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Timestamps:
0:00 – The Best Roth Conversion Timing Strategy in 2023
0:11 The Normal Roth Conversion Process
1:22 Timing Strategy #1 – The Most Common Strategy
2:38 Timing Strategy #2
3:22 A Common, But Wrong, Objection
5:13 Timing Strategy #3 + #4
5:58 Timing Strategy #5 – The Safeguard Method
7:06 A Drawdown Method Example
8:22 The Historical Results
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Watch This Before Roth Converting in 2023… | Roth Conversion Timing (Part 1)
Converting your traditional retirement savings into a Roth IRA can be a strategic financial move that offers a range of benefits. Roth conversions allow you to enjoy Tax-Free growth, avoid Required Minimum Distributions (RMDs), and leave a tax-free inheritance to your beneficiaries. However, timing is crucial when it comes to Roth conversions, and the year 2023 may hold some key considerations.
Before we delve into the intricacies surrounding Roth conversions in 2023, let’s briefly understand what a Roth conversion entails. A Roth conversion is the process of transferring funds from a traditional IRA or 401(k) account into a Roth IRA. This conversion is typically a taxable event, as you will need to pay income taxes on the amount converted. However, the long-term benefits often outweigh the short-term tax liabilities.
2023 poses a unique situation due to potential changes in tax legislation. There has been talk of increasing tax rates, especially for higher-income earners, as well as potential changes to capital gains taxes. Consequently, experts predict that 2023 may witness an increase in tax rates, making it a crucial year to consider Roth conversions.
One key factor to consider is your expected taxable income for 2023. If you anticipate a decrease in income compared to previous years, it may be wise to delay your Roth conversion until later. By converting in a year with lower income, you may benefit from a lower tax bracket, resulting in a reduced tax liability.
On the other hand, if you anticipate that your taxable income will increase substantially in the future, 2023 may be an opportune time to convert. By doing so, you can lock in the current tax rates, potentially avoiding higher taxes in the coming years.
Additionally, changes in the tax code may eliminate certain tax deductions or impose limits on deductions. If you anticipate losing deductions that significantly reduce your tax liability in the future, it might be advantageous to convert in 2023 to capitalize on the existing deductions available.
Moreover, the potential changes to capital gains taxes might make 2023 an ideal year for Roth conversions, especially for individuals with substantial investments subject to capital gains tax. By converting these assets into a Roth IRA, you can potentially shield them from future capital gains tax increases, allowing for tax-free growth in the Roth account.
In conclusion, timing plays a crucial role in maximizing the benefits of a Roth conversion, and 2023 may be an opportune year to consider converting your traditional retirement savings into a Roth IRA. Factors such as expected taxable income, potential changes to tax rates, deductions, and capital gains taxes should all be carefully evaluated before making a decision.
Stay tuned for part two of this article, where we will explore additional factors to consider when deciding whether to proceed with a Roth conversion in 2023, helping you make an informed financial decision.
Im still questioning the time of end of year vs start. Youre giving the start of year a 1 year head start. To be equal the end of year would be made at the end of December Before year 1. Its now July if I decided to start making conversions, theres no benefit to waiting till after Jan 1st. Also, Im not waiting till December 2024, Id make the conversion Dec 2023.
I need advice on minimizing rmds I want to take s s at 65 I only have about $110000 in traditional ira should I do $40000 roth conversion each year with little income each year keep the last $ in traditional ira?
Little confused here, maybe someone can help. Even if you do an end-of-year conversion, wouldn't your money still be invested in the market and growing under your tax-deferred account?
Pretty interesting. I wonder if the market tanks a certain amount, should you increase your conversions because even though you're in a higher tax bracket, the amount of the discount can't be passed up. Imagine if the covid crash of 2020, somewhere near the bottom, someone had done a 100% IRA conversion. That would have been amazing!
Question…just so I'm clear, when you say "10% drawdown trigger", are you referring to the market being down 10% from the start of the year? In other words, do half of my conversion each January 1st and the 2nd half of my conversion if/when the market drops 10%?
And complete my Roth Conversion in 5 years for optimal results?
Thank you for your time and the video.
how is large is large?
I am not convinced that you have looked at the whole picture. It seems that you are looking only at the money going into the Roth account. I believe that you also have to look at the traditional IRA out of which the Roth conversion money is coming from. For example, if you are going to convert $500k over 5 years at $100k per year, then you have to include the traditional IRA initially worth $500k in the complete analysis.
These are not apple to apple comparison. For the end of year strategy, only $400k was converted vs $500k for the beginning of year and split strategies. Of course, the end values for the latter 2 strategies are higher. The ROI for the end of year strategy is higher.
Just remember in a conventional retirement account the gummint will require you make RMDs wether you want to or not.
Can you discuss how converting in January would affect when estimated taxes are due?
Agreed with your numbers, but to complete the picture, you need to add the performance of the 401k you draw money from. Together, they show the gain/loss
How about no conversions and understand that your retirement income going to be significantly less, thus much less tax burden. So plan D is forget about Roth conversion altogether.
Timing of estimated tax payments? Is this included in your analysis? At what rate?(i.e, time value of the tax money at same rate as market. )
Isn't this just effectively market timing and you'd get even better results with option #2 rather than #5 if you have no idea how things are going to turn out?
Ok I've pondered this for some time. For the audience here's another way to think about this. When you withdraw for a conversion the withdraw hits you as taxable income so 1) How much additional taxable income are you willing to take on in a given year? 2) You will be taxed the same if you withdraw for the conversion in month 1 or month 12 – same tax. 3) We have to assume that your Roth is going to be invested in nearly an identical portfolio as Traditional/401 was, so that converted (now Roth) money in going to grow tax free, so its better to grow tax free in a Roth for 12 months than grow all year as taxable (albeit deferred) for 12 months in Traditional or 401k.. The sooner you get it under tax free growth conditions, the better – in theory. Safeguard ran the numbers and found that in order to catch as many bottoms in the year as possible you should 1) dollar cost average your money out from Trad to Roth unless 2)you hit a real good -10 percent or greater market slump in which case you should pull out about as much as you're willing to be taxed on once that condition is met
Good information, but wouldn’t an even better strategy be, if you expected a 10% draw down in the market each year, to just wait for that 10% drawdown and then put the full 100,000 in? In the case of 2023, that might be during the Feds’ next interest rate increase. It might cause a temporary 10% decrease in the stock market.
So what if the drop never happens? Just an end of year one happens then?
My conversion from traditional to Roth will also result in flipping from total bond to total market – and flipping total market to total bond in equal amounts in my taxable account (to maintain my asset allocation). Wouldn't this arrangement mean that the timing is less of an issue? Because bonds are less volatile (so the potential drawdown is less), and I'm doing the opposite conversion in my taxable account anyway.
Do you mention or consider "In-Kind" conversion of assets? Can be extremely powerful. Especially when you can pick which assets to convert and not disrupte your overall asset allocation.
Nice analysis. What impact will the end of the Trump Administration tax changes (ending 2025?) have on timing to covert? Specifically, would it be better to accelerate and convert as much as possible before those tax benefits end?
In your chart comparing end of year to start of year conversions, the Roth IRA ends up with an additional $26k with start of year conversions. But with end of year conversions, the tIRA ends up with an additional $26k. You don’t gain that amount, you gain the tax costs on that amount, which is much less.
I appreciate your diligence on the concepts, but disagree slightly with the math. Because the concept illustrates a conversion to a Roth IRA, we can assume any initial dollars are pre-tax dollars in a retirement account (IRA, SEP, 401K, etc….). For math continuity, this original IRA should be illustrated to grow tax-deferred at the Roth IRA rate. On the COMMON MISTAKE ILLUSTRATION, both strategies convert $400,000 at $100,000 annually over 4 intervals. However, the unconverted IRA value is not calculated at the end for either strategy. For simplicity, I assumed each strategy began with $400,000 in an IRA, and calculated the ending IRA value in each strategy. For "Convert @ Beginning" Strategy, the IRA value is about $13,200 while the "Convert @ Year-End" Strategy is about $39,600. While this reduces the disparity, I do recognize that either IRA value will be taxed on distribution, including future conversions to Roth. My takeaway is that maintaining some flexibility to adjust conversion amounts throughout the tax year seems prudent.
I don't get why you would convert just take out what you need as income exactly when you need it.
How does tax work with a conversion? Are you on the hook for taxes on the amount that you convert?
Don’t you have to wait 5 years after the conversion to take the money out?
I don’t have Roth IRA can you suggest for people who don’t have Roth IRA
If you slide equities (stocks) from an IRA to a Roth, you lose no growth.
Would you speak about the new proposal that on National Tax on purchases of goods and services and doing away with Income taxes altogether? I assume you will say that it will never happen but even that remote possibility that something like a VAR could be imposed will totally negate the advantages of a Roth over an IRA and we will all be kicking ourselves for doing the conversation and needlessly paying an "income" tax.
If you have a RMD doesn't that have to be withdrawn before doing a ROTH conversion? How would that change your strategy?
Great video! I appreciate your content.
I'm playing a different game. What this example does in a single year takes me 5 but not a penny of tax. I've been at this for 7 years with maybe another decade or so, perhaps a little more, depending on future returns, to go. Still about a decade before RMDs so I'll use the same mechanism to step up the cost basis on our taxable investments.
I'd just add that what time of the year you do the conversion(s) may trigger an 'underpayment penalty'. Even if you make an estimated payment in January of the following year for the amounts you've converted. If you make estimated payments the same day you do the conversion even, you may have to look at form 2110 and see if you can use 'annualized income' strategy for what can be considered varying rate of income for the year. May also apply to state income taxes if your state has such.
If I understand correctly there’s not much in this video about how to figure how much to convert in any single year. It’s an optimization problem: maximize account balances total at some point in the future, assuming a dollar in a non-Roth IRA is worth less than a dollar in a Roth IRA, accounting for potential income tax liabilities, potential IRMAA charges, RMDs, etc. etc.
Fantastic work Eric your analysis is so complete and definitively show the worst approach. Keep up the great work and I look forward to the 2 future episodes on this topic.
Key Point I did not hear –
While it appears to be true that with these alternative Roth conversion strategies, you do end up with more growth in your Roth, you are not foregoing the growth with an end of year conversion.
That very same growth still happens in your tax deferred IRA or 401K.
But it is true you have not made as much progress on conversions and you will ultimately pay income tax on the growth that remained inside your tax deferred account.