Does a Roth Conversion Make Sense?

[atredbeard]

Good morning,
I'm wondering if the community could help me with a roth vs traditional IRA question. Here is the general breakdown. We have been a single income family for the past few years. My taxable income for this year will fall into the 12% tax bracket. My wife is going back to work 1st week of Jan and we expect that going forward we will consistently fall into the 22% tax bracket. As this is the last year we will be in this bracket does it make sense to convert the difference of the upper limit of the tax bracket 78,950 and my taxable income? I have the money readily available to cover the tax implications. I've always leaned towards pre-tax investing for retirement but thought it might make sense in this situation. Thank you for any help you can provide.

[terran]

Will you qualify for the saver's tax credit if you don't convert? https://www.irs.gov/retirement-plans/plan-participant-employee/retirement-savings-contributions-savers-credit

What tax bracket do you expect to be in when you retire? What happens between now and then doesn't matter.

How do your current state tax bracket compare to your expected state tax bracket in retirement? For example, will you move to another state with higher/lower/no taxes?

[atredbeard]

Thanks for the response,

1: No, I do not currently qualify for the Saver's tax credit. My taxable income will be approx 68k (Would convert about 10k)

2: I'm of the opinion that we are currently in a low tax environment and expect taxes to go up in the future.

3: I'm currently in a high tax state Minnesota (approx 7%) and plan to retire in another state with lower taxes.

[MustacheAndaHalf]

I agree with point (2), that the government is overspending and will need money from somewhere.  Given corporate taxes keep failing as a percentage of tax revenue, raising individual tax rates seems likely over the coming decades.

Another way to look at this, is you're more likely to use Traditional IRAs in the next several years.  So the best way to "tax diversify" (pre-tax, after-tax) is to have a Roth now, and Traditional IRA for the next few years.

[terran]

Given your expected state tax situation I'm thinking I probably wouldn't convert unless you plan to have high spending in retirement. I think you're probably right that taxes will go up (they're scheduled to go back to pre-2018 levels in 2025 even if no changes are made), but I don't think they'll go up much more than the 3% = 12 to 15% bump for lower incomes like most mustachians have in retirement. A good chunk of a mustachian budget isn't taxed at all thanks to standard deductions and (formerly) personal exemptions.

I expect to spend at least some time in retirement without state tax, so I'm currently willing to pay a total marginal tax of 15-16% figuring I'll be in the 15% federal marginal bracket in retirement. You might go a little higher if you'll pay some state tax in retirement.

[atredbeard]

Thanks for the replies. I appreciate your input. The state tax situation was one that I had not considered and was valuable to think about. I think you're right after looking into the thoughts provided. In addition next year our family income should be between the upper limit of traditional tax deductions and the income limits of Roth contributions so I will be maxing two Roths next year anyway.

[EricEng]

Good morning,
I'm wondering if the community could help me with a roth vs traditional IRA question. Here is the general breakdown. We have been a single income family for the past few years. My taxable income for this year will fall into the 12% tax bracket. My wife is going back to work 1st week of Jan and we expect that going forward we will consistently fall into the 22% tax bracket. As this is the last year we will be in this bracket does it make sense to convert the difference of the upper limit of the tax bracket 78,950 and my taxable income? I have the money readily available to cover the tax implications. I've always leaned towards pre-tax investing for retirement but thought it might make sense in this situation. Thank you for any help you can provide.

I'd realize any capital gains you have at 0% tax in a post tax account until you reach $78k first.  If you don't have that then maxing your 12% bracket with roth conversion is a good strategy.  At worst, you'll break even but if taxes change a lot it could be a very good decision.