Am I too old for a Roth?

[QueenIsabella]

Yup, we experienced this when my MIL passed. She was still working, was 64 and had not started making withdrawals from her IRA. My wife's only legal option was to withdraw the money, and pay income
taxes on it. The taxes literally were 50% of the balance.

My mom, on the other hand, retired at 62, and waited until age 70 1/2 when she was required to take minimum distributions. But back then, you were allowed to average YOUR live expectancy with your BENEFICIARY'S life expectancy to reduce the minimum distribution. I don't think you can do that anymore. So when she passed away at age 90, 5 years ago, I had the option of cashing in the IRA and paying taxes on it, or continuing the distributions she has been getting. Those distributions are taxable, but I continued them, and that is the money we use to pay our long term care insurance premiums every year. Thanks mom for the monetary gift that I will continue to get for the rest of my life. And if I have a financial emergency, I can still opt to pay the taxes and case it in. But the investments I have had that IRA in for the past 5 years earning more than the minimum distribution, so I get the money, and the balance continues to grow.

Yeah, I think the rules have changed. Last year, MIL died suddenly--tough to say "unexpectedly", at 86, every day's a gift. But she hadn't taken her 2017 RMDs, so the estate took them, at her rate, which was ~1/6 of the balance. Then for 2018, the IRAs were split, half for DH, half for his brother, and DH's RMDs were based on his life expectancy. He's 55, so it was ~1/30th of the balances. I think the expected time for growth to equal withdrawal rate is about age 75 or so, so we have (hopefully) a couple good decades of growth, and of course, we have our own IRAs, as well. The estate isn't fully settled yet, so we're not doing much of anything, financially, until it is. My biggest issue is, there are SO MANY accounts all over the place, and that will only get worse when one of us dies, so I'd like to consolidate MIL's IRAs into one. MIL was very financially savvy, I know she believed she put the breadcrumbs close together, but the estate stuff has been fairly complicated. I hope to make things easier for my kids when we pass.

 

[tvguy]

Yeah, I think the rules have changed. Last year, MIL died suddenly--tough to say "unexpectedly", at 86, every day's a gift. But she hadn't taken her 2017 RMDs, so the estate took them, at her rate, which was ~1/6 of the balance. Then for 2018, the IRAs were split, half for DH, half for his brother, and DH's RMDs were based on his life expectancy. He's 55, so it was ~1/30th of the balances. I think the expected time for growth to equal withdrawal rate is about age 75 or so, so we have (hopefully) a couple good decades of growth, and of course, we have our own IRAs, as well. The estate isn't fully settled yet, so we're not doing much of anything, financially, until it is. My biggest issue is, there are SO MANY accounts all over the place, and that will only get worse when one of us dies, so I'd like to consolidate MIL's IRAs into one. MIL was very financially savvy, I know she believed she put the breadcrumbs close together, but the estate stuff has been fairly complicated. I hope to make things easier for my kids when we pass.

My dad was diagnosed with cancer in 1965, and passed in 1967. He made sure everything was absolutely in perfect order for my mom. My mom made sure she did the same for me because she saw so many of her friends struggle not only with the loss of a loved one, but with a legal nightmare.. I turned 18 in 1975, and from that point on, everything was in a trust or set up so it immediately transferred seamlessly to me when my mom passed.
Only brief moment of panic came on the day I was closing escrow on the sale of my mom's house. It was in a trust, and the trust was about half a page long and done in 1975. The escrow agent panicked. Said most trusts are usually dozens of pages long. He faxed it over to their lawyer, who called, laughing. He recognized it right away. It was a pre-printed trust that the County Recorders office used to give out and notarize for free, then record. It met all legal requirements, but the County stopped doing that because attorneys objected that the County was cheating them out of the $1,000 they charged on average to prepare a trust!!

 

[runwad]

I think it's good to have a little bit of your money in the different buckets, IRA(taxable), Roth IRA(non taxable).

Who knows what's going to happen with our country and if today's rules will apply tomorrow. Who knows what tax rates are going to be, have you looked at our national debt? Do you think our rates will stay low? Will they change the rules on Roth's and tax them because the country needs the money? Nobody knows?? All we can do is plan as best we can!

With that said we have a little here and a little there. I have been using a Roth as our long term emergency saving account. It's invested at Capital One in a simple savings account that is FDIC insured so no worries over losing any of it https://www.capitalone.com/bank/savings-accounts/ira/

At work I have my 401k split between the traditional 401K and the Roth 401k just to cover my bases.

We are some of the lucky ones who will have pensions when we retire, so I feel we'll be in a higher bracket, but I'm also worried about the tax rates rising and Roth's being taxed some day.

 

[powelweb]

Be aware that, when you do this, you have to pay taxes on the amount converted. That might be obvious to some, but I wanted to be clear on that. Lat year, DH converted $50k from an IRA to a Roth, on the advice of our accountant. It turned out we had a large tax bill in April--ouch! But, we've agreed that the Roth will be the last thing we touch, ever. We hope to leave the money to our kids in 30-something years, plus all the accrued (non-taxable) gains. we might convert more in the future, but we'll have to be ready for the big tax bite.

I was referring to the ability to contribute up to the annual IRA contribution limits- I do agree that any other conversion of prior amounts contributed to a traditional IRA to Roth IRA is a complication transaction that it likely to have tax implication since you are moving money from a pre-tax account to a post tax account, but can have benefits depending on your age and other factors.

As long as you convert the amount annual contribution to the traditional IRA right over to the Roth, there are no taxes due. We usually complete the forms for both transactions (e.g. deposit to the traditional IRA and transfer to the Roth IRA) at the same time) so that Fidelity will then just process the conversion as soon as the funds are cleared from the deposit.

 

[QueenIsabella]

Why would there be no taxes due for an immediate conversion? Conversion (from pre-tax to post-tax) is conversion. Roths are funded with post-tax dollars, regardless. What am I missing? Seriously, if there's a loophole where we could pay less taxes, I want to know!

 

[drnp]

Why would there be no taxes due for an immediate conversion? Conversion (from pre-tax to post-tax) is conversion. Roths are funded with post-tax dollars, regardless. What am I missing? Seriously, if there's a loophole where we could pay less taxes, I want to know!

Queen, what that may be referring to is if the traditional IRA contribution was made with after tax money, but wasnt able to be put into a Roth because of income limitations.
This looohole is how people who earn over the income limit have still contributed to Roth IRAs for years. They simply contribute to a traditional IRA first with after tax dollars then immediately convert to Roth before any gains are had. In that case, you owe no taxes. Not sure about the longevity of this loophole for the future.

 

[QueenIsabella]

Ah, I see. I don't really think about contributing post-tax dollars to an IRA. I know that you can do it, but we've always had 401ks, as well as IRAs, and sometimes enough is enough, KWIM? But I know that not everyone has a 401k, some people need to catch up, etc. And here I thought I was missing some great investing opportunity!

 

[DVCcurious]

I’m a CPA and personal finance expert. I’ve spent a ton of time on the Roth vs traditional and I think the conventional wisdom misses the point. They spend all their time on tax rates and no time on tax code, but I’ll get to that. The answer to “should you Roth?” Is YES! And it has nothing to do with tax rates (well, not 100% to do with tax rates). It has almost everything to do with government freebies!

This is not for all your money, but I’d recommend 25-50% of your retirement should be Roth. The less money you have in retirement the less you should have in Roth. So with 500k I’d do 25% and with 1.5 million I’d do 50%. I’ll get to why in a moment, but as for every rule there is an exception: if a deductible IRA/401k contribution would lower your income in the current year so you qualify for the child tax credit, qualify to deduct student loan interest, etc than do the traditional. The rule is to ALWAYS take the free money.

Now why should you Roth? To get freebies at retirement! Roth withdrawals don’t count as income!

Suppose you retire before age 65. You can’t do Medicare yet and if all your money is pretax and you want a high retirement income you won’t qualify for free Obamacare. But if you have a Roth you simply take pretax money until you hit the Obamacare limit, then Roth withdrawals above that. Then you can have a higher income and still get Obamacare government freebies!

Social security and Medicare are means tested. The more you take out of your pretax 401k the less you social security get. The government is sneaky, so rather than cut the dollars of your Social Security if your income is too high they “tax” it. But it’s the same thing, you get less social security if you take 100k out of your 401k than if you take out 10k. So the solution is to take out pretax money until you hit the social security /Medicare income limits then you Roth withdrawal above that!

The last example is that your retirement expenses are not the same every year. You buy a new car? Use Roth money so you don’t get pushed to a higher bracket. Kids need help with a down payment? Use the Roth.

This is also why you need a paid-for house at retirement . If your house is paid for you don’t need to take IRA withdrawals to make the house payment. Suppose your house payment is 2,000 and you make 75,000. If you have a paid for house you only need to take out 50,000 from your 401k for the same standard of living. You save taxes on that 25k which is at your highest rate. Plus it’ll cost you by pushing you into taxable social security range.

With a paid-for house and 500k in a Roth you can live like a king while the government will only see a $35,000 income from your traditional IRA withdrawals and you pay 0 income tax. With a paid-for house, 750k in a traditional, and 750k in a Roth you can retire at 60 and take 30k out of your traditional and get free Obamacare while paying no income tax. Take another 30k (4% rule) out of your Roth and you got a 60k tax-free income with no house payment and free healthcare! At full retirement age you take your 50k (for a couple) in social security and you have a 110k income, no house payment, and you pay little to no income tax. You will feel like a Rockefeller!

Plus all the other benefits of a Roth that everyone else talks about apply (no RMDs)

 

[QueenIsabella]

DVCcurious--Since you gave such a thorough answer on the Roth, I'd like to ask you another question, a little OT, if you don't mind: do you see a point in the future where the government realizes what they've done with the Roth, and decides to tax withdrawals? What I mean is, as more people use Roths, and make all those lovely, tax-free withdrawals down the line--I have a tough time believing that the government is going to just let those income streams go by forever. They said they'd never tax Social Security--and they did. This is my biggest concern with Roths--you do all this advance planning, thinking you got a great deal on them, but then the government changes the rules. Your thoughts?

 

[teller80]

I’m a CPA and personal finance expert. I’ve spent a ton of time on the Roth vs traditional and I think the conventional wisdom misses the point. They spend all their time on tax rates and no time on tax code, but I’ll get to that. The answer to “should you Roth?” Is YES! And it has nothing to do with tax rates (well, not 100% to do with tax rates). It has almost everything to do with government freebies!

This is not for all your money, but I’d recommend 25-50% of your retirement should be Roth. The less money you have in retirement the less you should have in Roth. So with 500k I’d do 25% and with 1.5 million I’d do 50%. I’ll get to why in a moment, but as for every rule there is an exception: if a deductible IRA/401k contribution would lower your income in the current year so you qualify for the child tax credit, qualify to deduct student loan interest, etc than do the traditional. The rule is to ALWAYS take the free money.

Now why should you Roth? To get freebies at retirement! Roth withdrawals don’t count as income!

Suppose you retire before age 65. You can’t do Medicare yet and if all your money is pretax and you want a high retirement income you won’t qualify for free Obamacare. But if you have a Roth you simply take pretax money until you hit the Obamacare limit, then Roth withdrawals above that. Then you can have a higher income and still get Obamacare government freebies!

Social security and Medicare are means tested. The more you take out of your pretax 401k the less you social security get. The government is sneaky, so rather than cut the dollars of your Social Security if your income is too high they “tax” it. But it’s the same thing, you get less social security if you take 100k out of your 401k than if you take out 10k. So the solution is to take out pretax money until you hit the social security /Medicare income limits then you Roth withdrawal above that!

The last example is that your retirement expenses are not the same every year. You buy a new car? Use Roth money so you don’t get pushed to a higher bracket. Kids need help with a down payment? Use the Roth.

This is also why you need a paid-for house at retirement . If your house is paid for you don’t need to take IRA withdrawals to make the house payment. Suppose your house payment is 2,000 and you make 75,000. If you have a paid for house you only need to take out 50,000 from your 401k for the same standard of living. You save taxes on that 25k which is at your highest rate. Plus it’ll cost you by pushing you into taxable social security range.

With a paid-for house and 500k in a Roth you can live like a king while the government will only see a $35,000 income from your traditional IRA withdrawals and you pay 0 income tax. With a paid-for house, 750k in a traditional, and 750k in a Roth you can retire at 60 and take 30k out of your traditional and get free Obamacare while paying no income tax. Take another 30k (4% rule) out of your Roth and you got a 60k tax-free income with no house payment and free healthcare! At full retirement age you take your 50k (for a couple) in social security and you have a 110k income, no house payment, and you pay little to no income tax. You will feel like a Rockefeller!

Plus all the other benefits of a Roth that everyone else talks about apply (no RMDs)

This is AMAZING advice, thank you . Do you live in Ohio so I can make an appointment with you lol?

Another question - I'm wondering if I should convert to Roth since the tax rate is lower now than when I put the money away?

 

[tvguy]

DVCcurious--Since you gave such a thorough answer on the Roth, I'd like to ask you another question, a little OT, if you don't mind: do you see a point in the future where the government realizes what they've done with the Roth, and decides to tax withdrawals? What I mean is, as more people use Roths, and make all those lovely, tax-free withdrawals down the line--I have a tough time believing that the government is going to just let those income streams go by forever. They said they'd never tax Social Security--and they did. This is my biggest concern with Roths--you do all this advance planning, thinking you got a great deal on them, but then the government changes the rules. Your thoughts?

You mean, what if Congress does to Roth IRA's what they did in the early 1980's with traditional IRAS?
I graduated from College in 1979 and entered the work force then, and opened my first IRA in the first quarter of 1980 for the 1979 tax year.

According to the paperwork I got in 1979 I could withdraw money from my IRA WITHOUT PENALTY for:
1)Medical bills
2) Tuition for you or your child
3) Purchasing a primary residence
4) Buying a car.

Somehow that changed over the years!

 

[tvguy]

This is also why you need a paid-for house at retirement . If your house is paid for you don’t need to take IRA withdrawals to make the house payment. Suppose your house payment is 2,000 and you make 75,000. If you have a paid for house you only need to take out 50,000 from your 401k for the same standard of living. You save taxes on that 25k which is at your highest rate. Plus it’ll cost you by pushing you into taxable social security range.

With a paid-for house and 500k in a Roth you can live like a king while the government will only see a $35,000 income from your traditional IRA withdrawals and you pay 0 income tax. With a paid-for house, 750k in a traditional, and 750k in a Roth you can retire at 60 and take 30k out of your traditional and get free Obamacare while paying no income tax. Take another 30k (4% rule) out of your Roth and you got a 60k tax-free income with no house payment and free healthcare! At full retirement age you take your 50k (for a couple) in social security and you have a 110k income, no house payment, and you pay little to no income tax. You will feel like a Rockefeller!

Man, I can NOT emphasis how important it is to resist the temptation to take equity out of your house. The lady across the street is 68. She and her husband both worked full time and had a good income, but they kept taking equity out of their house. He died unexpectedly 2 years ago. She has been in the house 39 years now, and owes $20,000 MORE than they paid for the house, and is straddled with a house payment that is killing her without his income. Another neighbor should his house last year, he owned $40,000 more than he paid for the house. He could not afford to stay in the house. Fortunately, he was to sell it for $250,000 more than he owed.

 

[QueenIsabella]

You mean, what if Congress does to Roth IRA's what they did in the early 1980's with traditional IRAS?
I graduated from College in 1979 and entered the work force then, and opened my first IRA in the first quarter of 1980 for the 1979 tax year.

According to the paperwork I got in 1979 I could withdraw money from my IRA WITHOUT PENALTY for:
1)Medical bills
2) Tuition for you or your child
3) Purchasing a primary residence
4) Buying a car.

Somehow that changed over the years!

I don't remember that, specifically. I do know that, in 1985, as a 21yo engineer with her first real job, I was flummoxed by the 401k option--nobody had ever clued me in (whaddya mean, they take money out before it's taxed...and match it...and put it away for retirement? Sounds like a scam!) Luckily, I figured I'd glom on to this "too good to be true" option.

As to the paid-for house thing--I 100% agree. It seems like every single story you read about people struggling in retirement, they've lived in their house for decades, but still hold a big mortgage. I've told DH, whenever he decides to retire, I want the mortgage to be paid off first. Could be the week before, I'm good, but I don't want that hanging over us. It's likely that, once his mom's estate is settled, we'll pay off the mortgage then. It might not be the most glamorous use of an inheritance, but we'll be sleeping soundly at night.

 

[1st*toright]

As to the paid-for house thing--I 100% agree. It seems like every single story you read about people struggling in retirement, they've lived in their house for decades, but still hold a big mortgage. I've told DH, whenever he decides to retire, I want the mortgage to be paid off first. Could be the week before, I'm good, but I don't want that hanging over us. It's likely that, once his mom's estate is settled, we'll pay off the mortgage then. It might not be the most glamorous use of an inheritance, but we'll be sleeping soundly at night.

Your point about holding off on paying off the house is a good one - if we run into an inflationary period, which seems reasonably likely, having a home loan at the rates we've been seeing for the past few years could be a serious asset. If your home loan is at 3% or 4%, and we see bank interest rates grow (I know, we have a ways to go before it would be higher than 3 or 4), the cash that didn't get paid towards your home loan could be making you a better return - without a lot of risk or factoring in the potential tax benefits of mortgage interest (fewer people will get that benefit with the higher standard deduction and other limitations). Even now, depending on your risk tolerance and time horizon, investing can be a better use of cash than paying off your house. If you can get to the point where you have a mortgage sinking fund hanging out somewhere are a higher rate than your loan, thats the best spot to be in. Flip side of this is that people that have been relying on refinancing and taking cash out of their house will find it much harder to sustain if interest rates keep edging up.

But, I totally get that the peace of mind of not having a mortgage payment at all is worth a lot!

 

[DVCcurious]

DVCcurious--Since you gave such a thorough answer on the Roth, I'd like to ask you another question, a little OT, if you don't mind: do you see a point in the future where the government realizes what they've done with the Roth, and decides to tax withdrawals? What I mean is, as more people use Roths, and make all those lovely, tax-free withdrawals down the line--I have a tough time believing that the government is going to just let those income streams go by forever. They said they'd never tax Social Security--and they did. This is my biggest concern with Roths--you do all this advance planning, thinking you got a great deal on them, but then the government changes the rules. Your thoughts?

The government will never tax Roth withdrawals.

There are two reasons I believe this and they are both political:

First: Roth IRAs were first available in 1998. The government allowed people to make conversions from traditional IRAs to Roth and spread the taxes over 1998 and 1999. And guess what? A ton of people did! And the government got billions of dollars in extra taxes! And, thanks to the Roth tax haul and dot com bubble tax haul, Clinton got credit for balancing the budget! And everyone was happy!

Remember that multiplication gives the same answer regardless of the order. A traditional works like this: invest today x growth rate x tax rate = end cash to you
A Roth goes: tax rate x invest today x growth rate = end cash to you. If your tax today and in the future are the same you get the same result. If the government adds a 4th variable and taxes withdrawals the Roth result will be less than the traditional. If they tax Roth withdrawals then no one will use a Roth and they will go back to traditional.

And the reverse of 1998-1999 will happen. The government will lose tax revenue and the deficit will balloon and people will blame the president at the time.

Second reason: the people with the most money in a Roth are the people who vote (old, upper middle class). There’s no way a politician is going to piss off that demographic.

Now what could happen? I think they will add Roth distributions to AGI and then deduct it to calculate taxable income, like how you have AGI then deduct your mortgage interest and taxes to determine taxable income. This way your Roth isn’t taxable, but the distributions are used in the calculation to restrict your social security and Medicare.

 

[QueenIsabella]

You make excellent points, but I wouldn't put anything past the government. I think over the next 20 years or so, there's going to be a lot of people making withdrawals--you know, as the boomers retire. And it's so, so difficult for politicians to pass up a revenue stream. I definitely could see them using Roths as a way to restrict SS/Medicare--those programs have their own funding issues, and that might be more palatable to the general public. You know, the ones who keep calling SS a "government handout", like we haven't been forced to contribute to it for the past 40 years or so (depending on your age).