Would you do Roth conversions if in 12% tax bracket?

[ChpBstrd]

Due to career transitions, special deductions, and capital losses in 2022, my family will be tens of thousands of dollars deep in the 12% tax bracket this year. We might have much higher incomes and lower capital losses next year, and find ourselves in the 22% bracket at that time. We're a little over halfway to FIRE, with a few more years to go. We have about 5 years' expenses in Roths and taxable accounts now.

My temptation is to move $30-40k of tIRA money to a Roth. I had not planned on starting a Roth pipeline now, but here's an opportunity to pay only 12% taxes on the conversion.

Is that a bargain worth pursuing, or a big meh? I know post-FIRE when I'm living off the money currently in the Roths, I'll be moving a decent chunk of the pipeline through at the 10% and 12% tax rates, so maybe jumping on 12% now is nothing to get excited about?

Your thoughts? What are those already doing Roth pipelines paying on their conversions?

[Michael in ABQ]

Do you think brackets will go down any in the next few decades? Probably not with tens of trillions of debt. I'd take advantage of it.

[badger1988]

Aiming for the top of the 12% bracket has been my general strategy the last few years.

[index]

I'd do the conversion at 12% in a heart beat.

Pay attention to your state tax rate too though. You can always pull an Elon and move to a capital gains free state in retirement, so do the math!  12% federal is hard to beat though.

[Holocene]

I'd definitely do it at 12%.  Don't forget that the current tax brackets might expire in a few years and 12% turns into 15%.  Not a huge difference, but it's something.  There's a big jump from 12% to the next bracket and historically, I think 12% is quite low.  The only reason I might consider holding off is if you're in a state with high state income tax now and think you might retire someplace with low or no state income tax.  The state taxes could eat up the federal savings.

I did some conversions this year at 22%.  I figure it's better than what will be 25% in a few years, but more importantly, I wanted to get some of it converted before I potentially need to keep my income lower for the ACA.  Something to consider even if you'll be in a lower bracket in retirement.  I found keeping my income at 199% FPG is the sweet spot for healthcare subsidies in my state and it's worth potentially paying a bit more now to be able to hit that for more years in early retirement.

[MrGreen]

I have done some extensive modeling of my own financial circumstances both in the trad to Roth conversion thread and my dying with zero journal.

We expect to rely almost exclusively on a Roth pipeline for our FIRE income before age 60. Before my participation in the traditional to Roth conversion thread and the expansion of my model I was very much in the camp that we would convert an amount each year that would cover our expenses and leave the rest alone to avoid taxation. Now I realize that this would almost certainly lead to us paying ridiculous amounts of tax once RMDs come into play. It is so tax inefficient that it compelled me to increase our planned Roth conversions even if we weren't going to spend it all in annual expenses. I now expect to convert well into the 12% bracket on an annual basis.

Depending on your personal financial plans, this strategy may make sense for you as well. If we were hard set in our spending pattern for life and that pattern was very mustachian in nature there'd be no need to do this. All the money that accumulated pre-tax could be donated in our 70s to avoid heavy taxation. However, part of my modeling was to maximize the potential utility of our money and that also meant maximizing access broadly over our lifetimes. Paying the early withdrawal penalty and having gains taxed at ordinary income rates on unexpectedly needed income is not a plan in my book

Also consider that the 12% bracket becomes 15% again after 2025 unless they tax cuts from 2017 are extended. It might be one of the least expensive times to pay taxes, depending on what your spending and income needs will be in future years.

[ChpBstrd]

Thanks for the sanity check. $40k transferred. 10% fed and 3% state withheld.

I'll get all of that back in about 3 mos due to solar panel installation credits, which I won't have to bother with carrying forward into 2023.

[MDM]

Thanks for the sanity check. $40k transferred. 10% fed and 3% state withheld.

If you are under age 59.5, and don't replace the withholding by adding to the Roth IRA the amount withheld, you may be subject to the 10% penalty for early withdrawal from the IRA.

[ChpBstrd]

Thanks for the sanity check. $40k transferred. 10% fed and 3% state withheld.

If you are under age 59.5, and don't replace the withholding by adding to the Roth IRA the amount withheld, you may be subject to the 10% penalty for early withdrawal from the IRA.

So what you're saying is I should keep the gross amount in the Roth IRA for 5 years, not the net, after-taxes, amount?

[seattlecyclone]

Thanks for the sanity check. $40k transferred. 10% fed and 3% state withheld.

If you are under age 59.5, and don't replace the withholding by adding to the Roth IRA the amount withheld, you may be subject to the 10% penalty for early withdrawal from the IRA.

So what you're saying is I should keep the gross amount in the Roth IRA for 5 years, not the net, after-taxes, amount?

The part withheld counts as an early distribution. My understanding is that the IRS treats it as though 87% of the gross transaction is a Roth conversion and 13% was a withdrawal from your traditional IRA. If you don't put that much back into your IRA as a rollover contribution within 60 days, you will owe <tax bracket>+10% on the withheld amount. And actually I question @MDM whether the money would need to go into the Roth or traditional IRA. If it counts as an early distribution from the traditional IRA you'd need to replace it there, correct? And then if you want to make that 13% actually end up in the Roth you'd do a separate conversion (with no withholding this time!).

[MDM]

Thanks for the sanity check. $40k transferred. 10% fed and 3% state withheld.

If you are under age 59.5, and don't replace the withholding by adding to the Roth IRA the amount withheld, you may be subject to the 10% penalty for early withdrawal from the IRA.

So what you're saying is I should keep the gross amount in the Roth IRA for 5 years, not the net, after-taxes, amount?

The part withheld counts as an early distribution. My understanding is that the IRS treats it as though 87% of the gross transaction is a Roth conversion and 13% was a withdrawal from your traditional IRA. If you don't put that much back into your IRA as a rollover contribution within 60 days, you will owe <tax bracket>+10% on the withheld amount. And actually I question @MDM whether the money would need to go into the Roth or traditional IRA. If it counts as an early distribution from the traditional IRA you'd need to replace it there, correct? And then if you want to make that 13% actually end up in the Roth you'd do a separate conversion (with no withholding this time!).

It can go into either.  E.g., see Withholding from Roth Conversion, Then Replacing w/h in TIRA [or Roth IRA].  That thread starts with the idea of replacing into the tIRA but by the time it gets to the linked post it's clear that either works.  Poster "Alan S." at Fairmark or Bogleheads is extremely knowledgeable.

The exact mechanism of completing the conversion by replacing the withheld amount into the Roth IRA (or tIRA for that matter) may vary by brokerage.  Thus one should ask the brokerage how to ensure the 13% amount replaced is treated correctly, and not treated as a contribution.