Author Topic: Convert to Roth?  (Read 1104 times)

chortitza

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Convert to Roth?
« on: September 29, 2018, 05:59:19 AM »
Hi all, thanks in advance for your guidance on this!

I have an IRA from a job I worked before graduate school with about $15k in it and I'm debating converting it to a Roth. I could do so this year while remaining in the 12% bracket but my state would tax it at a hair under 6%. Next year, my DW and my combined income will jump into the 22% bracket so my thought is that we could convert to Roth this year and then contribute to a tIRA to drop our marginal tax rate next year.

Is my thinking on this at least on the right path? I figure it'd cost about $2,600 in taxes to convert this year but am having a hard time guesstimating the back-end benefits to see whether it is worth it or not. We're also saving for a house and $2,600 wouldn't cripple those plans by any means but I don't want to hand it over if there isn't a clear long-term benefit. I figure we can work out whether to contribute to the tIRA next year when we have a better sense for the housing market and whether our downpayment savings are sufficient so that isn't as big a concern at this point.

Again, thanks for the help!
« Last Edit: September 29, 2018, 06:01:14 AM by chortitza »

terran

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Re: Convert to Roth?
« Reply #1 on: September 29, 2018, 06:39:51 AM »
Yes, your thinking is on the right path, but that 6% state tax makes it less of a slam dunk.

What tax bracket do you expect to be in when you retire? What about state taxes? Will you move to a no or lower tax state?

I expect to spend some time abroad after establishing residency in a no tax state, so I figure anything under 15% when considering state+federal is a good idea because the 12% bracket is set to revert to 15% in 2025 unless it's made permanent. I'd be willing to go higher if I expected to always be in a state with an income tax, so I guess my thinking is I'd consider converting up to 15% + expected future state tax.

Of course, if you expect to be in a higher bracket in retirement, go higher, but since the 2nd tier tax bracket (was 15%, now 12%) goes to around $100k, I think that should be a more than sufficient withdrawal for a mustachian.

Marginal rate now and marginal rate at retirement is all that matters. What you're at in between doesn't matter one bit.

HeartlandBrad

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Re: Convert to Roth?
« Reply #2 on: September 29, 2018, 07:12:37 AM »
... my thought is that we could convert to Roth this year and then contribute to a tIRA to drop our marginal tax rate next year.

... we can work out whether to contribute to the tIRA next year when we have a better sense for the housing market and whether our downpayment savings are sufficient so that isn't as big a concern at this point.

I agree with Terran.  There seems to be a question in your mind about whether or not you'll have enough next year for a downpayment AND tIRA contribution.  This being the case, I'd say that you're looking at three choices for discretionary cash:  1) down payment, 2) 2019 tIRA contribution, and 3) taxes on Roth conversion.  It would be nice to have enough to fund all three but if you have to make a choice, I'd say it's more important to make that 2019 contribution.  You can always go back and convert a tIRA but you can't go back and make a tIRA contribution for a prior year.

MustacheAndaHalf

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Re: Convert to Roth?
« Reply #3 on: September 29, 2018, 11:23:38 AM »
In your place, I'd estimate that 12% Federal and 6% State tax is as good as I'll get, and Convert.  In NY or CA, while the Federal tax goes up to 22% the State tax would increase above 6% also.

More importantly, since you can't retire on $15k, see if it makes sense to increase your 401(k) contributions.  See if your new employer offers a company match, and grab all of that.

chortitza

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Re: Convert to Roth?
« Reply #4 on: September 30, 2018, 05:18:06 AM »
Thanks all, I very much appreciate the responses so far. In two years we'll be in a state with a projected marginal tax rate of 4.7%. So, based on Terran's formula it looks like converting is still a good idea.

As HeartlandBrad pointed out though, we are in a position where next year we will likely have to choose 2 of the 3 goals and leave the other for the following year. DW will definitely want to prioritize the downpayment (she's not a full mustachian yet, but some whiskers are growing - she became an absolute debt monster while we were paying down our undergraduate loans!) so would converting be worth it in order to give up funding the tIRA for a year? While we will have to prioritize next year (2019) my full-time job will start in 2020 and from there we'll have enough income to work quite a ways through the Investment Order linked earlier in this sub-forum while still taking care of our other priorities as well.

Again - thanks all for the help. It's great to be able to bounce this off of some people who know what they're doing when DW has no interest as long as it all works out. Lol.

harvestbook

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Re: Convert to Roth?
« Reply #5 on: October 01, 2018, 06:53:58 AM »
I'd rather fund the 2019 tIRA because then you have the immediate tax savings to work with (for house down payment or additional investments.) As HeartlandBrad said, that's a once-in-a-lifetime opportunity, whereas the Roth conversions can be done any time, and who knows if a better time might come up, i.e. early retirement when you're making little or nothing, or a year between jobs, etc.

MustacheAndaHalf

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Re: Convert to Roth?
« Reply #6 on: October 01, 2018, 10:14:32 AM »
Every year, you only get the chance to fund $5,500 (per person in a married couple) into a Traditional IRA.  If you don't contribute that year, the opportunity is gone.  So I'd prioritize investing new money above doing something with existing money.  The Roth Conversion should get delayed until you can afford it.

The most important think is still a 401(k) company match.  In general, you gain +25% to +100% the moment your money gets contributed.  There's no investment that matches that kind of guaranteed return, so pursue the company 401(k) match (if any) first.