Roth conversions of retirement accounts

[MillCreek]

Has anyone here taken an existing traditional 401(k), 403(b) or IRA and done a Roth conversion?

[zahc]

I did once when I turned out to be over the income threshold for IRA deduction. It was pretty easy at Fidelity.

[K Frame]

Did you have to come up with the tax money all in one bulk sum out of your own pocket or were you able to take it out of the converted assets?

[MillCreek]

Did you have to come up with the tax money all in one bulk sum out of your own pocket or were you able to take it out of the converted assets?

I am told you can do either.  I have run some numbers and at my tax rate and current IRA value, I would have to come up with over $ 220 K in taxes.  Given my age, anticipated income and tax rate after retirement, and the value of my retirement plan, I am thinking it is not worth doing a Roth conversion, even if the option may be going away soon.  Now if I was younger, more highly compensated, and further from retirement, I would be opening a Roth IRA.

[zahc]

I am told you can do either.  I have run some numbers and at my tax rate and current IRA value, I would have to come up with over $ 220 K in taxes.  Given my age, anticipated income and tax rate after retirement, and the value of my retirement plan, I am thinking it is not worth doing a Roth conversion, even if the option may be going away soon.  Now if I was younger, more highly compensated, and further from retirement, I would be opening a Roth IRA.

You can always do a partial conversion. Say convert an amount that brings your tax bill to a comfortable level or brings you up to a certain tier of tax bracket. I think think it's common for people to quit their jobs and do Roth conversions for a few years while their income is zero and so the conversions are taxed at a low bracket. You can sell appreciated stock also while your there income is below the threshold for having to pay  capital gains.

[MillCreek]

https://www.marketwatch.com/story/congress-is-about-to-kill-this-popular-retirement-tax-move-11632861718

https://www.cnbc.com/2021/09/29/what-to-do-if-democrats-ax-the-backdoor-roth-ira-strategy.html

Food for thought insofar as Roth conversions may not be possible at any income level after 12/31/2021.  We will have to see what the final tax bill says.

[zahc]

The backdoor and mega-backdoor strategies are different from regular Roth conversions. The backdoor and mega-backdoor are ways for people who are not eligible to contribute to a Roth to essentially exploit a loophole in order to contribute. It has no bearing on people otherwise eligible.

[Angel Eyes]

The backdoor and mega-backdoor strategies are different from regular Roth conversions. The backdoor and mega-backdoor are ways for people who are not eligible to contribute to a Roth to essentially exploit a loophole in order to contribute. It has no bearing on people otherwise eligible.

The new tax bill on Capitol Hill is going to scrap these conversions for everybody after the end of the year — and, no, not just for those earning more than $400,000 a year.

The bill “prohibits all employee after-tax contributions in qualified plans and prohibits after-tax IRA contributions from being converted to Roth regardless of income level, effective for distributions, transfers, and contributions made after Dec. 31, 2021,” reports the House Ways & Means Committee.

That sounds like no more Roth conversions, period.

[MillCreek]

The MarketWatch article says the proposed tax bill will apply to all Roth conversions:

The new tax bill on Capitol Hill is going to scrap these conversions for everybody after the end of the year — and, no, not just for those earning more than $400,000 a year.

The bill “prohibits all employee after-tax contributions in qualified plans and prohibits after-tax IRA contributions from being converted to Roth regardless of income level, effective for distributions, transfers, and contributions made after Dec. 31, 2021,” reports the House Ways & Means Committee.

This clause is in addition to the separate steps being taken to crack down on IRAs and Roth IRAs for millionaires, billionaires and those making more than $400,000 a year.

Incidentally, the bill also, separately, ends a practice known as a “backdoor Roth” that was allowing high earners to get around income limits for IRA contributions.


So I guess we will all be eager to read the provisions of the final tax bill as passed.

[sumpnz]

Anything in that to stop someone from converting an entirely pre-tax IRA to a Roth?

[JTHunter]

Has anyone here taken an existing traditional 401(k), 403(b) or IRA and done a Roth conversion?

During a period of unemployment about 10 years ago, I converted my traditional to a Roth.  It was done at that time as my taxes were nearly nonexistent because of the lack of a job.

[MillCreek]

https://www.marketwatch.com/story/should-i-do-that-roth-conversion-before-congress-bans-them-11633108830

More thoughts about if you should do a conversion prior to year end.

[Boomhauer]

To me that language means you won’t be able to add to a Roth at all starting next year, is that so?

[MillCreek]

https://www.marketwatch.com/story/why-i-wont-do-a-roth-ira-conversioneven-if-this-is-the-last-chance-11633528795

More opinion on the value of a Roth conversion.  Here is the quote articulating why I am not doing a Roth at this time:

Most of us—including me—are almost certainly going to be way better off in a traditional IRA.

The reason? We’re paying significant income taxes today on our salaries, so the upfront tax break matters. And we’re going to be paying far lower tax rates in retirement, unless we are doing really well.

Our annual income and the corresponding tax rate will be dropping after retirement.  So better for us to get a tax break based on our higher incomes prior to retirement.

[sumpnz]

It’s not just tax rate now vs later.  It’s the total tax bill now vs periodic tax bills later.  Say you want to convert $100k. If you’re in the 24% bracket that’s a $24k bill due now, unless you have some deductions or credits that you otherwise can’t use that would reduce that bill.  But, if you would have left that alone for another 30 years, at 8% average return (because you’re say 50 now, and won’t need that particular pot of money until you’re 80 thanks to your other sources), that money is by then $1mil.  If by then you draw on it at $150k a year and you’re now in the 15% bracket, you’ll pay $22k per year in taxes for the 10 years that money lasts, or $220k in total taxes, about 9x what you’ll pay today on the conversion. 

I’m ignoring for now the opportunity cost of that $24k tax bill due if you make the conversion.  And lots of other factors I’m sure.

Just to change it up a little, let’s say you make it 20 years until you want to draw on it, and it would last for 20 years.  That tax bill would be $7.1k per year, $142k over 20 years, or almost 6x what you’d pay if you convert today.

[MillCreek]

In my particular circumstances of retiring in probably two years, and facing a tax bill of over $ 220,000 to convert my retirement accounts to a Roth, it does not pencil out.

[MillCreek]

https://www.marketwatch.com/story/why-you-should-ditch-plans-to-convert-your-401-k-to-a-roth-ira-11635942838

The guy who invented the 401(k) plan thinks that traditional IRAs are better than Roths for most people.

[cordex]

So the guy worries that Roth plans might get taxed in the future, but not that income from 401(k)s will be taxed more in the future?

Either is possible, but if your position is you don’t trust politicians, I’m not sure you can say that one is likely and the other unlikely.

[K Frame]

https://www.marketwatch.com/story/why-you-should-ditch-plans-to-convert-your-401-k-to-a-roth-ira-11635942838

The guy who invented the 401(k) plan thinks that traditional IRAs are better than Roths for most people.

I've done periodic analyses over the years based on my situation alone, and I've just never been able to come up with a compelling argument for me to invest in a Roth IRA or do a conversion to one.

[JTHunter]

Even with the 6 month delay in withdrawals from a traditional IRA, you must start withdrawing the money at age 72.  If you don't pull out the RMD (Required Minimum Distribution), the IRS can penalize you heavily.  Also, what you pull out is taxed at your regular rate.
With a ROTH, not only is what you take out is NOT taxed (at this time), you don't have to take anything out.  In fact, if you don't take anything out, it can be passed to a beneficiary.  The only problem there is, IIRC, the entire account must be emptied out within 5 years.

[MillCreek]

https://wantfi.com/skip-the-roth-401k.html

A recent article arguing that a traditional IRA still has its place.