Author Topic: Roth Conversion Ladder questions  (Read 2636 times)

benjenn

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Roth Conversion Ladder questions
« on: January 22, 2015, 09:03:32 AM »
Hey, everyone!  I've got some questions on the Roth Conversion Ladder process and appreciate any help/advice.

DH and I are retiring at Thanksgiving when we will be 52 and 51 respectively.  He is already retired from the Air Force and receives a monthly pension that will pay a good portion of our monthly expenses but not all of them...  so after a couple of years (when we burn through other reserves), we'll need to bring in some extra money each month.  I'm honestly not worried about that because I can't imagine we wouldn't be doing something to generate some income... but it will be doing something we WANT to do rather than something we HAVE to do.  And I think some of our expenses will be below what I'm budgeting for because our ways have changed since finding MMM and this forum.  :)

I plan to take a lump sum on my pension and roll it into my 401K.  We don't want to withdraw money from our 401Ks and pay the 10% penalty if we can help it so I was thrilled when someone mentioned the Roth Conversion Ladder.  If I understand the IRA ladder plan, we'll need to roll our 401Ks into traditional IRAs and then start moving money into a Roth IRA slowly (to minimize taxes) and after 5 years, we can withdraw those deposits tax free from the Roth.  Correct so far?  Can you move money into a Roth from 401K or only from a traditional IRA?

It looks like we'll be able to move about $15,000 per year and not impact our taxes too much.  So here are some of the questions I have about that:

Do we move money for both of us or only one?  If it's only one, does it matter which one?  Adding in my lump sum, the balance in my 401K will be at least three times as much as DH's but I didn't think that would matter.

If we do this early 2016, we'll be able to draw that money out in early 2021, when I will be 56 and he will be 57 (we will turn 57 & 58 in mid-2021).  Not a whole lot earlier than 59 1/2, but a little bit at least.  So money we contribute in 2017, can be withdrawn in early 2022.  DH turns 59 1/2 the end of 2022 and at that point we can withdraw with no penalty but will still be taxed on withdrawals from the traditional IRA but not the Roth. Still, that gives us 2 years we can access up to $15,000 each year tax free, penalty free.

So do we keep moving money into the Roth only to the point where we can withdraw it before we reach 59 1/2 and avoid the early penalty or do we keep doing it beyond that just to have money in the Roth that we can remove tax free?  Since he will reach 59 1/2 a year before I do (our birthdays are 10 days apart in the same month), does it make more sense to move his money into the Roth because it would take less time for us to miss the penalty?

I don't really think we'll need to withdraw $15,000 in a given year and even if we do that we'll be below the 4% withdrawal rate so it shouldn't matter.  We both plan to draw Social Security starting at 62 and that will bring in another $33K each year between the two of us... so it's just a matter of having access to our money without the penalty before we're 59 1/2.

I hope this all makes sense... and I wish we had come up with this early retirement plan 10 years earlier so we'd be moving money in the Roth for a long time.  :)  Oh, but wait... he wasn't retired from the Air Force then.  Nevermind.  :)

dandarc

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Re: Roth Conversion Ladder questions
« Reply #1 on: January 22, 2015, 09:15:15 AM »
Generally, you want to move as much from your traditional IRAs to Roth IRAs at low tax rates as you can before required minimum distributions kick in at 70.5.

benjenn

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Re: Roth Conversion Ladder questions
« Reply #2 on: January 22, 2015, 09:21:29 AM »
Oh, that makes sense.  Hadn't thought that far ahead!  So it would be best to just keep moving as much as we can afford to move each year and keep doing it.  Good to know.

johnny847

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Re: Roth Conversion Ladder questions
« Reply #3 on: January 22, 2015, 09:23:31 AM »
So long as you two stay married, and leave each other as the beneficiary of the IRAs and 401k's, it doesn't matter whose account you convert.

As dandarc mentioned, another big draw to the Roth conversion ladder is being able to avoid RMD's that kick in at 70.5. Of course, to do the math correctly, you'd need to know future tax rates. So unfortunately, part of it will depend on a prediction of the future. I would assume that your balance in Traditional accounts is far greater than your balance in Roth accounts, so you'd want to convert as much as possible to avoid the high taxes that you anticipate from RMD's.

Please do not use the term contribute when you mean convert. To contribute to a retirement account you need earned income.

If you're going to be getting health insurance from the marketplace, you should keep in mind that because the Roth conversion is treated as income, it will increase your AGI, meaning it will affect the amount of the Obamacare tax credit you will get. For the details, look here http://thefinancebuff.com/converting-to-roth-and-harvesting-capital-gains-under-obamacare-premium-subsidy.html. Sorry for making this even more complicated =P

benjenn

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Re: Roth Conversion Ladder questions
« Reply #4 on: January 23, 2015, 11:35:40 AM »
Sorry about that contribute/convert mistake!  This is all new to me.

We currently both have 401Ks but neither of us have IRAs... traditional or Roth.  Our income is too high to qualify for a Roth directly now.  Can we roll over from a 401K into the Roth or does it have to do into a traditional IRA first?

As for the health insurance, DH is retired from the Air Force so we have Tri-Care for life.  Even if something happens to him, I'll still have that... so the health insurance delimma that stops a lot of people from retiring early is not a problem for us.