dmertz
Level 15

Retirement tax questions


 Picking 2035 as a 'who's ahead' point, a 6-year (until we have to take RMDs) level Roth conversion of roughly 70% of the traditional IRAs was 5.5% worse than leaving it all in traditional IRAs from a total asset perspective.  Even out 25 years, the conversion doesn't make sense.

My calculations have always shown that if the rate of return on the savings that would be used for taxes is the same as the rate of return in either the traditional and Roth IRAs, break-even is immediate.  Consider that the balance in the traditional IRA is the sum of your eventual tax liability on the total value of the traditional IRA and the amount that remains after you have paid the taxes.  In the traditional IRA that's effectively a tax-free portion that belongs to you and a portion that belongs to the government.  By paying the taxes now with savings, allowing you to covert the entire balance of the traditional IRA distribution to Roth, you are trading savings outside of the IRAs that are subject to non-zero taxes on the their growth for savings inside the Roth IRA that grow tax free.

 

Certainly if you have use a portion of the traditional IRA distribution to pay the taxes on the conversion and cannot convert that portion to Roth, break-even can be substantially delayed or even impossible, so perhaps that is what you are doing in your calculations.  But, since it seems that you would find a reduction in future RMDs beneficial, it sounds like you would have the necessary funds outside of retirement accounts to pay the taxes and allow Roth conversion of the entire traditional IRA distribution (unless that source of funds itself has embedded taxes, such as appreciated stock that you would have to sell).