There seems to be an advantage to Roth conversion now until 12/31/2025

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ochotona
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There seems to be an advantage to Roth conversion now until 12/31/2025

Post by ochotona » Thu May 10, 2018 2:59 pm

My calculation suggests I should stop putting new money into investments and spend it all on Roth conversion until the new tax law expires 12/31/2025. (!!!!) Can someone look at my logic and see if I'm missing something?

https://docs.google.com/spreadsheets/d/ ... sp=sharing
Last edited by ochotona on Sat May 12, 2018 8:14 am, edited 1 time in total.
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eufo
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Re: There seems to be a huge advantage to Roth conversion now until 12/31/2025

Post by eufo » Thu May 10, 2018 4:25 pm

You're changing it as I was looking at it. Ghosts in the machine! Lol!
Don't agree with me too strongly or I'm going to change my mind
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ochotona
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Re: There seems to be a huge advantage to Roth conversion now until 12/31/2025

Post by ochotona » Thu May 10, 2018 4:41 pm

eufo wrote:
Thu May 10, 2018 4:25 pm
You're changing it as I was looking at it. Ghosts in the machine! Lol!
Yes, I caught a flaw in my thinking, but it's stable now. It's not as huge as I thought, but you get 4% more after-tax money at the end. Have another look, I won't touch it.

I made it more conservative, comparing 22% to 25% marginal tax rates, not 22% to 28%.

Are viewers able to download it? You can comment, I turned on comments.
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Re: There seems to be a huge advantage to Roth conversion now until 12/31/2025

Post by eufo » Thu May 10, 2018 4:59 pm

ochotona wrote:
Thu May 10, 2018 4:41 pm
eufo wrote:
Thu May 10, 2018 4:25 pm
You're changing it as I was looking at it. Ghosts in the machine! Lol!
Yes, I caught a flaw in my thinking, but it's stable now. It's not as huge as I thought, but you get 4% more after-tax money at the end. Have another look, I won't touch it.

I made it more conservative, comparing 22% to 25% marginal tax rates, not 22% to 28%.

Are viewers able to download it? You can comment, I turned on comments.
Yes, able to download and/or make comments.

I'm a bit daft sometimes, but I'm having a hard time understanding the situation and how it applies to the two scenarios. I went through a Traditional IRA to Roth IRA conversion about 15 years ago. The tax hit wasn't great, but I still think it was the smart move.

So in your situation, you have a Traditional IRA with $29,545 that could grow to $71,200 if left alone, then taxed at 25% leaving $53,400. That part I get.

Converting to Roth IRA should incur a tax hit that I don't see calculated. Then you take the Roth IRA final amount after growth, $71,200 and subtract the growth of a $6,500 initial investment ($15,664) to compare. What is this initial investment amount? I'm really lost.
Don't agree with me too strongly or I'm going to change my mind
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ochotona
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Re: There seems to be a huge advantage to Roth conversion now until 12/31/2025

Post by ochotona » Thu May 10, 2018 5:11 pm

Scenario 1 is what happens to $6500 if I put it in a new Roth, what kind of after-tax value do I get? That's cell B6

Scenario 2 is what if I instead take that $6500, and use it to convert a chunk of IRA? Since my current marginal rate is 22%, I can convert 6500/0.22, which is cell B12

Cell B16 is what if I'd just let the Traditional IRA alone, but I get a tax haircut at the marginal rate

Cell B19 is the after-tax value of the Conversion, but I must also subtract the opportunity for the $6500 which I gave up, which is Scenario 1

B19 is 4% bigger than B16. For a $1,000,000 portfolio, that's $80,000.

If Congress extends the tax cuts, it's a wash.

If Congress gives us bigger tax cuts in 2025, when the debt is $30 trillion and every last Baby Boomer is retired, then you lose money. I don't consider this to be realistic. Not at all.
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Re: There seems to be a huge advantage to Roth conversion now until 12/31/2025

Post by eufo » Thu May 10, 2018 5:21 pm

ochotona wrote:
Thu May 10, 2018 5:11 pm
Scenario 2 is what if I instead take that $6500, and use it to convert a chunk of IRA? Since my current marginal rate is 22%, I can convert 6500/0.22, which is cell B12
Ah, this wording makes it crystal clear now. Thank you.

Betting on lower tax rates in the future is a gamble I know I'm not willing to take. That's why I converted.
Don't agree with me too strongly or I'm going to change my mind
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ochotona
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Re: There seems to be a huge advantage to Roth conversion now until 12/31/2025

Post by ochotona » Thu May 10, 2018 5:41 pm

eufo wrote:
Thu May 10, 2018 5:21 pm
ochotona wrote:
Thu May 10, 2018 5:11 pm
Scenario 2 is what if I instead take that $6500, and use it to convert a chunk of IRA? Since my current marginal rate is 22%, I can convert 6500/0.22, which is cell B12
Ah, this wording makes it crystal clear now. Thank you.

Betting on lower tax rates in the future is a gamble I know I'm not willing to take. That's why I converted.
That's right.
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Re: There seems to be a huge advantage to Roth conversion now until 12/31/2025

Post by stuper1 » Thu May 10, 2018 5:56 pm

I get confused easily with all this stuff, but let me ask a hypothetical question that would apply to me. If someone is currently in the 22% tax bracket but anticipates retiring at age 62 and being in say the 12%/15% tax bracket until age 70 (when social security and RMDs will kick in), would that change the calculation? In other words, wait until age 62 to start doing the Roth conversions?
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ochotona
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Re: There seems to be a huge advantage to Roth conversion now until 12/31/2025

Post by ochotona » Thu May 10, 2018 7:36 pm

Yes stuper1 that's a good point. You could definitely plan to not convert all of your IRAs, and instead eat them between age 62 and age 70 when your tax rates are low.
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Re: There seems to be a huge advantage to Roth conversion now until 12/31/2025

Post by sophie » Fri May 11, 2018 7:06 am

Nice, ochotona! However - taxes on 401K withdrawals should be calculated at the average tax rate, not marginal. I estimated my average tax rate in retirement will be no worse than 15%, including state/local taxes. This makes tax deferral a no-brainer for me regardless of what happens in 2026.

A perk for New York residents: if you're over age 59.5, 401K withdrawals are exempt from state/local taxes up to $20,000. Sadly, that amount isn't inflation-indexed, but it still makes a big difference in strategy compared to other states. My average tax rate could be as low as 10% if I arrange withdrawals correctly.
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ochotona
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Re: There seems to be a huge advantage to Roth conversion now until 12/31/2025

Post by ochotona » Fri May 11, 2018 10:28 am

sophie wrote:
Fri May 11, 2018 7:06 am
Nice, ochotona! However - taxes on 401K withdrawals should be calculated at the average tax rate, not marginal. I estimated my average tax rate in retirement will be no worse than 15%, including state/local taxes. This makes tax deferral a no-brainer for me regardless of what happens in 2026.

A perk for New York residents: if you're over age 59.5, 401K withdrawals are exempt from state/local taxes up to $20,000. Sadly, that amount isn't inflation-indexed, but it still makes a big difference in strategy compared to other states. My average tax rate could be as low as 10% if I arrange withdrawals correctly.
I was always taught to make these kinds of tax decisions for what to do with marginal dollars using the marginal tax rates, not the average tax rate. But the point raised by stuper1 earlier is well taken, after leaving work and before starting RMDs and SocSec at age 70, one's marginal tax rate is likely to be at a adult lifetime low. That would be a good time to eat Traditional IRA money.
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Re: There seems to be a huge advantage to Roth conversion now until 12/31/2025

Post by stuper1 » Fri May 11, 2018 11:32 am

It seems to me that whether to use the marginal rate or a lower rate when estimating taxes on 401k/IRA withdrawals depends on how much other reliable income you will have coming in from SS, pensions, etc. Some forms of income are non-discretionary, like SS, pensions, RMDs, and other forms are discretionary, like extra withdrawals that are more than RMDs. If your non-discretionary income will fill up the lower tax brackets, then your discretionary withdrawals will be taxed at the higher tax rate.
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