert a Traditional IRA to a Ro Date: 4/21/2010 5:22 PM
Post New | Post Reply | Reply Later | Create Poll . Report this Post | Recommend it!
Recommendations: 1
jcmn: "I came across an article, which I will endeavour to find again, that argued against Traditional IRA's and even 401K's(except in the case of the rapidly disappearing company matching funds)."

But did it do it well?

"The main point of the article was that the BIG assumption with T-IRAs and 401Ks, is that we will be paying LESS taxes when we retire and start withdrawing from them, therefore, saving us from paying higher taxes overall. Yet, in view of the massive debt this country has accumulated, exacerbated by the wave of bailouts and budget deficits recently seen, can we realistically expect to pay less taxes in the future on a lump on money we have accumulated with taxes deffered on it? Many people, myself included expect to have to work to make ends meet during retriement. It is hard to see how taxes will go down in the future for anyone. Isn't it better to pay the taxes now on your retirement monies and watch it grow knowing that it will be all yours?"

But did the article note that if a consumption tax is passed (see e.g., FairTax) or a value added tax (and abolition of the federal income tax, as George Will recently editorialized) passes, then you will have paid income tax on the conversaion and will still pay the replacement tax when spent?

"For my part, I did it last late year. My gross income was a mere 27K, the net sum of my IRA+401k was just 13K after the 30%+ beatting they took in 2009. I also got married that year and expect to have significant medical expense deductions for insurance premiums and expenses and job seeking expenses. I'm only 43 so I've go a ways to go before MRDs and all that, but I wanted to see what others thought of this...If you have the article I'm refering to, please link it."

Did you pay the taxes with funds outside the the IRA? If not, then addition to the taxes generally due, you also paid 10% penalty for early withdrawal of the funds to pay the tax (unless over 59 1/2).

Application of the cliche "a bird in hand is better than two in the bush" would suggest taking current deductions.

If you read this board frequently, you will have noted that none of the regulars claim a clear crystal ball regarding future taxes (other than that they will change in some fashion) and often suggest multiple accounts with different tax obligations in order to maximize future flexibility.

Regards, JAFO

Post New | Post Reply | Reply Later | Create Poll . Report this Post | Recommend it!
Print the post Back To Top
Author: foo1bar Big gold star, 5000 posts Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 110242 of 121219
Subject: Re: Reasons to convert a Traditional IRA to a Ro Date: 4/21/2010 7:46 PM
Post New | Post Reply | Reply Later | Create Poll . Report this Post | Recommend it!
Recommendations: 0
I am retired, and there is no way I could pay the tax were I to convert my entire IRA into my Roth-IRA. When the Roth-IRA first came out, I converted a large amount, but in that year I got the benefit of distributing the tax over a four-year period.


Well, should you choose to convert this year you do get to spread the tax over 2 years.
http://consumerboomer.com/roth-ira-conversion-tax-rules/



One thing to watch out for is the tax beating you will take right now if you convert.


Well - "beating" may be a strong overstatement for some people.
I'll have fairly small tax amount due (I have a non-deduc. trad. IRA that hasn't grown much)

so you can pass it along to your heirs if you want.
Interesting thought...
Hopefully that time is a long way off. :)

Print the post Back To Top
Author: JAFO31 Big gold star, 5000 posts Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 110243 of 121219
Subject: Re: Reasons to convert a Traditional IRA to a Ro Date: 4/21/2010 7:57 PM
Post New | Post Reply | Reply Later | Create Poll . Report this Post | Recommend it!
Recommendations: 0
foo1bar:

<<<When the Roth-IRA first came out, I converted a large amount, but in that year I got the benefit of distributing the tax over a four-year period.>>>

"Well, should you choose to convert this year you do get to spread the tax over 2 years.
http://consumerboomer.com/roth-ira-conversion-tax-rules/ "


Ther current proposal is you spread the income over two years, which in effect also spreads the tax at whatever the current tax rate is in 2011 and 2012, respectively.

IIRC, the original 4-year was a spread the tax (based on year of conversion taxes), though I may not be remembering correctly. Upon further review, it may also have been a spread the income law.

Regards, JAFO

Print the post Back To Top
Author: foo1bar Big gold star, 5000 posts Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 110244 of 121219
Subject: Re: Reasons to convert a Traditional IRA to a Ro Date: 4/21/2010 8:40 PM
Post New | Post Reply | Reply Later | Create Poll . Report this Post | Recommend it!
Recommendations: 0
Ther current proposal is you spread the income over two years, which in effect also spreads the tax at whatever the current tax rate is in 2011 and 2012, respectively.

I wouldn't call it a "proposal" anymore. :)

Thank you for the clarification though.

I hadn't paid attention to that the income gets spread across 2011 and 2012.

(which makes me wonder if it'll be at all possible to have some in 2010, and rest split in 2011/2012? Could a married couple have one counted in 2010, the other split 2011/2012? With/Without filing separately? (idle curiousity))

Print the post Back To Top
Author: vkg Big gold star, 5000 posts Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 110246 of 121219
Subject: Re: Reasons to convert a Traditional IRA to a Ro Date: 4/22/2010 12:16 AM
Post New | Post Reply | Reply Later | Create Poll . Report this Post | Recommend it!
Recommendations: 0
A total conversion in one year can carry a significant tax bill. For most who are still working, it isn't possible to rollover a 401K to an IRA.

A couple of years ago when it was known that the income limit would be lifted in 2010 for conversions, we started contributing to a non-deductible IRA. There is a limited amount of taxable income, so conversion is reasonable.

We can't rollover our 401Ks, while we are still working.

Print the post Back To Top
Author: TMFPMarti Big funky green star, 20000 posts Home Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 110247 of 121219
Subject: Re: Reasons to convert a Traditional IRA to a Ro Date: 4/22/2010 1:08 AM
Post New | Post Reply | Reply Later | Create Poll . Report this Post | Recommend it!
Recommendations: 10
hadn't paid attention to that the income gets spread across 2011 and 2012.

(which makes me wonder if it'll be at all possible to have some in 2010, and rest split in 2011/2012? Could a married couple have one counted in 2010, the other split 2011/2012? With/Without filing separately? (idle curiousity))


OK everyone, pay attention this time. We've been through this in class before, and there just may be a quiz.

1998: 4 year spread of income, not tax. All in 1998 or 1/4 in 1998-2001, no substitutions.

2010: 2 year spread of income, not tax. All in 2010 or 1/2 in 2011 and 1/2 in 2012, no substitutions.

Spouses make individual elections.

My ruler is poised.

Sister Mary Severe, SPAIS

Print the post Back To Top
Author: vkg Big gold star, 5000 posts Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 110249 of 121219
Subject: Re: Reasons to convert a Traditional IRA to a Ro Date: 4/22/2010 2:41 AM
Post New | Post Reply | Reply Later | Create Poll . Report this Post | Recommend it!
Recommendations: 0
My ruler is poised.

Sister Mary Severe, SPAIS


Okay, I googled SPAIS. The results were not useful: a Polish mail server, South Pacific Air Intelligence System, genealogy site and gay wanabee site. Not sites that I have any interest in visiting.

What does it mean?

2010: 2 year spread of income, not tax. All in 2010 or 1/2 in 2011 and 1/2 in 2012, no substitutions.

My crystal ball doesn't show my finances or tax rates in 2012. I will evaluate conversions each year and make a decision for that tax year. It does mean I might pay additional income tax on the returns during that time, but it is price that I am willing to pay to keep control.

Print the post Back To Top
Author: TMFPMarti Big funky green star, 20000 posts Home Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 110250 of 121219
Subject: Re: Reasons to convert a Traditional IRA to a Ro Date: 4/22/2010 4:45 AM
Post New | Post Reply | Reply Later | Create Poll . Report this Post | Recommend it!
Recommendations: 2
SPAIS

Sisters of Perpetual Annoyance with Inattentive Students

No surprise Mr. Google was no help. He never paid attention. Always copying somebody else's work.

SMS

Print the post Back To Top
Author: bacon Three stars, 500 posts Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 110251 of 121219
Subject: Re: Reasons to convert a Traditional IRA to a Ro Date: 4/22/2010 7:31 AM
Post New | Post Reply | Reply Later | Create Poll . Report this Post | Recommend it!
Recommendations: 1
My crystal ball doesn't show my finances or tax rates in 2012.

I speculate that taxes are going to go through the roof (rise significantly), since DC seems incapable of controlling its spending. The rise probably won't begin before 2012 for a number of reasons, though. One outcome of this, in my view, is that conversions to Roth IRAs will be more profitable in the future, generally, but the immediate tax hit from converting in 2010 probably will be unaffected.

Eric Hines

Print the post Back To Top
Author: ptheland Big gold star, 5000 posts Feste Award Nominee! Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 110252 of 121219
Subject: Re: Reasons to convert a Traditional IRA to a Ro Date: 4/22/2010 11:35 AM
Post New | Post Reply | Reply Later | Create Poll . Report this Post | Recommend it!
Recommendations: 2
My crystal ball doesn't show my finances or tax rates in 2012.

Mine is fairly useless as well.

However, it's not lost on me that the tax cuts of the early 2000s generally expire at the end of 2010. If Congress does nothing - which is something it's very good at - tax rates will rise for 2011 and forward. Not a single member of Congress needs to vote for a tax increase for the increase to happen.

Just sayin'

--Peter

Print the post Back To Top
Author: jcmn One star, 50 posts Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 110254 of 121219
Subject: Re: Reasons to convert a Traditional IRA to a Ro Date: 4/22/2010 4:40 PM
Post New | Post Reply | Reply Later | Create Poll . Report this Post | Recommend it!
Recommendations: 0
Using the link someone posted I plugged it into MSN Money:

After 16 years of saving for retirement, and 30 years spent in retirement, here's how
your two options might compare:

Column 1:Keep your current account
Column 2:Convert to a Roth IRA

Current account value $13,000 $13,000
Current account value after taxes $13,000 $10,400
Account value at the beginning
of the distribution period $28,377 $23,101
Net annual after-tax distribution $1,603 $1,740
Total after-tax distributions $48,088 $52,195

"This calculator assumes that the taxes due when converting your current account to a Roth IRA are taken from the assets being transferred. It also accounts for the early withdrawal penalty on assets used to meet that tax liability. You do have the option of paying the tax liability out-of-pocket, which would affect the results above. It further assumes that taxpayers at any income level may convert to a Roth IRA and that any tax liability arising from the conversion is paid in equal installments over two years, beginning with the 2011 tax year, at the same tax rate. These rules apply only to conversions made in 2010. Spreading the taxes out over two years will not necessarily save you money, particularly if tax rates increase in future years"

I put in 10% as my 2009 Tax rate and 25% @ Retirement @ 59 1/2. Interesting that is comes out better to convert even discounting the tax liability from the converted funds, which was not the case for me.

Just a comment about future taxes: It is not quite a crystal ball prediction to expect taxes to rise in the future. They have ALWAYS risen on the long term. And as it was pointed out, there are some expiring tax breaks comming up this year. It is also a pipe dream to hope for a consumption tax or a VAT to replace the current rules in our lifetime. Gridlock is the name of the game in Congress.

Post New | Post Reply | Reply Later | Create Poll . Report this Post | Recommend it!
Print the post Back To Top
Author: TMFPMarti Big funky green star, 20000 posts Home Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 110256 of 121219
Subject: Re: Reasons to convert a Traditional IRA to a Ro Date: 4/22/2010 5:00 PM
Post New | Post Reply | Reply Later | Create Poll . Report this Post | Recommend it!
Recommendations: 4
It is not quite a crystal ball prediction to expect taxes to rise in the future. They have ALWAYS risen on the long term.

That's news to me. Maybe it would help if you defined "long term," because rates are considerably lower now than they have been in my tax-paying lifetime, more of which is behind me than ahead.

Phil
Rule Your Retirement Home Fool

Print the post Back To Top
Author: ptheland Big gold star, 5000 posts Feste Award Nominee! Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 110257 of 121219
Subject: Re: Reasons to convert a Traditional IRA to a Ro Date: 4/22/2010 5:03 PM
Post New | Post Reply | Reply Later | Create Poll . Report this Post | Recommend it!
Recommendations: 3
I put in 10% as my 2009 Tax rate and 25% @ Retirement

There's your analysis right there. It's been hashed out time after time over the last decade that if your expected tax rate in retirement is higher than your tax rate now, a Roth is the better option. Turn those two rates around, and the traditional IRA will win. (Really, give it a try in the calculator you found, changing only these two tax rates and leaving everything else alone and see what happens.)

[Tax rates] have ALWAYS risen on the long term.

I guess that depends on your definition of long term. When I first started working in taxes, the top tax rate was 50%. Over my working career, I've seen more tax cuts than tax increases.

--Peter

Print the post Back To Top
Author: JeanDavid Big gold star, 5000 posts Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 110260 of 121219
Subject: Re: Reasons to convert a Traditional IRA to a Ro Date: 4/22/2010 9:05 PM
Post New | Post Reply | Reply Later | Create Poll . Report this Post | Recommend it!
Recommendations: 1
It is also a pipe dream to hope for a consumption tax or a VAT to replace the current rules in our lifetime.

While a VAT might make sense if it replaced the current rules, looking forward with cautious pessimism, I predict that a VAT will just be in addition to all the current taxes. And the main improvement I see in a VAT is eliminating all the bureaucracy in enforcing the current complex rules. So we will have the worst of all possible worlds.

Print the post Back To Top
Author: bacon Three stars, 500 posts Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 110262 of 121219
Subject: Re: Reasons to convert a Traditional IRA to a Ro Date: 4/22/2010 9:47 PM
Post New | Post Reply | Reply Later | Create Poll . Report this Post | Recommend it!
Recommendations: 0
Net annual after-tax distribution $1,603 $1,740

This assumes you actually take contributions from the Roth. You're not required to do so. That money can continue to grow until you die, and the Roth gets favorable tax treatment for the heirs, relative to a Tradition IRA.

Eric Hines

Print the post Back To Top
Author: bacon Three stars, 500 posts Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 110263 of 121219
Subject: Re: Reasons to convert a Traditional IRA to a Ro Date: 4/22/2010 9:52 PM
Post New | Post Reply | Reply Later | Create Poll . Report this Post | Recommend it!
Recommendations: 1
And the main improvement I see in a VAT is eliminating all the bureaucracy in enforcing the current complex rules.

Ever the optimist. There's no reason why an income tax should be as complex as ours. Nature abhors a vacuum, and the US Congress abhors the vacuum of simplicity. They'll complexify a VAT (and I disagree with you that a VAT of any sort "might make sense.") Hide and watch.

Eric Hines

Print the post Back To Top
Author: bookie71 Big red star, 1000 posts Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 110264 of 121219
Subject: Re: Reasons to convert a Traditional IRA to a Ro Date: 4/22/2010 11:51 PM
Post New | Post Reply | Reply Later | Create Poll . Report this Post | Recommend it!
Recommendations: 1
Going back to when tax rates were high, because of the graduations, the effective rates were close to current, especially when you factor in the lower social security rates (no medicare) and lower ss base. We went to a bunch of old files a few years ago and checked it out, it was spooky. (we were moving old files to storage)
.
.
The VAT will be the way congress gets to the "Roth" pool of money.

Print the post Back To Top
Author: JeanDavid Big gold star, 5000 posts Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 110266 of 121219
Subject: Re: Reasons to convert a Traditional IRA to a Ro Date: 4/23/2010 11:38 AM
Post New | Post Reply | Reply Later | Create Poll . Report this Post | Recommend it!
Recommendations: 0
The VAT will be the way congress gets to the "Roth" pool of money.

The congressional looters get you coming and going anyway. In my cynical opinion, the reason they set up the Roth-IRA was so they could tax your regular IRA before you wanted to take the money out. Because those who rolled over their conventional IRA got taxed, at regular income rates, on all they rolled over. And if they do put in a VAT, they will tax it again.

I was not defending a VAT, that I think is regressive in the same sense that a sales tax is regressive: the poor who must spend all their incomes will pay a greater portion of their income on taxes than the rich, who save some of their incomes and at least postpone taxes, probably until after their deaths. I was just pointing out the only advantage I thought it might have, iff it replaced all the other taxes. And IMCO, congress would never do that: they will only add it to the other taxes.

Print the post Back To Top
Author: irasmilo Big gold star, 5000 posts Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 110267 of 121219
Subject: Re: Reasons to convert a Traditional IRA to a Ro Date: 4/23/2010 1:40 PM
Post New | Post Reply | Reply Later | Create Poll . Report this Post | Recommend it!
Recommendations: 14
Anyone who thinks a VAT will be easier to administer than an income tax doesn't really understand the problems associated with tax enforcement.

Yes, it will be simpler on the individual as s/he will no longer have to file an income tax return. But the IRS (or other tax authority) will have to chase after every business to ensure compliance. Businesses come and go in the blink of an eye. There will be a great incentive to cook the books to minimize the VAT remitted by a business as that greatly increases their profitability. (If a business sells something for $100 VAT-included and doesn't report the sale to the VAT authority, it pockets the VAT as extra income.) There is little documentation that the VAT authority can use to independently verify a business's VAT obligation and any move to institute such documentation will increase bureaucracy.

Of course, the final reason we can be certain that a VAT will never replace the income tax is that there isn't another country which has a VAT without an income tax.

Ira

Print the post Back To Top
Author: jcmn One star, 50 posts Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 110283 of 121219
Subject: Re: Reasons to convert a Traditional IRA to a Ro Date: 4/26/2010 1:33 PM
Post New | Post Reply | Reply Later | Create Poll . Report this Post | Recommend it!
Recommendations: 0
One major premise of the post was that there is a good chance people are NOT making the same amount of money now, than they do in non-recession years. I haven't been in the 10% bracket since forever. You don't really think one will be in a 10% tax rate during retirement using a 401k/T-IRA 30yrs from now and live confortably or equivalent to today, do you?

It is easy to say 50% was once the top tax rate, but I look at things from the point of view of absolute tax cost. I paid more in taxes every year for 10 years until 2008, when my income dropped.

50% of $100 is $50, whereas 10% of $100,000 is $100.
Who pays more taxes? Certainly not the guy paying 50%!
jcmn

Print the post Back To Top
Author: fleg9bo Big funky green star, 20000 posts Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 110284 of 121219
Subject: Re: Reasons to convert a Traditional IRA to a Ro Date: 4/26/2010 2:42 PM
Post New | Post Reply | Reply Later | Create Poll . Report this Post | Recommend it!
Recommendations: 0
State income tax makes conversion a no-go for us. We will owe little if any federal tax in 2010 and that makes it an otherwise good opportunity to use up our 15% bracket with a conversion. But throw in a 9% state tax and you're talking 24% total. That's too much--especially if you think you might end up in a state (or country) with no state income tax.

--fleg

Print the post Back To Top
Author: ptheland Big gold star, 5000 posts Feste Award Nominee! Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 110285 of 121219
Subject: Re: Reasons to convert a Traditional IRA to a Ro Date: 4/26/2010 2:51 PM
Post New | Post Reply | Reply Later | Create Poll . Report this Post | Recommend it!
Recommendations: 14
One major premise of the post was that there is a good chance people are NOT making the same amount of money now, than they do in non-recession years.

OK. So?

I haven't been in the 10% bracket since forever.

That may not be your top bracket. But part of your income has been taxed at 10% every year (well, every year since the 10% bracket was instituted, anyway.)

But if you're not paying taxes at 10% today, why did you use that tax rate in the calculator you used? That turns the whole thing into a GIGO problem.

You don't really think one will be in a 10% tax rate during retirement using a 401k/T-IRA 30yrs from now and live confortably or equivalent to today, do you?

Yes, I do think that's quite possible. Take a married couple making $100k today, all as wages. Off the top, they have to pay about $7k in Social Security and Medicare taxes. When they stop working, they stop paying this tax. So they only need $93k in retirement to live the same as now. Plus they're saving 15% of their income in 401k/IRA accounts. That's another $15k they're not spending currently. So now the retirement income bogey is down to $78k. And lets say they're spending $20k a year on mortgage payments. Since we're looking 30 years into the future, we'll assume that loan is paid off and that expense stops. So now they need $58k to maintain their same lifestyle.

Now in retirement, they're going to collect Social Security. They've been well paid all career, so let's give them $32k in benefits between them. That leaves $26k to draw annually out of the 401k/IRA accounts to maintain their lifestyle.

How is this income taxed?

Well, all of the 401k/IRA withdrawal is taxable. But only $5k of the Social Security benefits are taxed. After allowing for their standard deduction and personal exemptions, their taxable income is just over $12k - squarely in the 10% bracket. Their income tax is about $1200.

Just for a little gravy, what was their income tax when working? Over $12k (again taking only the standard deduction and personal exemptions). So they're actually living better now than they did while working by about $10k a year.

So not only do I believe it, I have proven that it is very possible.

It is easy to say 50% was once the top tax rate, but I look at things from the point of view of absolute tax cost. I paid more in taxes every year for 10 years until 2008, when my income dropped.

OK. So?

50% of $100 is $50, whereas 10% of $100,000 is $100.
Who pays more taxes? Certainly not the guy paying 50%!


It depends on the meaning of "more taxes" you are using. More in dollars? That's the guy paying $100. More as a percentage of income? That's the guy paying 50%.

As is often the case, it is the meaning of words that is getting in the way of real communication.

--Peter

Post New | Post Reply | Reply Later | Create Poll . Report this Post | Recommend it!
Print the post Back To Top
Author: ptheland Big gold star, 5000 posts Feste Award Nominee! Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 110286 of 121219
Subject: Re: Reasons to convert a Traditional IRA to a Ro Date: 4/26/2010 3:54 PM
Post New | Post Reply | Reply Later | Create Poll . Report this Post | Recommend it!
Recommendations: 0
Just for a little gravy, what was their income tax when working? Over $12k (again taking only the standard deduction and personal exemptions). So they're actually living better now than they did while working by about $10k a year.

Whoops. I forgot to subtract off the 401k/IRA contributions when calculating their taxes.

That makes their income tax a bit over $9k, leaving them closer to $7k better off in retirement than while working.

--Peter <== trying to get the numbers right

Print the post Back To Top
Author: jcmn One star, 50 posts Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 110287 of 121219
Subject: Re: Reasons to convert a Traditional IRA to a Ro Date: 4/26/2010 4:47 PM
Post New | Post Reply | Reply Later | Create Poll . Report this Post | Recommend it!
Recommendations: 0
The state tax thing is a real bummer. I hadn't thought about that part. That is defintely something to keep in mind when looking at Roth Conversions.

As far as the "rose garden" scenario Peter is talking about:
First "rose garden" element: No inflation. Is that realistic?
Subtract 6% (at least)
Second "rose garden" element: No increase in taxes. Is that realistic? Subtract XX% (+30% if Obama is re-elected...just kidding)
Third "rose garden" element: No increase in medical expenses (beyond inflation). Is that realistic? Subtract XXX%
That pretty much cancels out that scenario as "sounds nice, but highly improbable."

BTW 10% was my tax bracket last year, in case you missed the whole reason I started this thread.

How much you pay is how much money goes out of your pocket; it has nothing to do with percentages. That is how they get people in most store sales to spend a lot more than what they had intended when they walked in. (e.g. my mom always buys 2 or more of something she finds on sale for 50%off)

I had not heard the VAT proposal until somebody mentioned it here. Interesting idea. Personally, I think anything in place of the current spaggetti of tax rules is preferable. I don't see it happening, however. Yet, I've been wrong before...recently too :-)
J

Print the post Back To Top
Author: ptheland Big gold star, 5000 posts Feste Award Nominee! Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 110288 of 121219
Subject: Re: Reasons to convert a Traditional IRA to a Ro Date: 4/26/2010 5:14 PM
Post New | Post Reply | Reply Later | Create Poll . Report this Post | Recommend it!
Recommendations: 2
First "rose garden" element: No inflation. Is that realistic?

I'm implicitly assuming that tax rates and inflation rise at the same rate. Currently, tax brackets are indexed to inflation, so it's not a completely unreasonable assumption. So if income, living expenses, and taxes all rise at the same rates, we can make the comparisons in today's dollars or tomorrow's dollars. The results will be the same, except that the numbers will all be multiplied by some number.

Second "rose garden" element: No increase in taxes.

Again, I'm assuming taxes increase at the inflation rate. Feel free to make some different assumption. Then run your own numbers.

Third "rose garden" element: No increase in medical expenses (beyond inflation). Is that realistic?

Well, it has to be at some point. We cannot continue forever to have medical inflation running at 15% per year while general inflation runs at 5%. If you just do that mechanically, at some point you will be spending 110% of your income on medical expenses and -10% on other living expenses. ;-) So yes, I am assuming that medical inflation slows down to match general inflation - or more correctly - that total spending (medical and other) increases only with inflation. You are ignoring the very real possibility that as medical spending increases, other spending (such as vacations or hobbies) decreases.

Again, feel free to make your own assumptions.

You simply stated that a case was not possible. I refuted that, using some reasonable assumptions. If you want to make different assumptions, feel free to do so. But then you did not put those assmuptions on your original statement.

Also realize that what is reasonable for you is not at all necessarily reasonable for someone else.

--Peter

Post New | Post Reply | Reply Later | Create Poll . Report this Post | Recommend it!
Print the post Back To Top
Author: ptheland Big gold star, 5000 posts Feste Award Nominee! Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 110289 of 121219
Subject: Re: Reasons to convert a Traditional IRA to a Ro Date: 4/26/2010 5:18 PM
Post New | Post Reply | Reply Later | Create Poll . Report this Post | Recommend it!
Recommendations: 0
BTW 10% was my tax bracket last year, in case you missed the whole reason I started this thread.

Just to restate something - if that is your current tax bracket AND you anticipate being in a higher tax bracket in the future, then converting some or all of your traditional IRA to a Roth is a reasonable decision. I have never disagreed with that.

But that is all the analysis you really need to do to make that decision. All of the rest is irrelevant stuff. Tax bracket today vs. tax bracket on that money in retirement. That's all you need to make the decision.

--Peter

Print the post Back To Top
Author: jcmn One star, 50 posts Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 110290 of 121219
Subject: Re: Reasons to convert a Traditional IRA to a Ro Date: 4/26/2010 6:57 PM
Post New | Post Reply | Reply Later | Create Poll . Report this Post | Recommend it!
Recommendations: 0
Just to sumarize for everyone's benefit:
You should consider coverting your part or all of your T-IRA/401k to a Roth IRA if:
1. You are currently in a significantly lower tax bracket than you expect to be in the future (in retirement).
-Perhaps due to lay-off or reduced income.(hopefully temporary) and/or a large number of extraordinary(for you) tax deductions.
-Factoring in a guess that that future income taxes will likely rise due to the recent sharp increases in gov, spending.
-Considering that the balances in your ret. accts. may be artificially low in the short term.

2. You will likely have an additional tax liability from this operation.
-Keep in mind state taxes may be high, if applicable
-Factor in the 10% penalty for early distribution
-The addtional "income" may push you into a higher tax bracket.
-Ideally it would be best to pay for the taxes from funds other than those in the retirement acct.

Note: The online calculators have some major assumptions built-in, so just be careful with them.

If you are still insterested, please see Peter ;-)
J

PS: If you have or can start an HSA, the funds from an IRA can be rolled over into it without any penalty up to the HSA contribution limit for the year, although the contribution period extends until April 15th of the next year.

Print the post Back To Top
Author: aj485 Big gold star, 5000 posts Feste Award Nominee! Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 110291 of 121219
Subject: Re: Reasons to convert a Traditional IRA to a Ro Date: 4/26/2010 7:08 PM
Post New | Post Reply | Reply Later | Create Poll . Report this Post | Recommend it!
Recommendations: 3
-Factor in the 10% penalty for early distribution

Huh? There is no 10% penalty for early distribution for converting from a traditional IRA to a Roth IRA. The only penalty that might be involved would be if you pull money out of the traditional IRA to pay the taxes. If you don't have the money outside of the IRA to pay the tax liability, you really need to re-consider doing the conversion.

AJ

Print the post Back To Top
Author: brucedoe Big gold star, 5000 posts Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 110292 of 121219
Subject: Re: Reasons to convert a Traditional IRA to a Ro Date: 4/26/2010 10:07 PM
Post New | Post Reply | Reply Later | Create Poll . Report this Post | Recommend it!
Recommendations: 1
10% of $100,000 is $100

Huh? Where I come from 10% of $100,000 is $10,000 not $100. Have I missed something?

brucedoe

Print the post Back To Top
Author: jcmn One star, 50 posts Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 110306 of 121219
Subject: Re: Reasons to convert a Traditional IRA to a Ro Date: 4/27/2010 2:26 PM
Post New | Post Reply | Reply Later | Create Poll . Report this Post | Recommend it!
Recommendations: 0
Good to know about the 10% rule... So, that is why it is best to pay from funds outside the IRA/401k for any tax liability.... Good point.
J

Print the post Back To Top
Author: jcmn One star, 50 posts Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 110307 of 121219
Subject: Re: Reasons to convert a Traditional IRA to a Ro Date: 4/27/2010 2:28 PM
Post New | Post Reply | Reply Later | Create Poll . Report this Post | Recommend it!
Recommendations: 0
You are correct: 10% of 100K is 10K... even though the point still stands, it does not help with my credibility!
J

Print the post Back To Top
Author: foolazis Big red star, 1000 posts Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 110355 of 121219
Subject: Re: Reasons to convert a Traditional IRA to a Ro Date: 5/4/2010 8:25 PM
Post New | Post Reply | Reply Later | Create Poll . Report this Post | Recommend it!
Recommendations: 0
If Congress does nothing - which is something it's very good at

I think that oftentimes that is a good thing. That way they can't screw up what works.

foolazis

Print the post Back To Top
UnThreaded | Threaded | Whole Thread (34) | Ignore Thread Prev Thread | Next Thread
Advertisement