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Would a Roth Conversion improve my tax efficiency? What happens if I run out of income before I run out of life? Will my spouse be ok? In this study, we’ll take a look at being 63 and retired with $2,000,000 in your 401(k). Should you convert to a Roth IRA?
0:15 Introduction
0:45 Disclaimer
1:20 Case Study
1:45 Plan for Everything
2:16 Current Situation
3:26 Roth Conversions
5:24 401(k) vs Roth IRA
9:45 Tax Brackets
11:37 Impact of RMDs
12:52 Starting Distribution Tax
14:27 How Much to Convert?
15:28 Medicare Part B
17:06 Conclusion
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I’m 63 And Retired With $2,000,000 In My 401(k) Should I Convert To A Roth IRA?
retirement planning is a crucial aspect of anyone’s financial journey. If you’re 63 years old and have $2,000,000 saved in your 401(k) account, you might be contemplating whether it’s a wise move to convert it into a Roth IRA. While there are several factors to consider, such as your tax situation and long-term financial goals, converting to a Roth IRA can potentially offer some benefits.
Firstly, let’s understand the basic difference between a 401(k) and a Roth IRA. A 401(k) is a tax-deferred retirement account, meaning you contribute pre-tax money and pay taxes when you withdraw in retirement. On the other hand, a Roth IRA is funded with after-tax dollars, and qualified withdrawals are tax-free. Therefore, converting to a Roth IRA involves paying the income tax on your current 401(k) balance upfront, potentially allowing for tax-free growth in the future.
The decision to convert to a Roth IRA rests on several factors, including your current and future tax brackets. Converting your entire 401(k) balance to a Roth IRA in a single year may push you into a higher tax bracket due to the significant amount involved. Therefore, it might be more strategic to convert smaller portions over several years, optimizing taxes and potentially reducing your tax burden.
Since you are already retired, your income is likely lower than during your working years. This could be an opportunity to convert some of your 401(k) balance to a Roth IRA at a lower tax rate. Careful tax planning is crucial in this case, as you would want to remain in a manageable tax bracket while taking advantage of the lower taxes in retirement.
Additionally, if you don’t anticipate needing the money in your Roth IRA during your lifetime, converting to a Roth IRA can offer significant benefits for your heirs. Roth IRAs provide the unique advantage of tax-free growth and withdrawals for beneficiaries, ensuring a more tax-efficient transfer of wealth to your heirs.
Another factor to consider is the potential for future tax rate increases. If you believe that tax rates will rise in the future, converting to a Roth IRA now may prove to be beneficial in the long run. By paying the taxes upfront, you can shield your savings from potential higher tax liabilities in the future.
However, it’s important to note that converting to a Roth IRA isn’t suitable for everyone. If you anticipate needing to tap into your retirement savings in the short term, converting to a Roth IRA may not be the best option. Withdrawing funds from a Roth IRA within the first five years of conversion may incur penalties and taxes. Adequate emergency savings and a separate taxable account should be available to cover short-term financial needs.
In conclusion, the decision to convert your $2,000,000 401(k) to a Roth IRA requires careful consideration of various factors, including current and future tax rates, your financial goals, and emergency savings. Consult with a financial advisor or tax professional to assess your unique situation and determine the most suitable course of action. A comprehensive analysis of your tax situation and long-term goals will help you make an informed decision regarding a potential Roth IRA conversion.
UPDATE: After this video was recorded, The SECURE 2.0 Act passed, raising the RMD age from 72 to 73 years. This means this plan would benefit from an additional year of growth before required distributions begin.
Good for you!
Excellent presentation and advice. I am a CPA and tax professional. This is an excellent plan. An additional benefit of this plan is that since they don't need the 401(k) money, keeping the growth sheltered. If they are taking the RMD into income and they don't need the cash and they reinvest it, that is all taxable income as well. If they follow your advice of converting over time, they have 2 options to pay the taxes out of the 401(k) through withholding or pay it out of their $500,000 they have in the bank. The benefit of paying the taxes with current cash is that a greater amount can grow tax free.
Great analysis
Does tax bracket base on the total of pension and 401k? Or pension and 40.1k have different tax bracket?
The content I've been looking for, thanks for the video.
Does one have to add state tax to the conversions? At around 4.8 percent (Colorado) the goal would be under 30 percent instead of 25.
very unrealistic scenario laid out there. i've read only 5% of americans have more than 1 million in their 401k at age 62, let alone 2 million along w/ all the other assets shown.
Wow – great information here. Subbed.
With all of that white hair at only 63,buying a solid gold casket would be more suitable.
My tax preparer said it is against the rules to take money out of an IRA and put it into a Roth IRA. He said the 1099div and 1099int from my IRA are not eligible. He said I must be working and receiving 1099s from income on that work. I actually wanted to do this.
It is important to make your large conversions before getting into Medicare as the Medicare penalties can be rather severe. This needs to be considered.
There is talk of forcing you to withdraw from your roth when it goes over $2 million. It is too good of a deal, tax the rich. I have done roth conversions for 16 years always staying under the medicare surcharge. If possible I did them when the market tanked. What I learned is don't over save and don't save in a tradition 401k or ira. Or you will pay taxes through the nose and loose benefits. And how about when they base your social security and medicare on your MAGI.
"We have a 63 year old who is retired, who has accumulated a 'pretty large sum" in their 401k of $2,000,000". As the median total retirement savings in The US at the age of retirement is just $16,000 per household, I would editorialize $2,000,000 as a bit more than a 'pretty large sum'. I would love to see you make a video of the object failures and the lying by the Capitalist Class that convinced Americans to give up their Defined Pension Plans for self directed and funded 401K 'retirement plans', and how this lead to just one more reason why The US has the Second Highest Poverty Rate in the entire First World. Better yet, a video on how to stretch $16,000 thru those golden retirement years would be even better.
One other reason to consider converting to a Roth IRA sooner is that the probability that both spouses are still alive past 80 years old drops below 50% (for married couples the same age) and the same income will be taxed at a higher percentage because of the lower thresholds. The 32% income threshold drops from $340k (joint filing) to $170k (single filing). In your example the $190k of income will have a marginal rate of 32% if only one spouse is alive instead of 24% if both spouses are alive.
at 16:00 priceless information regarding Medicare premium wow thank you
Also, I understand what you are doing by comparing tax rates from 2017 and 1981, but don't you have to adjust the tax bracket thresholds for inflation? Maybe I missed that part…
Plus for us, we do not want to leave our children money that has an immediate RMD. That is the clincher for us.
I would say first of all that everyone should know their marginal tax rate. I doubt too many people in the 12% bracket have large IRA balances, but conversion up to a 22% marginal rate seems like a "no brainer". At 22% and 24%, then it conversion should be considered. At 32% and above, it not likely to make much difference IMO.
I would also add that tax tracks have been indexed since the 1980's. And RMD's start at less than 4%. And late life medical expenses can reduce taxable income considerably. And finally, a VAT would erode the value of this strategy, and they are common globally. The future tax environment is uncertain, as is your future income, so it may be wise to not 'put too fine a point on it'.
Why not take out a little out each year to mitigate taxes?
I broke my right leg and right arm three years ago. Since I spent a lot of time in my recliner, I decided to estimate my taxes due over the next 20 years. I was putting as much money in pre-taxed accounts to lower my taxes to the 12% bracket, thinking this was the smart thing to do.
I calculated when my wife & I would take our RMD's, we would be in the 33% bracket; and pay more for Medicare part B & D. What happened to paying less taxes in retirement. I changed our retirement contribution to ROTH at work. I retired 1/29/2022 and my plan is to max out the 24% tax bracket through 2025. Expecting taxes to return to pre-Trump tax rates, I will max out the 25% tax bracket starting 2026 until I take Social Security at age 70.
Had I broken my arm and leg a few years sooner, I would have a lot more money in ROTH today.
PS, bear markets are a great time to do ROTH conversions.
What about the double tax on SS income? How does this change?
Nice explanation. Medicare has a 2 year look back and then will adjust each year – IRMA.
You need to also discuss the widows tax trap. Who ever survives will be destroyed with taxes, convert as much as possible to a Roth so it will tax free for the survivor,
With so much money, it would have been wise to defer SS until 70. Could have consumed some of the 401k until then
So, basically, we don't have a crystal ball to predict what the tax rate will be in the next 10 or 20 years… I'll just leave my 401k alone!
My young wife & I file joint tax returns. We will receive $7,700/month SocSec, & have roughly 3 mil in 401Ks. 1. Is the value of my 55 year old wife's 401K included in my RMD calculation if we file jointly? Or is inclusion of her 401K value delayed until she reaches 75?Since I am 68 & still have a little time for Roth Conversion ; How much should we initially reduced my pre-tax 401K amount by ROTH conversion to minimize income tax & reduce amount of SocSec forced into higher tax brackets? Thanks
3:00 Taxable event when converting.
15:25 Medicare B premiums increase with income taxes, they look back 2 years.
Pre medicare – there is the Affordable Care Act to be concerned about – could a 401K to Roth conversion impact the premium cost for ACA ?
There's another important difference between traditional IRA distributions vs Roth IRA distributions that I don't think was discussed, or if it was I missed it. Because a traditional IRA distribution is taxable income it is included in the Combined Income test for Social Security whereas the non-taxable Roth IRA distribution is not. So, a traditional IRA distribution is not only taxable it can also cause up to 85% of SS to be taxable. The Roth distribution is not taxable and does not cause any increase in taxation of SS. If the person has enough other taxable income aside from IRA distributions that their SS is taxed at 85% anyway then that doesn't really matter but if not it can be a significant difference in total taxation between the two scenarios.
Don't you have to have EARNED income in order to contribute to a ROTH? The answer is YES. In this presentation it's all Retirement income. This means the IRS will penalize the hell out of you if you follow his advice. Not an expert but I'd sure check with a tax pro before I listened to this gentleman.
At 8:58 you provide your opinion on the likelihood of tax rates increasing in the future (that they will rise), which is certainly one factor to consider before doing a Roth conversion. However, you don't back this hypothesis up with any historical statistics. You probably know that historically tax brackets have generally enlarged over time – meaning over time it generally takes more income to hit the same tax percentages. For example, in 2002 MFJ paid 27% over just $46.7K and today (2022) MFJ pays 24% over $178.15K and 32% over $431.9K! (Identical percentages are not maintained but you see the clear change in the income thresholds required over time.) I would call this tax bracket inflation which actually tilts the analysis toward deferred taxes (401K/IRA) vs paying taxes today for a Roth conversion. Accordingly, your hypothesis doesn't really hold up to the reality of historical tax brackets – in fact, the opposite should be expected for most people. (I haven't looked in detail but I would expect the same effect for all income threshold triggers like Medicare issue as well – we should expect thresholds to rise by the time we actually get to retirement.)
Bottom line is that a Roth conversion turns out to be the right move mostly only for those who end up with significantly more income in retirement than they had while working (enough to outpace even reasonably expected bracket inflation). Kudos to such people but they are rare by definition. Paying more taxes in this situation is a nice problem to have compared to the alternative scenario – a person who bets they will be definitely be in this much-more-income-in-retirement-scenario and does a Roth conversion today (paying taxes at higher marginal rates) and then actually ends up with lower marginal rates in retirement will really be hurting that much more.
Great example. Too many of these videos are geared towards lower income and saving rate people.
Great video. My husband is 5-7 years away from retiring. Most of his money is in pre-tax for the last 19 years. We recently switched his new contributions to ROTH 401K. When ready to start withdrawing, is better to take it out of his ROTH 401K first?
I'd like to see a scenerio similar to this one but with a single person having $1M in his/her 401K. Not much is ever said about single people in tax planning. You're right that most financial planners say it only makes sense to convert to a Roth IRA if the person can pay the taxes elsewhere. That might be true for a younger person but not for someone in their 60' who will soon require RMDs.
Phenomenal video. Just perfect for my situation. I think that for many people, taxable income after RMDs significantly goes up compared to their working years. While RMD for me will be 75 years, the whole Medicare angle was something I had not thought about (I knew that income impacted the premiums, but was surprised at how profound the impact was). Thanks for breaking things down so clearly.
I’m so tired of retirement videos that go through all the calculations for a married couple. There are a great many singles out there who also need planning. Joe much effort would it be to throw up an additional slide with a few more numbers. Also, with no spouse and kids, there is no risk of one spouse dying early and being pushed into a higher bracket. So I’m most single cases, the answer is no to conversion. Big thumbs down for this video for me. NEXT !
Is the recommendation in this clients scenario to do conversion for multiple years – how does one decide how much to leave as traditional IRA/401k?