Why you can’t ever touch your Roth

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McQ
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Why you can’t ever touch your Roth

Post by McQ »

… until the very end.

Assuming your goal is to maximize after-tax wealth accumulation in the long run.

That’s a very important caveat, because there are many other goals that might motivate a Roth conversion. Here is an alternative goal. It’s not uncommon among Roth account holders and can be stated several ways:
1. Allow me to pay less tax any time I want to pay less tax
2. To have more control over the amount of taxable income I receive each year

These general goal statements can be made more concrete and specific:
3. To not incur tax when I choose to spend from retirement savings
4. To enable me to withdraw fewer dollars from my retirement savings to handle unexpected expenditures, since the dollar amount of a Roth withdrawal must be less than a withdrawal from unconverted TDA accounts, as these must be grossed up to cover tax.

Alternative goal #4 is the foil for this thread, and the concrete example will be: “we need a new roof.” To get the dollar cost of this unexpected expenditure up to a nice round $50,000 (replacement asphalt shingles on a small house can cost far less), let’s assume there was also some rot in the rafters, roof decking, and fascia, plus the gutters are shot. That $50,000 really is not a discretionary expenditure.

As will emerge, $50,000 was chosen to be a large enough amount to have interesting effects, and small enough not to drain any of the accounts compared. If you want it to be a new kitchen instead of a new roof, or some other mandatory expenditure that adds up to $50,000, fine.

Take the money from the TDA or the Roth?

That is the decision to be examined in this thread.

As always in my Roth threads, for the base case an affluent retiree couple is assumed, defined as a couple who is in the 22% or 24% income tax bracket once Required Minimum Distributions begin. Accordingly, they will have one million or two or three in tax-deferred accounts, and one or two or three hundred thousand dollars in Roth accounts, mostly from well-timed conversions before social security began.* To make the RMD calculations more precise, they are both 75 when the roof starts to leak and the contractor delivers the bad news. At the 22% tax bracket I’ll call them Tom and Tam; in the 24% bracket, Bill and Pat.

*footnote at end of post explains these dollar amounts

If Tom and Tam are in the 22% bracket, and they make a non-required withdrawal from a traditional retirement account, they will have to withdraw at least $50,000/.78, or $64,103 to pay for the new roof and cover the tax on the withdrawal. If instead they withdraw from the Roth, the amount can be a flat $50,000.

Really now, a whole thread on whether to pay for the roof by debiting your accounts $64,000 or $50,000? C’mon, man!

It seems so obvious—but only if temporal blinders are worn.

Temporal blinders

…are worn when a wealth trajectory that extends over decades is examined at only one point in time. This one year, the year of the roof, it doesn’t seem very difficult to decide whether to take $64,000 from the TDA, with $14,000 sent to the government, or to take a flat $50,000 from the Roth, with nothing paid to the government.

But what about next year? The shrunken TDA balance is going to entail a lower age 76 RMD payment, approximately ($64,103 *[1 + r]) / 23.7 lower, call it $3000. At the 22% income tax rate, that’s a reduction in next year’s tax payment on RMDs of about $660. The year after, the multiplier will be (1+r)2, i.e., two years of return, and the divisor will be 22.9; tax savings will be about $770.

You see where this is going. Once the temporal blinders are removed, it becomes apparent that the $14,000 paid over to the government might best be viewed not as an “excess” tax payment, but as a prepayment of taxes that would be due sooner or later in any case, as RMDs slowly empty the TDA. Please recognize: the RMD divisor schedule is designed to expose all of the TDA balance to tax by the end of life (given average joint life expectancy, ceteris paribus, yada yada).

Conversely, if the $50,000 were to be taken from the Roth, that is $50,000 no longer left to grow tax free forever. At 10% in the stock market, that is $55,000 of after-tax wealth forfeited next year, $60,500 missing from the year after, $100,000 missing after seven years, and $800,000 missing after 30 years, when both are likely dead and the heirs have received their bequest.

So: is your goal to maximize after-tax wealth accumulation in the long run—or something else? That will determine whether you ever dare touch those Roth funds.

The only economically rational goal with respect to Roth maneuvers is to conduct them so as to maximize wealth over the planning horizon. However, you, the concrete human being in your very particular socioeconomic and personal situation, need not be rational (no shame there); I’ll consider behavioral finance perspectives, which relax the rationality stricture, in a summary post at the end.

If economically irrational behavior toward your Roth funds provides enough offsetting psychological satisfaction, then yes, of course, you can justify tapping your Roth funds at any time.

No need to read any further; this thread is for those who aspire to economic rationality.

The spreadsheet

With the temporal blinders removed, clearly a spreadsheet analysis is required to nail down the breakeven point for taking / not taking funds for the new roof from the TDA. Breakeven can be defined in terms of years or tax rate. On the numbers thus far, the $14,000 prepayment of tax will be recovered in less than 15 years, possibly much less, depending on how the foregone Roth gains are factored into the equation.

• On the other hand, maybe the effective tax rate for grossing up the roof expense will be more than 22%--the social security tax torpedo may apply, or an IRMAA boundary may be crossed.
• Or maybe it is the widow/er who needs the new roof, and s/he is subject to the single tax rate, maybe 32% rather than 22%.
• On the other hand, maybe the roof payment taken from the TDA is just enough to drop the widowed survivor out of the 32% bracket into the 24% bracket for future RMDs, thus magnifying future tax savings.
• Or maybe taxes go up on future RMDs, so that prepayment now at the 22% rate is all the more attractive.

Lots of scenarios to consider…

Next post introduces the spreadsheet and applies it to the base case where tax rates are constant and there are no IRMAA or other additional costs. Subsequent posts will work through different scenarios one by one.

*Explanation of assumed assets: to be over 65 and in the 22% bracket MFJ in 2021 requires an AGI of $108,750 or more. If the TDA is $1 million at age 75, then the RMD will be about $40,000, leaving almost $70,000 of other income required if the 22% bracket floor is just barely to be breached. Two average social security payments will only account for $37,000. One maximum age 65 payment plus a spousal 50% payment will be $55,000; still not enough, if social security and RMDs are the only major sources of income. Therefore, the expected TDA balance to enter the 22% bracket must be greater than $1 million. The Roth numbers assume that $100,000 was converted six to twelve years previously at a rate of 22% or 24%; this will yield a couple hundred thousand in the Roth at age 75.

Everything changes if the retirees are two civil servants or one is a retired military or retired public safety officer. In these cases there will often be a generous pension; pension plus social security might then breach the 22% bracket without a single dollar in a TDA. But it will be difficult for that couple to get much above the floor of the 24% bracket (~$200K AGI) without one or two or three million in a TDA.

In short: easy enough to construct a pension case where a couple reaches the 22% bracket with only a few hundred thousand, or less, in their TDA. But the general case (few people other than civil servants / retired military have a significant pension anymore) will conform to the asset picture set out, all the more so if the 24% bracket is at issue.

For a single, all the stated asset values would be cut in half.
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Lee_WSP
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Re: Why you can’t ever touch your Roth

Post by Lee_WSP »

from an estate planning perspective I agree with the title and the analysis. However we are talking about a slightly longer time horizon.
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Re: Why you can’t ever touch your Roth

Post by McQ »

Spreadsheet Model

The first spreadsheet displayed in this post was created for my prior Roth thread: viewtopic.php?p=6241021 . It can be downloaded from [link removed by admin LadyGeek] github.com (https://github.com/emcquarrie/Roth-conv ... readsheets).

The version shown below assumes tax paid out of conversion funds but a conversion that occurs twelve years prior to the beginning of RMDs. I use that version because at age 75, RMDs have been ongoing for only three years. I don’t want the results dismissed as “the roof expenditure happened so soon after conversion as to be suspect.”

The structure of the spreadsheet is described in posts at the beginning of the prior thread. Briefly, a $100,000 Roth conversion is assumed to be made at some tax bracket, say 22%, leaving $78,000 in the Roth after payment of tax from the conversion. The Roth funds earn the historical US stock return of 10%. A counterfactual TDA holds the $100,000 that it would have been retained in the TDA had no conversion occurred. It too is invested in stocks earning 10%. Note that the “on-camera” TDA reflects only a fraction of the retiree’s total TDA balance; the rest, which may contain bonds or other assets, is off camera. When RMDs begin from the counterfactual they are considered surplus, unneeded for regular spending; hence, the amount remaining after tax is invested in stocks also earning 10%. For simplicity, annual gains in this account are marked to market and taxed at the 15% rate.*

*See the dialogue with marcopolo in the other thread for alternative scenarios.

The original spreadsheet was designed to find the payoff amount and year for any combination of tax rates at conversion and after RMDs begin. (Note blue cells at top). It located the source of any Roth payoff in tax drag on the reinvested RMDs. Tax drag allows a conversion to pay off under constant tax rates and even if future tax rates drop. Column O in light yellow shows how the conversion payoff mounts up year by year, on the assumption of a constant 22% tax rate.

Image

The distinctive feature of that spreadsheet and the underlying SSRN paper was the treatment of RMDs from the counterfactual as surplus and available for reinvestment once tax has been paid. Reminder: the bulk of RMDs occur off-camera, from TDA funds that couldn’t be converted or were never planned for conversion; those RMDs are not surplus and get spent in the normal way. Those off-camera RMDs and Social Security / pension are what get income up to the 22% or 24% tax bracket boundary that applies to the on-camera RMDs.

New spreadsheet

The version constructed for this thread has another top bar entry allowing one to specify the grossed up amount of the roof cost (Column V top). In simple cases this can be done by dividing $50,000 by [1 – tax rate]; in more complex cases the dollar amount of the gross up must be calculated offline and entered. In addition, there is a new column for entering cash payments that might be triggered by the unexpected expenditure (e.g., IRMAA, Column U).

The final change is to construct paired tabs. Everything is identical across the pair except that in the first tab, the roof expenditure is paid from the TDA, grossed up to cover tax; while in the second tab, the straight cash expense ($50,000) is deducted from the Roth.

The original single tab approach was designed to calculate the Roth surplus at any age given specified tax rates. Obviously, the Roth surplus will be “bigger” if the roof is paid for from the TDA, and “smaller” if the roof cost comes out of the Roth.

In the paired tab approach used here, what had been the counterfactual TDA (and reinvested RMDs) is treated instead as a matched account to the Roth. The conceit: you had $200,000 that could have been converted. Being of an empirical mind set, you converted $100,000 and did not convert the other $100,000. You track them both to see how it all turned out. Pity you can’t run the experiment 10,000 times in a Monte Carlo simulator. You suffer from the liability of being mortal and finite, with only one retirement to fund.

With paired tabs, distinguished only by where funds were debited for the new roof, we simply compare “total wealth,” the sum of all accounts on camera. If total wealth at a later date is greater when the Roth account is the one debited, then the conventional wisdom holds: why spend $64,103 on the new roof when you could only spend $50,000?

Because tax drag compounds, it will be important to repeat the evaluation year by year. It is entirely possible that a Roth debit will appear the better approach when evaluated after one year, still looks better by a hair when evaluated after five years, but becomes the worse choice if evaluated ten years out at age 85.

Don’t know yet; that’s why a spreadsheet had to be constructed.

Case #1: New roof, constant 22% tax rate

If Tom and Tam are right at the bottom of the 22% bracket, say $110,000 of income, then the gross up of the $50,000 roof will be exactly $64,102.56, i.e., ($50,000 / [1 - .22]), and this withdrawal will just barely keep them out of the first IRMAA bracket, which in 2021 starts at $176,000.

Here is the tab where the withdrawal is made from the TDA. Note the thick black outline in Column G at age 75. That cell subtracts $64,103 from the TDA balance in addition to that year’s RMD, both subtracted at the end of the year after that year’s appreciation.

Image

Here is the tab where the withdrawal is made from the Roth. Note the thick black outline in Column M at age 75. That cell subtracts $50,000 from the Roth after entering that year’s appreciation.

Image

In tab 2 just shown, in Column T the total wealth on this path is subtracted from total wealth for the TDA path (yellow highlight). Note the age 76 row value in Column T. It is exactly zero. Interpretation: the homeowner using a one-year time frame should be indifferent to paying for the roof from TDA or Roth: the wealth impact after one year is the same.

Explanation: as Celia’s signature line reminds, a dollar in Roth is worth more than a dollar in a TDA. When you have $64,103 in a TDA, subject to tax at 22%, you don’t have that many dollars in after-tax wealth—rather, you have exactly $50,000 in after-tax wealth. Hence, the wealth impact of paying for the new roof by withdrawing $64,103 from the TDA is identical to the wealth impact of withdrawing $50,000 from the Roth…

…in year #1. Under a constant tax rate. With no IRMAA or other complications.

But we agreed in the first post of this thread that the goal was to maximize after-tax wealth in the long run. Not “one year out.”

Next, please examine the age 77 row, Column T in the tab2 image just above. This value is not zero. It is minus $31.65. Taking the money from the Roth produces a slightly worse wealth outcome when evaluated at year 2. And scanning down that column, the wealth impact becomes more and more negative with each passing year, increasing to over $10,000 by age 90 and over $73,000 by age 100. Why?

++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++
Alert! Alert! Alert!
Green eyeshade material follows, of interest only to those who enjoy wearing one
and are by nature skeptical of people like me making claims about what
spreadsheet manipulations can show. If that’s not you, just skip any text in blue.
Verbal summaries follow each bit of arithmetic.
++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++

First we have to trace back the $31.65, the Year Two shortfall in wealth when $50,000 is taken from the Roth instead of $64,103 from the TDA. It is equal to the difference in values for cell K22 across tabs, “tax owed on annual appreciation in the taxable account:” $956.24 minus $924.59. The first value is the tax that would have been owed at age 77 on the reinvested RMDs to that point if no extra TDA withdrawal had been made. The second value is the decreased tax that would be owed at age 77 if the TDA balance had been reduced by $64,103. I will trace these two values further back in a moment.

Interpretation: if we pay for the roof with a grossed-up withdrawal from the TDA, next year’s RMD will be lower because the remaining TDA balance is lower. The after-tax amount of that reduced RMD will be reinvested, but the amount reinvested will also be smaller. Which means the account holding reinvested RMDs will grow at a slower rate. Which means it will generate a lower tax obligation. Which means it will not fall behind the Roth as quickly. That makes the $64,103 withdrawal from the TDA a better choice than the $50,000 withdrawal from the Roth. Better by exactly $31.65 when evaluated at Year 2.

Remember Celia’s signature line: TDA dollars are comparatively worth-less. They carry a heavy tax freight while in the TDA; and even after the first tax haircut on the RMD, the reinvested remainder still carries a tax burden. Better to spend these comparatively worthless funds first and hold on to the more valuable Roth dollars.

Unless those temporal blinders are glued to your head.

Let’s nail down the source of the disadvantage. Why is tax on the reinvested RMDS at age 77, given a $64,103 withdrawal from the TDA at age 75, only and exactly $924.59 rather than the $956.24 that would have been paid if there were no TDA withdrawal? Here is the answer in stages:
1. With the withdrawal to pay for the roof the age 75 ending TDA balance is $64,103 lower;
2. That reduces the age 76 RMD by $64,103 / 23.7 = $2704.75;
3. After paying tax at 22% on that RMD, $2109.70 less is available to invest in the taxable account;
4. Next year, age 77, the return on the taxable account is 10% * $2109.70 lower = $210.97 less;
5. At the 15% rate, tax that would have been owed on that return is reduced by …
6. …$31.65, i.e., from $956.24 to $924.59


Next, it will help to work through one more year, to see why the advantage of paying for the roof from the TDA increases so rapidly.
Here is the right side of tab #2 with some of the values just discussed (columns U and V, age 76).

Image

At an age of 78, the advantage of paying for the new roof from the TDA goes up to $103.79 (Column T). This is the number we want to decompose. Once we have got this straight, it will become apparent why the wealth payoff from leaving the Roth untouched climbs to such high values in later ages: +$10,000 at age 90, +$30,000 at age 95, and +$73,000 by age 100.

How did the advantage of $31.65, in year two at age 77, improve to $103.79 in year three, at age 78?
1. The reduced age 76 RMD, discussed above, had caused the age 76 taxable account to receive $2109.70 less (Column V).
2. The age 77 RMD is also reduced, as will be all future RMDs.
3. The reduced age 77 RMD causes $2309.62 less to be invested in the taxable account.
4. At the end of age 77, the taxable account value is now $4,598.65 behind where it would be if no withdrawal had been taken from the TDA (Column X).
a. But, you will note, that’s more than the sum of the two after-tax RMD reductions ($2109.70 + $2309.62).
b. Rather, $4598.65 = $2109.70 + (1.085 * $2109.70) + $2309.62. In other words, each diminished contribution diminishes the future after-tax value of the taxable account by its after-tax rate of return of 8.5%, and that reduction compounds.
5. With the reduced value of the taxable account, the age 78 appreciation is lower by $459.86, reducing the tax on it by $68.98. Which still doesn’t get us to $103.79.
a. We have to add the compounded value of last year’s dead loss: $31.65 * 1.1 = $34.81.
6. I’ve added two more rows in columns X through Z to give a sense of how things will compound.


In plain English, once the TDA has been debited for the roof, future RMDs are reduced. That means the dollar amount reinvested in the taxable account is also reduced. A smaller taxable account means less tax drag. Less tax drag means a slower decline in value relative to the undisturbed Roth. But the impact of this slower decline grows and grows, because a smaller dollar amount is being added each year, and the reduction in prior years’ additions also compounds, as does the dead loss from prior years’ tax payments.

Don’t touch that Roth!

Next steps

Income has to be very precisely situated at the bottom of the 22% bracket for a tax rate of only 22% to apply to the grossed-up cost of the new roof. If Tom and Tam make more than $112,000 in AGI, then paying for the new roof from the TDA is going to trigger an IRMAA charge (2021 threshold = $176,000). Logically, that IRMAA charge has to be grossed up too as part of the TDA withdrawal; otherwise, it is being partly paid from other funds, which messes up the binary choice being explored here, pay for the roof from TDA or Roth.

With IRMAA the cost of the roof, paid from the TDA, is going to be rather more than $64,103.

Surely it cannot make sense to trigger an IRMAA payment? Won’t it be better, in that event, to withdraw the flat $50,000 for the roof from the Roth?

Next post investigates. But first a reminder: the goal is greater after-tax wealth in the long run.
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Re: Why you can’t ever touch your Roth

Post by randomguy »

McQ wrote: Mon Dec 06, 2021 4:56 pm … until the very end.

Assuming your goal is to maximize after-tax wealth accumulation in the long run.
You are making tons of assumptions to get this result. If they don't hold, you will get different results. For me, 70k is likely to move me from 12% to 22% and result in IRMAA increases. Those are going to counter act the benefits of reducing tax drag later. I also plan on spending my RMDs so no tax drag there... I believe it was Wade Pfau who had the article discussing how spending the ROTH earlier reduces IRMAA and SS taxation and resulted in noticeably higher end portfolio values.


All things being equal, I definitely spend the ROTH last. There are tons of benefits (i.e. don't have to worry about my heirs ending up some 35% tax bracket, flexibility, lower estate size if those numbers ever get slashed, ability to take out a lot if needed,...) and few downsides (can't write off those large EOL medical expenses?). But things are often not equal which makes things hard.
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Re: Why you can’t ever touch your Roth

Post by Lee_WSP »

randomguy wrote: Mon Dec 06, 2021 7:33 pm
McQ wrote: Mon Dec 06, 2021 4:56 pm … until the very end.

Assuming your goal is to maximize after-tax wealth accumulation in the long run.
You are making tons of assumptions to get this result. If they don't hold, you will get different results. For me, 70k is likely to move me from 12% to 22% and result in IRMAA increases. Those are going to counter act the benefits of reducing tax drag later. I also plan on spending my RMDs so no tax drag there... I believe it was Wade Pfau who had the article discussing how spending the ROTH earlier reduces IRMAA and SS taxation and resulted in noticeably higher end portfolio values.


All things being equal, I definitely spend the ROTH last. There are tons of benefits (i.e. don't have to worry about my heirs ending up some 35% tax bracket, flexibility, lower estate size if those numbers ever get slashed, ability to take out a lot if needed,...) and few downsides (can't write off those large EOL medical expenses?). But things are often not equal which makes things hard.
There's taxable you can also pull from to avoid going up the brackets, but maximizing wealth at death is not necessarily a great goal.

I'd say it's on the list of priorities, but somewhere on the bottom AFAIC.
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Re: Why you can’t ever touch your Roth

Post by ball241 »

Hi McQ

BTW, as a consequence of feedback here, the revised paper will target "people whose expected age 72 income, combining RMDs, SS and all other sources, will place them in the 22% to 24% brackets, i.e., retirement income corresponding to $100,000 to $350,000 in 2021 constant dollars."

That will be the case study going forward.

I was reading your previous study and associated forum posts and saw this regarding a future study. Will one be forthcoming for this group?
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Re: Why you can’t ever touch your Roth

Post by randomguy »

Lee_WSP wrote: Mon Dec 06, 2021 7:44 pm
There's taxable you can also pull from to avoid going up the brackets, but maximizing wealth at death is not necessarily a great goal.

I'd say it's on the list of priorities, but somewhere on the bottom AFAIC.
After other goals are met, it is a somewhat reasonable goal. At a high level here all we are seeing is the effect of tax drag on taxable accounts. This is the same thing that drives doing large ROTH conversions early. Paying 24% to convert works out to be better than paying 22% + Tax Drag over long periods of time.
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Re: Why you can’t ever touch your Roth

Post by firebirdparts »

I'm kinda shocked at the sheer number of words people were able to use on this.
This time is the same
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Re: Why you can’t ever touch your Roth

Post by TimeRunner »

Add in California's income tax and it's even more fun. :beer
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Re: Why you can’t ever touch your Roth

Post by curmudgeon »

It seems like your calculations would also apply in the absence of needing a new roof. Your 75-year-olds should do a $50,000 Roth conversion.
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Re: Why you can’t ever touch your Roth

Post by tallhair »

Love the info and glad you mentioned the widows tax trap.

Thanks
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Re: Why you can’t ever touch your Roth

Post by tallhair »

curmudgeon wrote: Mon Dec 06, 2021 10:00 pm It seems like your calculations would also apply in the absence of needing a new roof. Your 75-year-olds should do a $50,000 Roth conversion.

Concur with this and I’ve been incorporating similar logic to the OPs points and rational in my own thinking and planning.
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Re: Why you can’t ever touch your Roth

Post by dknightd »

I use Roth accounts as a tax smoothing tool
Retired 2019. So far, so good. I want to wake up every morning. But I want to die in my sleep. Just another conundrum. I think the solution might be afternoon naps ;)
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Re: Why you can’t ever touch your Roth

Post by randomguy »

curmudgeon wrote: Mon Dec 06, 2021 10:00 pm It seems like your calculations would also apply in the absence of needing a new roof. Your 75-year-olds should do a $50,000 Roth conversion.
If the money is going to end up in a taxable account, then yes you should be putting it into a ROTH if the taxes you pay now are the same as latter. The hard part is figuring that out. Does it make sense to pay 800 bucks more in IRMAA to get here? How much value is avoiding bracket creep one a partner dies? What is the effect of 100k/year medical expenses. What will the effect on your heirs when they get this money in terms of taxes. There are a lot of things to think about and some things that help one, don't help another.
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Re: Why you can’t ever touch your Roth

Post by dodecahedron »

randomguy wrote: Tue Dec 07, 2021 10:54 am
curmudgeon wrote: Mon Dec 06, 2021 10:00 pm It seems like your calculations would also apply in the absence of needing a new roof. Your 75-year-olds should do a $50,000 Roth conversion.
If the money is going to end up in a taxable account, then yes you should be putting it into a ROTH if the taxes you pay now are the same as latter. The hard part is figuring that out. Does it make sense to pay 800 bucks more in IRMAA to get here? How much value is avoiding bracket creep one a partner dies? What is the effect of 100k/year medical expenses. What will the effect on your heirs when they get this money in terms of taxes. There are a lot of things to think about and some things that help one, don't help another.
In addition to all of the above phenomena mentioned by randomguy, what if charitable giving is a substantial portion of your planned annual budget and/or a substantial portion of your intended bequest destination? In that case, some amount of tax-deferred IRA and/or taxable accounts designed to accumulate and hold future donations of appreciated securities as well as possibly CRATs and/or CRUTs and/or DAFs are more cost-effective vehicles for that purpose than Roth accounts.

OP is unduly fond of unduly provocative oversweeping generalizations.

The irony is that the OP's professional career was in part underwritten by generous tax code provisions publicized by the development department of his university.
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Re: Why you can’t ever touch your Roth

Post by smitcat »

dodecahedron wrote: Tue Dec 07, 2021 11:06 am
randomguy wrote: Tue Dec 07, 2021 10:54 am
curmudgeon wrote: Mon Dec 06, 2021 10:00 pm It seems like your calculations would also apply in the absence of needing a new roof. Your 75-year-olds should do a $50,000 Roth conversion.
If the money is going to end up in a taxable account, then yes you should be putting it into a ROTH if the taxes you pay now are the same as latter. The hard part is figuring that out. Does it make sense to pay 800 bucks more in IRMAA to get here? How much value is avoiding bracket creep one a partner dies? What is the effect of 100k/year medical expenses. What will the effect on your heirs when they get this money in terms of taxes. There are a lot of things to think about and some things that help one, don't help another.
In addition to all of the above phenomena mentioned by randomguy, what if charitable giving is a substantial portion of your planned annual budget and/or a substantial portion of your intended bequest destination? In that case, some amount of tax-deferred IRA and/or taxable accounts designed to accumulate and hold future donations of appreciated securities as well as possibly CRATs and/or CRUTs and/or DAFs are more cost-effective vehicles for that purpose than Roth accounts.

OP is unduly fond of unduly provocative oversweeping generalizations.

The irony is that the OP's professional career was in part underwritten by generous tax code provisions publicized by the development department of his university.
"what if charitable giving is a substantial portion of your planned annual budget and/or a substantial portion of your intended bequest destination?"
We identify those goals and have a plan for those earmarked funds.

"Does it make sense to pay 800 bucks more in IRMAA to get here? How much value is avoiding bracket creep one a partner dies?'
Run various scenarios for these and see what the pros and cons are.

"What will the effect on your heirs when they get this money in terms of taxes"
You do a best estimate of the taxes for your heirs in the future.
curmudgeon
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Re: Why you can’t ever touch your Roth

Post by curmudgeon »

dodecahedron wrote: Tue Dec 07, 2021 11:06 am
randomguy wrote: Tue Dec 07, 2021 10:54 am
curmudgeon wrote: Mon Dec 06, 2021 10:00 pm It seems like your calculations would also apply in the absence of needing a new roof. Your 75-year-olds should do a $50,000 Roth conversion.
If the money is going to end up in a taxable account, then yes you should be putting it into a ROTH if the taxes you pay now are the same as latter. The hard part is figuring that out. Does it make sense to pay 800 bucks more in IRMAA to get here? How much value is avoiding bracket creep one a partner dies? What is the effect of 100k/year medical expenses. What will the effect on your heirs when they get this money in terms of taxes. There are a lot of things to think about and some things that help one, don't help another.
In addition to all of the above phenomena mentioned by randomguy, what if charitable giving is a substantial portion of your planned annual budget and/or a substantial portion of your intended bequest destination? In that case, some amount of tax-deferred IRA and/or taxable accounts designed to accumulate and hold future donations of appreciated securities as well as possibly CRATs and/or CRUTs and/or DAFs are more cost-effective vehicles for that purpose than Roth accounts.
I'd agree that the real world is much more complex than simple spreadsheets. And, of course, congress or personal circumstances change the rules in unexpected ways and times. Many of us will assign different weights to "money that I can comfortably spend in my lifetime" vs "money left to my heirs" vs "money left to charity" vs "money given to charity in my lifetime".

I actually consider it likely that we might be doing some Roth conversions in our 70's, converting up to the top of whatever tax/IRMAA bracket we are in at the time, in order to better manage brackets in later years with higher RMD percentages and/or survivor single status. Some years we might instead do QCDs to bring us down a bracket (I'd really like to do QCDs to a DAF, but that's not allowed in current tax law). A consequence of having substantial taxable investments as well as tax-deferred is another dimension to the system.
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Re: Why you can’t ever touch your Roth

Post by Dregob »

firebirdparts wrote: Mon Dec 06, 2021 9:38 pm I'm kinda shocked at the sheer number of words people were able to use on this.
You read my mind.
RMO87
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Re: Why you can’t ever touch your Roth

Post by RMO87 »

I was lost with the TDA acronym. Tax-Deferred Annuity? T.D. Ameritrade?
randomguy
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Re: Why you can’t ever touch your Roth

Post by randomguy »

RMO87 wrote: Tue Dec 07, 2021 1:36 pm I was lost with the TDA acronym. Tax-Deferred Annuity? T.D. Ameritrade?
Tax deferred account.

The point is simply the the authors statement of spending ROTH last isn't right in general. For specific cases it is. You need to figure out if your case is one where it applies.
Exchme
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Re: Why you can’t ever touch your Roth

Post by Exchme »

I think the summary is that the mathematical difference is akin to the benefits Prof McQ demonstrated for Roth conversions to begin with. It's not just an exponential growth, but each year you get a new term added that is also growing exponentially, and that chain of little terms each getting bigger exponentially and adding a new term each year that will do the same is inherently a faster grower than plain boring old exponential math. And the one thing you never want to do with a fast growing procedure is interrupt it. The argument's power is from its simplicity.

Shame the tax code is so complex that it requires a page full of qualifiers to lay bare the faster than exponential heart of the matter.
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Re: Why you can’t ever touch your Roth

Post by Jack&Warren disciple »

McQ wrote: Mon Dec 06, 2021 5:40 pm Spreadsheet Model

The first spreadsheet displayed in this post was created for my prior Roth thread: viewtopic.php?p=6241021 . It can be downloaded from [link removed by admin LadyGeek] github.com (https://github.com/emcquarrie/Roth-conv ... readsheets).

The version shown below assumes tax paid out of conversion funds but a conversion that occurs twelve years prior to the beginning of RMDs. I use that version because at age 75, RMDs have been ongoing for only three years. I don’t want the results dismissed as “the roof expenditure happened so soon after conversion as to be suspect.”

The structure of the spreadsheet is described in posts at the beginning of the prior thread. Briefly, a $100,000 Roth conversion is assumed to be made at some tax bracket, say 22%, leaving $78,000 in the Roth after payment of tax from the conversion. The Roth funds earn the historical US stock return of 10%. A counterfactual TDA holds the $100,000 that it would have been retained in the TDA had no conversion occurred. It too is invested in stocks earning 10%. Note that the “on-camera” TDA reflects only a fraction of the retiree’s total TDA balance; the rest, which may contain bonds or other assets, is off camera. When RMDs begin from the counterfactual they are considered surplus, unneeded for regular spending; hence, the amount remaining after tax is invested in stocks also earning 10%. For simplicity, annual gains in this account are marked to market and taxed at the 15% rate.*

*See the dialogue with marcopolo in the other thread for alternative scenarios.

The original spreadsheet was designed to find the payoff amount and year for any combination of tax rates at conversion and after RMDs begin. (Note blue cells at top). It located the source of any Roth payoff in tax drag on the reinvested RMDs. Tax drag allows a conversion to pay off under constant tax rates and even if future tax rates drop. Column O in light yellow shows how the conversion payoff mounts up year by year, on the assumption of a constant 22% tax rate.

Image

The distinctive feature of that spreadsheet and the underlying SSRN paper was the treatment of RMDs from the counterfactual as surplus and available for reinvestment once tax has been paid. Reminder: the bulk of RMDs occur off-camera, from TDA funds that couldn’t be converted or were never planned for conversion; those RMDs are not surplus and get spent in the normal way. Those off-camera RMDs and Social Security / pension are what get income up to the 22% or 24% tax bracket boundary that applies to the on-camera RMDs.

New spreadsheet

The version constructed for this thread has another top bar entry allowing one to specify the grossed up amount of the roof cost (Column V top). In simple cases this can be done by dividing $50,000 by [1 – tax rate]; in more complex cases the dollar amount of the gross up must be calculated offline and entered. In addition, there is a new column for entering cash payments that might be triggered by the unexpected expenditure (e.g., IRMAA, Column U).

The final change is to construct paired tabs. Everything is identical across the pair except that in the first tab, the roof expenditure is paid from the TDA, grossed up to cover tax; while in the second tab, the straight cash expense ($50,000) is deducted from the Roth.

The original single tab approach was designed to calculate the Roth surplus at any age given specified tax rates. Obviously, the Roth surplus will be “bigger” if the roof is paid for from the TDA, and “smaller” if the roof cost comes out of the Roth.

In the paired tab approach used here, what had been the counterfactual TDA (and reinvested RMDs) is treated instead as a matched account to the Roth. The conceit: you had $200,000 that could have been converted. Being of an empirical mind set, you converted $100,000 and did not convert the other $100,000. You track them both to see how it all turned out. Pity you can’t run the experiment 10,000 times in a Monte Carlo simulator. You suffer from the liability of being mortal and finite, with only one retirement to fund.

With paired tabs, distinguished only by where funds were debited for the new roof, we simply compare “total wealth,” the sum of all accounts on camera. If total wealth at a later date is greater when the Roth account is the one debited, then the conventional wisdom holds: why spend $64,103 on the new roof when you could only spend $50,000?

Because tax drag compounds, it will be important to repeat the evaluation year by year. It is entirely possible that a Roth debit will appear the better approach when evaluated after one year, still looks better by a hair when evaluated after five years, but becomes the worse choice if evaluated ten years out at age 85.

Don’t know yet; that’s why a spreadsheet had to be constructed.

Case #1: New roof, constant 22% tax rate

If Tom and Tam are right at the bottom of the 22% bracket, say $110,000 of income, then the gross up of the $50,000 roof will be exactly $64,102.56, i.e., ($50,000 / [1 - .22]), and this withdrawal will just barely keep them out of the first IRMAA bracket, which in 2021 starts at $176,000.

Here is the tab where the withdrawal is made from the TDA. Note the thick black outline in Column G at age 75. That cell subtracts $64,103 from the TDA balance in addition to that year’s RMD, both subtracted at the end of the year after that year’s appreciation.

Image

Here is the tab where the withdrawal is made from the Roth. Note the thick black outline in Column M at age 75. That cell subtracts $50,000 from the Roth after entering that year’s appreciation.

Image

In tab 2 just shown, in Column T the total wealth on this path is subtracted from total wealth for the TDA path (yellow highlight). Note the age 76 row value in Column T. It is exactly zero. Interpretation: the homeowner using a one-year time frame should be indifferent to paying for the roof from TDA or Roth: the wealth impact after one year is the same.

Explanation: as Celia’s signature line reminds, a dollar in Roth is worth more than a dollar in a TDA. When you have $64,103 in a TDA, subject to tax at 22%, you don’t have that many dollars in after-tax wealth—rather, you have exactly $50,000 in after-tax wealth. Hence, the wealth impact of paying for the new roof by withdrawing $64,103 from the TDA is identical to the wealth impact of withdrawing $50,000 from the Roth…

…in year #1. Under a constant tax rate. With no IRMAA or other complications.

But we agreed in the first post of this thread that the goal was to maximize after-tax wealth in the long run. Not “one year out.”

Next, please examine the age 77 row, Column T in the tab2 image just above. This value is not zero. It is minus $31.65. Taking the money from the Roth produces a slightly worse wealth outcome when evaluated at year 2. And scanning down that column, the wealth impact becomes more and more negative with each passing year, increasing to over $10,000 by age 90 and over $73,000 by age 100. Why?

++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++
Alert! Alert! Alert!
Green eyeshade material follows, of interest only to those who enjoy wearing one
and are by nature skeptical of people like me making claims about what
spreadsheet manipulations can show. If that’s not you, just skip any text in blue.
Verbal summaries follow each bit of arithmetic.
++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++

First we have to trace back the $31.65, the Year Two shortfall in wealth when $50,000 is taken from the Roth instead of $64,103 from the TDA. It is equal to the difference in values for cell K22 across tabs, “tax owed on annual appreciation in the taxable account:” $956.24 minus $924.59. The first value is the tax that would have been owed at age 77 on the reinvested RMDs to that point if no extra TDA withdrawal had been made. The second value is the decreased tax that would be owed at age 77 if the TDA balance had been reduced by $64,103. I will trace these two values further back in a moment.

Interpretation: if we pay for the roof with a grossed-up withdrawal from the TDA, next year’s RMD will be lower because the remaining TDA balance is lower. The after-tax amount of that reduced RMD will be reinvested, but the amount reinvested will also be smaller. Which means the account holding reinvested RMDs will grow at a slower rate. Which means it will generate a lower tax obligation. Which means it will not fall behind the Roth as quickly. That makes the $64,103 withdrawal from the TDA a better choice than the $50,000 withdrawal from the Roth. Better by exactly $31.65 when evaluated at Year 2.

Remember Celia’s signature line: TDA dollars are comparatively worth-less. They carry a heavy tax freight while in the TDA; and even after the first tax haircut on the RMD, the reinvested remainder still carries a tax burden. Better to spend these comparatively worthless funds first and hold on to the more valuable Roth dollars.

Unless those temporal blinders are glued to your head.

Let’s nail down the source of the disadvantage. Why is tax on the reinvested RMDS at age 77, given a $64,103 withdrawal from the TDA at age 75, only and exactly $924.59 rather than the $956.24 that would have been paid if there were no TDA withdrawal? Here is the answer in stages:
1. With the withdrawal to pay for the roof the age 75 ending TDA balance is $64,103 lower;
2. That reduces the age 76 RMD by $64,103 / 23.7 = $2704.75;
3. After paying tax at 22% on that RMD, $2109.70 less is available to invest in the taxable account;
4. Next year, age 77, the return on the taxable account is 10% * $2109.70 lower = $210.97 less;
5. At the 15% rate, tax that would have been owed on that return is reduced by …
6. …$31.65, i.e., from $956.24 to $924.59


Next, it will help to work through one more year, to see why the advantage of paying for the roof from the TDA increases so rapidly.
Here is the right side of tab #2 with some of the values just discussed (columns U and V, age 76).

Image

At an age of 78, the advantage of paying for the new roof from the TDA goes up to $103.79 (Column T). This is the number we want to decompose. Once we have got this straight, it will become apparent why the wealth payoff from leaving the Roth untouched climbs to such high values in later ages: +$10,000 at age 90, +$30,000 at age 95, and +$73,000 by age 100.

How did the advantage of $31.65, in year two at age 77, improve to $103.79 in year three, at age 78?
1. The reduced age 76 RMD, discussed above, had caused the age 76 taxable account to receive $2109.70 less (Column V).
2. The age 77 RMD is also reduced, as will be all future RMDs.
3. The reduced age 77 RMD causes $2309.62 less to be invested in the taxable account.
4. At the end of age 77, the taxable account value is now $4,598.65 behind where it would be if no withdrawal had been taken from the TDA (Column X).
a. But, you will note, that’s more than the sum of the two after-tax RMD reductions ($2109.70 + $2309.62).
b. Rather, $4598.65 = $2109.70 + (1.085 * $2109.70) + $2309.62. In other words, each diminished contribution diminishes the future after-tax value of the taxable account by its after-tax rate of return of 8.5%, and that reduction compounds.
5. With the reduced value of the taxable account, the age 78 appreciation is lower by $459.86, reducing the tax on it by $68.98. Which still doesn’t get us to $103.79.
a. We have to add the compounded value of last year’s dead loss: $31.65 * 1.1 = $34.81.
6. I’ve added two more rows in columns X through Z to give a sense of how things will compound.


In plain English, once the TDA has been debited for the roof, future RMDs are reduced. That means the dollar amount reinvested in the taxable account is also reduced. A smaller taxable account means less tax drag. Less tax drag means a slower decline in value relative to the undisturbed Roth. But the impact of this slower decline grows and grows, because a smaller dollar amount is being added each year, and the reduction in prior years’ additions also compounds, as does the dead loss from prior years’ tax payments.

Don’t touch that Roth!

Next steps

Income has to be very precisely situated at the bottom of the 22% bracket for a tax rate of only 22% to apply to the grossed-up cost of the new roof. If Tom and Tam make more than $112,000 in AGI, then paying for the new roof from the TDA is going to trigger an IRMAA charge (2021 threshold = $176,000). Logically, that IRMAA charge has to be grossed up too as part of the TDA withdrawal; otherwise, it is being partly paid from other funds, which messes up the binary choice being explored here, pay for the roof from TDA or Roth.

With IRMAA the cost of the roof, paid from the TDA, is going to be rather more than $64,103.

Surely it cannot make sense to trigger an IRMAA payment? Won’t it be better, in that event, to withdraw the flat $50,000 for the roof from the Roth?

Next post investigates. But first a reminder: the goal is greater after-tax wealth in the long run.
Don't tell Ed Slott ;-) ! I guess Warren B. was right, ALL INVESTORS HAVE A SILENT PARTNER AND HIS NAME IS Uncle Sam!
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Re: Why you can’t ever touch your Roth

Post by Pinotage »

Dregob wrote: Tue Dec 07, 2021 12:53 pm
firebirdparts wrote: Mon Dec 06, 2021 9:38 pm I'm kinda shocked at the sheer number of words people were able to use on this.
You read my mind.
Same. Wow.

And someone quoted the whole thing to respond.
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Re: Why you can’t ever touch your Roth

Post by 8foot7 »

Apologies for glossing over what appears to be diligent research, but would not “a dollar in Roth is worth more than a dollar anywhere else” have taken care of this question?
randomguy
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Re: Why you can’t ever touch your Roth

Post by randomguy »

8foot7 wrote: Tue Dec 07, 2021 5:55 pm Apologies for glossing over what appears to be diligent research, but would not “a dollar in Roth is worth more than a dollar anywhere else” have taken care of this question?
sure but what is worth more. 64k traditional or 50k Roth. Normally if you pay 14k in taxes on traditional, you would say the same. this article is pointing out that if you invest that money instead of spending it you will have tax drag going forward.
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Re: Why you can’t ever touch your Roth

Post by dodecahedron »

8foot7 wrote: Tue Dec 07, 2021 5:55 pm Apologies for glossing over what appears to be diligent research, but would not “a dollar in Roth is worth more than a dollar anywhere else” have taken care of this question?
If you can't "ever touch" the dollars in your Roth, then why would dollars in your Roth be worth anything?

The OP's title overstates the case. There are more and less tax efficient times to use dollars held in each type of account.
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Re: Why you can’t ever touch your Roth

Post by RetiredCSProf »

I am 73 and continuing to convert to Roth, motivated by passage of the SECURE Act. I will likely still be converting to Roth at age 75. Luckily, I replaced my roof six years ago. If not, another option would be to borrow on my HELOC, which currently has a zero balance. I can borrow from the HELOC at a variable interest rate, currently 3%. I would pay off the loan within 2-3 years from RMD withdrawals.
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Re: Why you can’t ever touch your Roth

Post by McQ »

Thank you all for the quick responses. To respond to some queries, here is the planned series of posts:
1. What if: IRMAA triggered at top of 22% bracket
2. Next: taxpayers in the 24% bracket, pushed through multiple IRMAA, and NIIT triggered too
3. Then: the widow pushed into the 32% and 35% brackets by the roof payment from TDA
4. Last: the social security tax torpedo, Special Edition, with marginal tax rate first at at 49.95% and then at 40.7%

If your particular concern isn’t on that list, please post a query, I’ll see what I can do. Reminder: couple has to be age 75 and already drawing RMDs, to keep the scenarios all consistent.
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Re: Why you can’t ever touch your Roth

Post by McQ »

ball241 wrote: Mon Dec 06, 2021 9:08 pm Hi McQ

BTW, as a consequence of feedback here, the revised paper will target "people whose expected age 72 income, combining RMDs, SS and all other sources, will place them in the 22% to 24% brackets, i.e., retirement income corresponding to $100,000 to $350,000 in 2021 constant dollars."

That will be the case study going forward.

I was reading your previous study and associated forum posts and saw this regarding a future study. Will one be forthcoming for this group?
Hi ball241: thanks for reading. In the prior thread I migrated over time toward cases involving the 22% bracket, departing from the SSRN paper, which had focused exclusively on the 24% bracket. Most of the cases in this thread will also involve the 22% bracket.

An actual revision of the paper to include 22% cases has to wait until I feel I’ve stopped learning new things about Roth accounts. And that isn’t yet, not least because of the feedback here at BH.

If none of the 22% cases in this thread quite covers your interests, please post a specific query.
You can take the academic out of the classroom by retirement, but you can't ever take the classroom out of his tone, style, and manner of approach.
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Re: Why you can’t ever touch your Roth

Post by McQ »

TimeRunner wrote: Mon Dec 06, 2021 9:49 pm Add in California's income tax and it's even more fun. :beer
Interestingly, I think the only effect of being located in California (me too) is to debride dollar outcomes. The CA 9.3% tax bracket is very broad, covering the federal 22%, 24%, 32%, and most of the 35% brackets.

Should be possible to enter 31.3% instead of 22% in the last spreadsheet and get the same pattern of results with different dollar amounts.
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Re: Why you can’t ever touch your Roth

Post by McQ »

Exchme wrote: Tue Dec 07, 2021 3:14 pm I think the summary is that the mathematical difference is akin to the benefits Prof McQ demonstrated for Roth conversions to begin with. It's not just an exponential growth, but each year you get a new term added that is also growing exponentially, and that chain of little terms each getting bigger exponentially and adding a new term each year that will do the same is inherently a faster grower than plain boring old exponential math. And the one thing you never want to do with a fast growing procedure is interrupt it.
Nicely phrased :sharebeer
Shame the tax code is so complex that it requires a page full of qualifiers to lay bare the faster than exponential heart of the matter.
+1
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Re: Why you can’t ever touch your Roth

Post by McQ »

curmudgeon wrote: Mon Dec 06, 2021 10:00 pm It seems like your calculations would also apply in the absence of needing a new roof. Your 75-year-olds should do a $50,000 Roth conversion.
Excellent point, curmudgeon. I was saving it for a bit later☹, but helpful to see readers had already got there. Tip of the hat to tallhair also.

To confirm: the logic of paying for the roof from the TDA is the same as the logic favoring Roth conversions. If a Roth conversion is economically rational for a taxpayer, then a TDA withdrawal that spares Roth funds will be likewise. In the roof example, paying the $64,103 from the TDA is equivalent to boosting the Roth balance by $50,000, same as converting $64,103 would have done (tax paid from the conversion).
You can take the academic out of the classroom by retirement, but you can't ever take the classroom out of his tone, style, and manner of approach.
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Re: Why you can’t ever touch your Roth

Post by McQ »

randomguy wrote: Tue Dec 07, 2021 10:54 am
curmudgeon wrote: Mon Dec 06, 2021 10:00 pm It seems like your calculations would also apply in the absence of needing a new roof. Your 75-year-olds should do a $50,000 Roth conversion.
If the money is going to end up in a taxable account, then yes you should be putting it into a ROTH if the taxes you pay now are the same as latter. The hard part is figuring that out. Does it make sense to pay 800 bucks more in IRMAA to get here? How much value is avoiding bracket creep one a partner dies? What is the effect of 100k/year medical expenses. What will the effect on your heirs when they get this money in terms of taxes. There are a lot of things to think about and some things that help one, don't help another.
IRMAA and widow examples to follow. Hundreds of thousands left in the TDA for medical expenses in any case reviewed.

Spreadsheet will be posted in a bit to allow you and any interested party to vary assumptions as you wish.
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Re: Why you can’t ever touch your Roth

Post by McQ »

firebirdparts wrote: Mon Dec 06, 2021 9:38 pm I'm kinda shocked at the sheer number of words people were able to use on this.
It's true: VERBOSITY R US

More seriously, any paper I would write would be thousands of words longer. The opportunity at BH is to chunk things into (relatively short) posts, to facilitate feedback on specific pieces of the overall idea.

Yah, these are still way longer than the typical BH post, but I'm not a typical BH poster.
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Re: Why you can’t ever touch your Roth

Post by McQ »

8foot7 wrote: Tue Dec 07, 2021 5:55 pm Apologies for glossing over what appears to be diligent research, but would not “a dollar in Roth is worth more than a dollar anywhere else” have taken care of this question?
Yes. But my reading of BH posts is that most have not grasped the implications of “a dollar in Roth is worth more than a dollar anywhere else”
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Re: Why you can’t ever touch your Roth

Post by McQ »

dodecahedron wrote: Tue Dec 07, 2021 11:06 am ...

In addition to all of the above phenomena mentioned by randomguy, what if charitable giving is a substantial portion of your planned annual budget and/or a substantial portion of your intended bequest destination? In that case, some amount of tax-deferred IRA and/or taxable accounts designed to accumulate and hold future donations of appreciated securities as well as possibly CRATs and/or CRUTs and/or DAFs are more cost-effective vehicles for that purpose than Roth accounts.
Indeed, if the expenditure were $500,000 (CCRC membership, say), too much of the TDA balance might be exhausted, relative to charity / LTC etc. needs. That’s why $50,000 was chosen: big enough to transgress various boundaries in the code, especially after gross-up, but small enough to leave many hundreds of thousands of dollars in the TDA.
The irony is that the OP's professional career was in part underwritten by generous tax code provisions publicized by the development department of his university.
Could you provide a more specific link? That one took me to the general University Development page, not a specific publicization effort.

Absent that, my priors are that the rise of Silicon Valley, which had fueled the prosperity of Santa Clara’s MBA program from the late 1970s, was ultimately responsible for the generous salary I enjoyed down through the years as a business professor. (The endowment wasn’t very large when I arrived in 1985.)

That, at least, was my takeaway from a brief stint as associate dean in the late 90s, when I had access to school financial statements.
You can take the academic out of the classroom by retirement, but you can't ever take the classroom out of his tone, style, and manner of approach.
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Re: Why you can’t ever touch your Roth

Post by smitcat »

dodecahedron wrote: Tue Dec 07, 2021 6:37 pm
8foot7 wrote: Tue Dec 07, 2021 5:55 pm Apologies for glossing over what appears to be diligent research, but would not “a dollar in Roth is worth more than a dollar anywhere else” have taken care of this question?
If you can't "ever touch" the dollars in your Roth, then why would dollars in your Roth be worth anything?

The OP's title overstates the case. There are more and less tax efficient times to use dollars held in each type of account.
"If you can't "ever touch" the dollars in your Roth, then why would dollars in your Roth be worth anything?"
As in inheritance for heirs in higher tax brackets.
Do you have many other more tax efficient strategies for use in those cases?
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Re: Why you can’t ever touch your Roth

Post by sc9182 »

smitcat wrote: Wed Dec 08, 2021 8:07 am
dodecahedron wrote: Tue Dec 07, 2021 6:37 pm
8foot7 wrote: Tue Dec 07, 2021 5:55 pm Apologies for glossing over what appears to be diligent research, but would not “a dollar in Roth is worth more than a dollar anywhere else” have taken care of this question?
If you can't "ever touch" the dollars in your Roth, then why would dollars in your Roth be worth anything?

The OP's title overstates the case. There are more and less tax efficient times to use dollars held in each type of account.
"If you can't "ever touch" the dollars in your Roth, then why would dollars in your Roth be worth anything?"
As in inheritance for heirs in higher tax brackets.
Do you have many other more tax efficient strategies for use in those cases?
To name a few:
Multiple windows/opportunities for Step-up Basis on "after-tax" assets, such as: Brokerage, Home, and some other asset types
Multiple opportunities to "pass/gift" monies/appreciated-assets to kids (and/or GrandKids/kin) when they are/were still in lower tax-brackets back-when (please don't tell everyone kids/Grandkids are all child-prodigies and had been filing taxes at top-of-their-brackets since their ages 18-20 or 25 and all along)
Tax-write off of Accumulated Depreciation - especially if you maintained rental properties prior to inheritance
529-assets, I suppose (not researched all of 529's intricacies, helping towards generational wealth transfer; but recall seeing posts/threads on this topic)
Maintaining some/limited life insurance (if/as appropriate) - passing mostly tax-free to beneficiaries
Pure hard/cold family Jewelry, Gold, Art etc .. (please check rules/$limits on such)
Asset protection offered/comes-with most of the TDAs (especially assets which sit in ERISA 401Ks, and Rollover IRAs) -- much better/larger-coverage than asset protection of Roth IRAs ..
Let high-tax-bracket kids/kin Disclaim Inherited Assets which are less tax-efficient, instead pass such assets to less-tax-bracket kids/Grandkids - while letting high-tax-bracket kids inherit "tax-free & tax-efficient/stepped-up-basis" assets
Not divorcing (you potentially looking at halving your assets), and/or increasing tax-rates becoming single-filer.
Not re-marrying, potential new spouse could be spendthrift - burning thru assets
Or re-marry into Rich, outlive that spouse - now you potentially have 'more' assets to give-away/pass :-)
Last edited by sc9182 on Wed Dec 08, 2021 9:40 am, edited 6 times in total.
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dodecahedron
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Re: Why you can’t ever touch your Roth

Post by dodecahedron »

smitcat wrote: Wed Dec 08, 2021 8:07 am
dodecahedron wrote: Tue Dec 07, 2021 6:37 pm
8foot7 wrote: Tue Dec 07, 2021 5:55 pm Apologies for glossing over what appears to be diligent research, but would not “a dollar in Roth is worth more than a dollar anywhere else” have taken care of this question?
If you can't "ever touch" the dollars in your Roth, then why would dollars in your Roth be worth anything?

The OP's title overstates the case. There are more and less tax efficient times to use dollars held in each type of account.
"If you can't "ever touch" the dollars in your Roth, then why would dollars in your Roth be worth anything?"
As in inheritance for heirs in higher tax brackets.
Do you have many other more tax efficient strategies for use in those cases?
I guess I interpreted "you" as being a collective, inclusive "you," which includes owners of inherited Roth accounts (who are, unless spousal heirs, of course required to touch their Roth IRAs.)

My heirs presently face lower effective marginal tax rates than I do at this time (though who knows about the future), so I am leery of being 100% committed to the notion that I should never touch my Roth IRA in my lifetime. That said, I have a large taxable account (over half my portfolio) with many holdings in taxable that could be liquidated with minimal tax cost, so the issue of whether or not to touch my Roth accounts is not salient right now. Funds for things like new roof and other major home repairs are coming from taxable, not tax-deferred nor Roth.
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winterfan
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Re: Why you can’t ever touch your Roth

Post by winterfan »

Our plan is to use our Roths last if we can. My spouse and I have an age gap and we may have to manage income for the ACA. He will be on Medicare, but I won't be eligible for a while. Also, the odds of me being a widow are greater statistically, so it's probably best to spend down his larger IRA. I would like to do some Roth conversions since our tax deferred accounts are much higher than our Roths. It's hard to plan since it will be a while until we have an empty nest and my husband still has no clue when he plans on retiring.
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dodecahedron
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Re: Why you can’t ever touch your Roth

Post by dodecahedron »

sc9182 wrote: Wed Dec 08, 2021 9:19 am
smitcat wrote: Wed Dec 08, 2021 8:07 am
dodecahedron wrote: Tue Dec 07, 2021 6:37 pm
8foot7 wrote: Tue Dec 07, 2021 5:55 pm Apologies for glossing over what appears to be diligent research, but would not “a dollar in Roth is worth more than a dollar anywhere else” have taken care of this question?
If you can't "ever touch" the dollars in your Roth, then why would dollars in your Roth be worth anything?

The OP's title overstates the case. There are more and less tax efficient times to use dollars held in each type of account.
"If you can't "ever touch" the dollars in your Roth, then why would dollars in your Roth be worth anything?"
As in inheritance for heirs in higher tax brackets.
Do you have many other more tax efficient strategies for use in those cases?
To name a few:
Multiple windows/opportunities for Step-up Basis on "after-tax" assets, such as: Brokerage, Home, and some other asset types
Multiple opportunities to "pass/gift" monies/appreciated-assets to kids (and/or GrandKids/kin) when they are/were still in lower tax-brackets back-when (please don't tell everyone kids/Grandkids are all child-prodigies and had been filing taxes at top-of-their-brackets since their ages 18-20 or 25 and all along)
Tax-write off of Accumulated Depreciation - especially if you maintained rental properties prior to inheritance
529-assets, I suppose (not researched all of 529's intricacies, helping towards generational wealth transfer; but recall seeing posts/threads on this topic)
Maintaining some/limited life insurance (if/as appropriate) - passing mostly tax-free to beneficiaries
Pure hard/cold family Jewelry, Gold, Art etc .. (please check rules/$limits on such)
Asset protection offered/comes-with most of the TDAs (especially assets which sit in ERISA 401Ks, and Rollover IRAs) -- much better/larger-coverage than asset protection of Roth IRAs ..
Let high-tax-bracket kids/kin Disclaim Inherited Assets which are less tax-efficient, instead pass such assets to less-tax-bracket kids/Grandkids - while letting high-tax-bracket kids inherit "tax-free & tax-efficient/stepped-up-basis" assets
Not divorcing (you potentially looking at halving your assets), and/or increasing tax-rates becoming single-filer.
Not re-marrying, potential new spouse could be spendthrift - burning thru assets
Or re-marry into Rich, outlive that spouse - now you potentially have 'more' assets to give-away/pass :-)
Very resourceful list. That last strategy reminded me of the intriguing notion of an infinite sequence of surviving spouses remarrying younger spouses who outlive them ad infinitum, all of them dutifully following the OP's admonition to "never touch" their Roth IRAs.
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dodecahedron
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Re: Why you can’t ever touch your Roth

Post by dodecahedron »

McQ wrote: Tue Dec 07, 2021 10:37 pm
dodecahedron wrote: Tue Dec 07, 2021 11:06 am ...

In addition to all of the above phenomena mentioned by randomguy, what if charitable giving is a substantial portion of your planned annual budget and/or a substantial portion of your intended bequest destination? In that case, some amount of tax-deferred IRA and/or taxable accounts designed to accumulate and hold future donations of appreciated securities as well as possibly CRATs and/or CRUTs and/or DAFs are more cost-effective vehicles for that purpose than Roth accounts.
Indeed, if the expenditure were $500,000 (CCRC membership, say), too much of the TDA balance might be exhausted, relative to charity / LTC etc. needs. That’s why $50,000 was chosen: big enough to transgress various boundaries in the code, especially after gross-up, but small enough to leave many hundreds of thousands of dollars in the TDA.
The irony is that the OP's professional career was in part underwritten by generous tax code provisions publicized by the development department of his university.
Could you provide a more specific link? That one took me to the general University Development page, not a specific publicization effort.
The sidebar on the page I linked lists a number of strategies and vehicles I mentioned (charitable IRA donations, charitable annuity trusts, DAFs, etc.) and following the links from that page goes to illustrative examples like this case study. It is clear that the development department is happy to discuss tax-efficient giving strategies individually tailored to the particular circumstances of prospective large donors. Harvard (whose efforts are of course much greater in scale) describes their process in more detail here, but my impression in talking to a number of development officers at a variety of institutions over the years is that successful fundraising from major donors is done with a great deal of attention to tax efficiency. SCU says they have raised $780 million in their current fundraising campaign.
jhawktx
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Re: Why you can’t ever touch your Roth

Post by jhawktx »

McQ wrote: Tue Dec 07, 2021 9:56 pm here is the planned series of posts:
1. What if: IRMAA triggered at top of 22% bracket
2. Next: taxpayers in the 24% bracket, pushed through multiple IRMAA, and NIIT triggered too
3. Then: the widow pushed into the 32% and 35% brackets by the roof payment from TDA
4. Last: the social security tax torpedo, Special Edition, with marginal tax rate first at at 49.95% and then at 40.7%

:oops:
smitcat
Posts: 13227
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Re: Why you can’t ever touch your Roth

Post by smitcat »

sc9182 wrote: Wed Dec 08, 2021 9:19 am
smitcat wrote: Wed Dec 08, 2021 8:07 am
dodecahedron wrote: Tue Dec 07, 2021 6:37 pm
8foot7 wrote: Tue Dec 07, 2021 5:55 pm Apologies for glossing over what appears to be diligent research, but would not “a dollar in Roth is worth more than a dollar anywhere else” have taken care of this question?
If you can't "ever touch" the dollars in your Roth, then why would dollars in your Roth be worth anything?

The OP's title overstates the case. There are more and less tax efficient times to use dollars held in each type of account.
"If you can't "ever touch" the dollars in your Roth, then why would dollars in your Roth be worth anything?"
As in inheritance for heirs in higher tax brackets.
Do you have many other more tax efficient strategies for use in those cases?
To name a few:
Multiple windows/opportunities for Step-up Basis on "after-tax" assets, such as: Brokerage, Home, and some other asset types
Multiple opportunities to "pass/gift" monies/appreciated-assets to kids (and/or GrandKids/kin) when they are/were still in lower tax-brackets back-when (please don't tell everyone kids/Grandkids are all child-prodigies and had been filing taxes at top-of-their-brackets since their ages 18-20 or 25 and all along)
Tax-write off of Accumulated Depreciation - especially if you maintained rental properties prior to inheritance
529-assets, I suppose (not researched all of 529's intricacies, helping towards generational wealth transfer; but recall seeing posts/threads on this topic)
Maintaining some/limited life insurance (if/as appropriate) - passing mostly tax-free to beneficiaries
Pure hard/cold family Jewelry, Gold, Art etc .. (please check rules/$limits on such)
Asset protection offered/comes-with most of the TDAs (especially assets which sit in ERISA 401Ks, and Rollover IRAs) -- much better/larger-coverage than asset protection of Roth IRAs ..
Let high-tax-bracket kids/kin Disclaim Inherited Assets which are less tax-efficient, instead pass such assets to less-tax-bracket kids/Grandkids - while letting high-tax-bracket kids inherit "tax-free & tax-efficient/stepped-up-basis" assets
Not divorcing (you potentially looking at halving your assets), and/or increasing tax-rates becoming single-filer.
Not re-marrying, potential new spouse could be spendthrift - burning thru assets
Or re-marry into Rich, outlive that spouse - now you potentially have 'more' assets to give-away/pass :-)
None of those are a solution for funds within a larger 401K that are not earmarked for charity.
smitcat
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Re: Why you can’t ever touch your Roth

Post by smitcat »

dodecahedron wrote: Wed Dec 08, 2021 9:28 am
smitcat wrote: Wed Dec 08, 2021 8:07 am
dodecahedron wrote: Tue Dec 07, 2021 6:37 pm
8foot7 wrote: Tue Dec 07, 2021 5:55 pm Apologies for glossing over what appears to be diligent research, but would not “a dollar in Roth is worth more than a dollar anywhere else” have taken care of this question?
If you can't "ever touch" the dollars in your Roth, then why would dollars in your Roth be worth anything?

The OP's title overstates the case. There are more and less tax efficient times to use dollars held in each type of account.
"If you can't "ever touch" the dollars in your Roth, then why would dollars in your Roth be worth anything?"
As in inheritance for heirs in higher tax brackets.
Do you have many other more tax efficient strategies for use in those cases?
I guess I interpreted "you" as being a collective, inclusive "you," which includes owners of inherited Roth accounts (who are, unless spousal heirs, of course required to touch their Roth IRAs.)

My heirs presently face lower effective marginal tax rates than I do at this time (though who knows about the future), so I am leery of being 100% committed to the notion that I should never touch my Roth IRA in my lifetime. That said, I have a large taxable account (over half my portfolio) with many holdings in taxable that could be liquidated with minimal tax cost, so the issue of whether or not to touch my Roth accounts is not salient right now. Funds for things like new roof and other major home repairs are coming from taxable, not tax-deferred nor Roth.
If your heirs are in a lower tax bracket that might be a solution and that is why I specified heirs in higher tax brackets. Whether you have a larger taxable account or not there still needs to be a plan for liquidating the 401K over time.
Whatever is not earmarked for charity will eventually need to be withdrawn one way or another.
The larger the taxable accounts the more problematic the balances in the 401K's.
randomguy
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Re: Why you can’t ever touch your Roth

Post by randomguy »

smitcat wrote: Wed Dec 08, 2021 5:55 pm
If your heirs are in a lower tax bracket that might be a solution and that is why I specified heirs in higher tax brackets. Whether you have a larger taxable account or not there still needs to be a plan for liquidating the 401K over time.
Whatever is not earmarked for charity will eventually need to be withdrawn one way or another.
The larger the taxable accounts the more problematic the balances in the 401K's.
Them getting a 3 million TDA might move them up a couple tax brackets:) In the real world you can use things like asset location to try and shift growth around. With stocks in roth and taxable and bonds in the IRA, It is pretty easy to spend down your IRA if you live to 90. Assuming 1 million at 70, dropping the returns from 10% (2 million at 90) to 4% (700k @90) give vastly different RMD issues. I probably can't spend 164k (nominal) while 66k is probably didn't keep up with inflation...

The key take away from this is that tax drag in taxable hurts. So if you can avoid it, do it. How much to pay for it will be up to your assumptions. You make some reasonable guesses and hope the work out.
sc9182
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Re: Why you can’t ever touch your Roth

Post by sc9182 »

smitcat wrote: Wed Dec 08, 2021 5:55 pm
dodecahedron wrote: Wed Dec 08, 2021 9:28 am
smitcat wrote: Wed Dec 08, 2021 8:07 am
dodecahedron wrote: Tue Dec 07, 2021 6:37 pm
8foot7 wrote: Tue Dec 07, 2021 5:55 pm Apologies for glossing over what appears to be diligent research, but would not “a dollar in Roth is worth more than a dollar anywhere else” have taken care of this question?
If you can't "ever touch" the dollars in your Roth, then why would dollars in your Roth be worth anything?

The OP's title overstates the case. There are more and less tax efficient times to use dollars held in each type of account.
"If you can't "ever touch" the dollars in your Roth, then why would dollars in your Roth be worth anything?"
As in inheritance for heirs in higher tax brackets.
Do you have many other more tax efficient strategies for use in those cases?
I guess I interpreted "you" as being a collective, inclusive "you," which includes owners of inherited Roth accounts (who are, unless spousal heirs, of course required to touch their Roth IRAs.)

My heirs presently face lower effective marginal tax rates than I do at this time (though who knows about the future), so I am leery of being 100% committed to the notion that I should never touch my Roth IRA in my lifetime. That said, I have a large taxable account (over half my portfolio) with many holdings in taxable that could be liquidated with minimal tax cost, so the issue of whether or not to touch my Roth accounts is not salient right now. Funds for things like new roof and other major home repairs are coming from taxable, not tax-deferred nor Roth.
If your heirs are in a lower tax bracket that might be a solution and that is why I specified heirs in higher tax brackets. Whether you have a larger taxable account or not there still needs to be a plan for liquidating the 401K over time.
Whatever is not earmarked for charity will eventually need to be withdrawn one way or another.
The larger the taxable accounts the more problematic the balances in the 401K's.
Strictly say no. What about larger medical/long-term-care expenses where those come from (especially given track record or LTC policies — good luck with that!). Where is location for ‘more’ stable value funds, where is the location for (large $$) asset protection, where is the location for having large chunk of monies if market were to drop 40-50% or more — to afford cushion. All in all, these big-$$ 401k monies could be useful, in-addition-to your $ causes/earmarked for charity. I am not even including the need for large one-time, or living expenses — needing to be met by 401k monies. Don’t even mind large-inflation, which could demand more monies besides your two top pensions and/or maxed-out delayed dual-SS.

Sorry - beg to differ with you, based on large majority of population/BH’er life needs. Then again - each individual circumstances are different- cleaning up 401k/IRAs may work best for you - but not necessarily for most folks out there (*personal finance).

Tax diversification is the key .. but not necessarily suggest all-in/mostly-in for Roths ..
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McQ
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Re: Why you can’t ever touch your Roth

Post by McQ »

dodecahedron wrote: Tue Dec 07, 2021 6:37 pm
If you can't "ever touch" the dollars in your Roth, then why would dollars in your Roth be worth anything?
Yes, Roth conversions resemble a monkey trap in some ways. The tax-free-forever goodie is clearly visible through the hole in the side of the box.

But if the monkey tries to grab the goodie and take it out to consume, the paw holding the goodie cannot extricate from the hole. The monkey is trapped as long as it tries to hold on to the goodie. The goodie has to be dropped and left in the box if the monkey is to escape and live free (=can't ever touch the Roth).

Continuing the metaphor, the fact that a Roth dollar is worth more than a dollar in [anywhere else] means that you can’t spend Roth dollars to the end, defined as either you are dead+10 or your every other account has gone to zero; or if you will, should the TDA balance threaten to drop below your charity/LTC reserve requirements.

I’m not sure all BH Roth converter-contemplators appreciate the monkey trap aspects, hence this thread.

And I do delight in the irony of the juxtaposition between this thread and my prior thread:
1. Your Roth conversions always pay off, in the long run
2. But, maybe not for you (as in, you intended the Roth conversion to be your legacy, did you not?)
You can take the academic out of the classroom by retirement, but you can't ever take the classroom out of his tone, style, and manner of approach.
deserat
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Re: Why you can’t ever touch your Roth

Post by deserat »

McQ wrote: Tue Dec 07, 2021 9:56 pm Thank you all for the quick responses. To respond to some queries, here is the planned series of posts:
1. What if: IRMAA triggered at top of 22% bracket
2. Next: taxpayers in the 24% bracket, pushed through multiple IRMAA, and NIIT triggered too
3. Then: the widow pushed into the 32% and 35% brackets by the roof payment from TDA
4. Last: the social security tax torpedo, Special Edition, with marginal tax rate first at at 49.95% and then at 40.7%

If your particular concern isn’t on that list, please post a query, I’ll see what I can do. Reminder: couple has to be age 75 and already drawing RMDs, to keep the scenarios all consistent.
McQ - the title of this is a misnomer, as I do intend to touch my Roth if needed. I file single. I have modeled (not quite as extensively as you) Roth conversions up to age 63 for my particular situation (want to avoid initial IRMAA jolt, however, there will be IRMAA downrange if the laws aren't changed) and surprisingly enough, the overall tax hit is lowest at the mid-range (32%), ie, I save several tens of thousands of dollars if I convert up to that tax bracket over extending conversions over the 24%bracket or taking the huge hit at 35% or 37%. I have one pension now, one at 60 and then SS (currently planned to take at 70). If I convert all of my tax deferred to Roth by age 63, then my taxable income (assuming they don't change the Roth laws....) is only that from my pensions and smaller after tax investments. That means I will be touching my Roth for any resources needed over that which my pensions will cover.

I've noticed you focused mainly on the married brackets (and then subsequent issues with widowhood or divorce as a single bracket). I admire your analysis skills and marvel at how good those married people have it :-)
smitcat
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Re: Why you can’t ever touch your Roth

Post by smitcat »

sc9182 wrote: Wed Dec 08, 2021 6:37 pm
smitcat wrote: Wed Dec 08, 2021 5:55 pm
dodecahedron wrote: Wed Dec 08, 2021 9:28 am
smitcat wrote: Wed Dec 08, 2021 8:07 am
dodecahedron wrote: Tue Dec 07, 2021 6:37 pm

If you can't "ever touch" the dollars in your Roth, then why would dollars in your Roth be worth anything?

The OP's title overstates the case. There are more and less tax efficient times to use dollars held in each type of account.
"If you can't "ever touch" the dollars in your Roth, then why would dollars in your Roth be worth anything?"
As in inheritance for heirs in higher tax brackets.
Do you have many other more tax efficient strategies for use in those cases?
I guess I interpreted "you" as being a collective, inclusive "you," which includes owners of inherited Roth accounts (who are, unless spousal heirs, of course required to touch their Roth IRAs.)

My heirs presently face lower effective marginal tax rates than I do at this time (though who knows about the future), so I am leery of being 100% committed to the notion that I should never touch my Roth IRA in my lifetime. That said, I have a large taxable account (over half my portfolio) with many holdings in taxable that could be liquidated with minimal tax cost, so the issue of whether or not to touch my Roth accounts is not salient right now. Funds for things like new roof and other major home repairs are coming from taxable, not tax-deferred nor Roth.
If your heirs are in a lower tax bracket that might be a solution and that is why I specified heirs in higher tax brackets. Whether you have a larger taxable account or not there still needs to be a plan for liquidating the 401K over time.
Whatever is not earmarked for charity will eventually need to be withdrawn one way or another.
The larger the taxable accounts the more problematic the balances in the 401K's.
Strictly say no. What about larger medical/long-term-care expenses where those come from (especially given track record or LTC policies — good luck with that!). Where is location for ‘more’ stable value funds, where is the location for (large $$) asset protection, where is the location for having large chunk of monies if market were to drop 40-50% or more — to afford cushion. All in all, these big-$$ 401k monies could be useful, in-addition-to your $ causes/earmarked for charity. I am not even including the need for large one-time, or living expenses — needing to be met by 401k monies. Don’t even mind large-inflation, which could demand more monies besides your two top pensions and/or maxed-out delayed dual-SS.

Sorry - beg to differ with you, based on large majority of population/BH’er life needs. Then again - each individual circumstances are different- cleaning up 401k/IRAs may work best for you - but not necessarily for most folks out there (*personal finance).

Tax diversification is the key .. but not necessarily suggest all-in/mostly-in for Roths ..
This post was about Roths having value over time and then the question was raised on the usage of those Roth funds if you did not spend them over a longer period of time.
If your heirs are in higher tax brackets which method other than the Roths are preferred and how does that compare mathmatically.

"What about larger medical/long-term-care expenses where those come from (especially given track record or LTC policies — good luck with that!)."
Covered with medical & LTCi policies.

"Where is location for ‘more’ stable value funds, where is the location for (large $$) asset protection, where is the location for having large chunk of monies if market were to drop 40-50% or more — to afford cushion."
Having reasonable expenses none of this requires a larger amount of funds in low earning accounts - but no one has indicated anywhere that exhausting a 401K is the best approach. Keep plenty in a 401K if you choose but that does not answer how to also best use the Roth's.
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