I have found the interchange in this thread very valuable to help crystalize my thinking around the appropriate metrics and to narrow down my alternatives. I hope this update proves helpful and will allow readers to more quickly parse the discussion and its results.
Key Learnings:
- Start with a well defined understanding of your Roth Conversion Goals
- A robust tool or model is essential for understanding the nuances of your Income, Expenses, Cash-Flow, Taxes, Asset Growth, Asset Location etc. there are a lot of moving parts that need to be considered.
- Conversion planning needs to be an iterative process. Taxes, Asset Growth, Unexpected Death, Inflation, Health issues etc. can all change your plan. Suggest reviewing the plan at least annually to fine tune and align.
- A simple line plot of the Cumulative Taxes Paid serves as a great way to compare various scenarios and to determine how closely Tax Equilibrium is achieved.
- The Widow(er) Tax Penalty is real and you need to understand what if any impact this will have on your Retirement Plans.
- When in doubt follow McQuarrie's Rule of Thumb for conservative Roth Conversions
- Ages: 62 (me), Spouse (61), MFJ, currently retired.
- 2 Pension(s)
- Marginal Brackets (ages 62-71, before RMDs)
- Federal 12% (15% after 2026), SS taxed at 85%
- State 4%
- Portfolio (Taxable 0%, Roth 18%, IRA 82%)
- Provide Resiliency for our retirement to deal with unexpected opportunities or expenses
- Fund LTC needs for my wife (hopefully never needed) from our IRA.
- Inheritance, my Heirs are likely to be in the 12% Marginal Bracket
- Fund Charitable Giving via QCDs and Bequests from our IRA.
- No Conversions
Rejected since it fails the Tax Equilibrium test. - Top of IRMAA Tier0 (Selected Alternative)
The Scenario is very attractive. It will meet my Roth Conversion Goals and is Tax Costs are Lower than IRMAA Tier1-3 or No Conversions. In addition this passes the Tax Equilibrium Test and will deliver a Total Adjusted Portfolio that will meet my Roth Goals - Top of IRMAA Tier1
The scenario is very attractive. Tax Costs are lower as well as Total Adjusted Portfolio Value. OTOH it will meet my Roth Conversion goals. - Top of IRMAA Tier2
The scenario is very attractive. Tax Costs are higher as well as Total Adjusted Portfolio Value. It will also meet my Roth Conversion goals. - Top of IRMAA Tier3
Rejected since it fails the Tax Equilibrium test. - Top of 24% Bracket
Rejected since it fails the Tax Equilibrium test. - Balance AGI
Rejected since it would require Conversions on top of RMDs and comes at a slightly higher Tax Cost (as compared to IRMAA Tier1 or Tier2). - Balance Effective Tax
Rejected since it fails the Tax Equilibrium test.
- Marginal Tax Rates vs. Future Marginal Rates (Fed + CA State)
This is a general useful metric -- it rarely makes sense to pay Higher Taxes now when you can pay Lower Taxes later. This is especially true if you will be leaving the IRA to beneficiaries in a lower Tax Bracket or to Charities. - Tax Equilibrium across Retirement (see Kitces Blog
This is a very useful metric to consider. My approach to using this metric is to plot the graphs of Total Cumulative Taxes paid over time (Fed, IRMAA, NIT, State etc.) and look at the slopes of the lines and any obvious bend points. This will highlight Conversion scenarios that are wasting lower marginal tax space or paying more in taxes than future income years. - Total Tax Adjusted Portfolio Value
This is a very useful metric with some caveats. You need to know the Marginal Tax Rate for each scenario on a Year-by-Year basis for useful results. This makes adjusting the values of an IRA fairly easy. However adjusting the value of the Taxable accounts is difficult to model -- this was not implemented in my Retirement Model. - Value of IRA over time
This can be a useful metric depending on your Retirement goals (e.g. you may want to leave Assets in the IRA):- Self Funding Long Term Care from your IRA
- Charitable bequests from your IRA
- Inheritance by beneficiaries in a lower marginal bracket than you are
- Total Portfolio Value
Not generally a useful metric. It does not properly take into consideration the deferred taxes in the IRA. - Total Taxes paid (Fed +IRMAA + State)
Not generally a useful metric. However it can be used to better understand at what age various scenarios break-even from a taxes paid perspective. My findings showed this was in the 84-88 year old range -- so its a long-term tax arbitrage play. - Return on Investment (Tax Adjusted Portfolio Delta/ Total Taxes Paid Delta (Scenario compared to No Conversions)
I had high hopes for using this as a metric and the more I investigated the less I believed in it. I think it muddied the waters more than it helped clearly identify a solution. - Internal Rate of Return ( Tax Adjusted Portfolio Delta/ Total Taxes Paid Delta (Scenario compared to No Conversions)
I had high hopes for using this as a metric as well and the more I investigated the less I believed in it as well.
Consider starting here first to avoid some confusion.
A special thanks to all of the participants who posted questions, concerns, challenged my thinking and helped generate a useful discussion. I really appreciate the help!
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I have been doing quite a bit of modeling on Roth Conversions with a goal of identifying the most optimal scenario (given the constraints of predicting the future). A bit puzzled on which metrics to use to compare the various scenarios to provide some insights into which are better than others.
What I am seeing is that the various Metrics simply aren't working as an effective tool to make a selection. There is significant variation based on time period (e.g. 71-80 vs. 81-90. I am also getting conflicting signals from the various metrics as to which is the better scenario.
At this point I need some advice on which metric(s) I should really be prioritizing.
Background:
- Current info:
Marginal Brackets (ages 62-71, before RMDs)
Federal 12% (15% after 2026), SS taxed at 85%
State 4%
Scenarios:
1. No Conversions
2. Top of IRMAA Tier2
3. Top of IRMAA Tier3
4. Top of 24% Bracket
5. Balance AGI
6. Balance Effective Tax
Metrics Considered:
- Marginal Tax Rates vs. Future Marginal Rates (Fed + CA State)
- Total Portfolio Value
- Total Tax Adjusted Portfolio Value
- Total Taxes (Fed +IRMAA + State) paid
- Return on Investment (Tax Adjusted Portfolio Delta/ Total Taxes Paid Delta (Scenario compared to No Conversions)
- Internal Rate of Return ( Tax Adjusted Portfolio Delta/ Total Taxes Paid Delta (Scenario compared to No Conversions)
Would appreciate any insights or thoughts on how to make a selection!
Thanks in Advance
WoodSpinner