IRA to Roth IRA Conversion - If 60+ am I Subject to 5 year rule?

[jonic]

I am thinking about converting my IRA to a Roth IRA but due to tax consequences, must do it slowly over several years. I am over 60 years old and retired. If I convert some of it in the 2022 tax year, some of it in the 2023 tax year, some of it in the 2024 tax year, and so on, does the 5 years start counting 1/1/2022 regardless of when I do the conversion? Or would I have to wait 5 years to take out the 2022 conversion, and 5 years from the date I converted the 2023 amount, and so on? Or does none of this matter because I am over 60 so I can take out any of them at any time? I thought the rules for converted Roth funds is different than regular contributions when you are employed. I am getting a lot of conflicting information about this so I'm hoping you can clarify.

[Bsch4477]

There's a separate five-year rule that applies only to those who convert other types of retirement accounts into Roth IRAs. Here, the idea of the rule is to prevent people from using Roth conversions to get penalty-free access to their traditional retirement accounts.

This five-year rule also starts the clock on Jan. 1 of the year in which you do the conversion. As a result, those who convert late in the year only have to wait a bit longer than four years before taking withdrawals.

However, this five-year rule is different in that it applies separately to each Roth conversion you do. Each new conversion starts its own five-year clock, and you'll need to account for multiple conversions to make sure you don't take out too much money too soon.

Note that the five-year rule applies equally to Roth conversions for both pre-tax and after-tax funds in a traditional IRA. That means, if you're using the backdoor Roth IRA strategy every year, your "Roth contributions" are really conversions, and you can't withdraw them for five years without penalty.

[jonic]

So just to be clear, it doesn't matter that I am already older than 60? If I spread out the conversion over several years instead of converting it all in one year, then each year I convert must wait 5 years, even though I am putting it into the same Roth IRA account? So for example, If I contribute 8/2022, I can take that portion out 1/1/2027, then convert more funds on 8/2023, I can take that portion out 1/1/2028, and so on? Not that I plan to, but I just like to know what the rules are.

[Opus 17]

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@jonic wrote:

So just to be clear, it doesn't matter that I am already older than 60? If I spread out the conversion over several years instead of converting it all in one year, then each year I convert must wait 5 years, even though I am putting it into the same Roth IRA account? So for example, If I contribute 8/2022, I can take that portion out 1/1/2027, then convert more funds on 8/2023, I can take that portion out 1/1/2028, and so on? Not that I plan to, but I just like to know what the rules are.

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Everyone is subject to the 5 year rule that if you take out earnings before your Roth account is 5 years old, the earnings are taxable.  (The clock actually starts from opening your first Roth account, so if you had a Roth IRA more than 5 years ago, that clock is satisfied even if you open new accounts for these conversions.).  If you have never had a Roth account before, you must satisfy that "master" 5 year rule, which is to say, if you open your first Roth IRA in 2022, you will pay regular income tax on any earnings withdrawn before January 1, 2027.

There is a different 5 year rule that says that each conversion carries a separate 5 year clock, and if you withdraw that conversion before 5 years, you will pay a 10% penalty for early withdrawal.  Because the 10% penalty for early withdrawal never applies over age 59-1/2, the separate 5 year clock for each conversion can be ignored after age 59-1/2.

See more here,

https://ttlc.intuit.com/community/retirement/discussion/re-how-to-take-roth-earnings-out-after-age-5...

[NCperson · Accepted solution]

@jonic - it is somewhat simpler than that.

1) since you are over 60, there are no penalties for withdrawals  - whether that is on the original contributions or on the earnings that occur along the way. 

2) All the contributions come out first and the earnings last, 

3 ) the contributions don't have to stay in for 5 years and it's after tax money in any event, so there is no tax implication (no tax no penalties, given your age) for a withdrawal no matter when it occurs

4) the earnings have to remain in the Roth for 5 years to be tax-free.  But practically, that is not likely to occur (but indeed  mathmatically possible).   The earning from 2022 have to remain until 2027, the 2023 earnings until 2028, etc.  But remember, that only becomes an issue if ALL the contributions have been withdrawn and you are withdrawing earnings.  if you withdraw the earnings in less than 5 years, you'll pay ordinary tax on those withdrawn earnings, but again, no 10% penality as you are over 60. 

as a side note, and you did not state you age, but note that there is a tax called "IRMAA" related to Medicare premiums.  The ROTH conversions create taxable income and you'll want to assess any implications of IRMAA two tax years before you begin Medicare (so if you are going to go on Medicare in 2025, then your AGI in 2023 is going to define the IRMAA tax in 2025) as part of your conversion strategy. 

[SweetieJean]

Similarly, if you are still doing conversions when you start taking Social Security benefits, more of those benefits could become taxable,

[jonic]

Yes IRMAA (and higher tax bracket) is why I would try to spread out the conversion over several years, rather than doing it all in one year.  Well that and having to pay the tax all at once!  The only way I would take out the earnings would be if I cashed out everything at once which would be very unlikely.  Thanks!

[dmertz]

See Opus 17's reply.

NCperson's item #4 is incorrect.  Because you are over age 59½ any distribution from your Roth IRAs made after 5 years have elapsed from the beginning of the year for which you first made a Roth IRA contribution (including conversion contributions) is a qualified distribution, entirely tax and penalty free, including distributions of earnings.  If a conversion in 2022 establishes your first Roth IRA, distributions after 2026 are a qualified distributions.  If you established your first Roth IRA prior to 2018, your Roth IRAs are already qualified.

[Opus 17]

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@jonic wrote:

Yes IRMAA (and higher tax bracket) is why I would try to spread out the conversion over several years, rather than doing it all in one year.  Well that and having to pay the tax all at once!  The only way I would take out the earnings would be if I cashed out everything at once which would be very unlikely.  Thanks!

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You're at the point where a financial planner will be a good investment.  Let me give you two ideas that are putting my own thoughts on a roller coaster.

1. Withdrawing too much money from an IRA will also make your SS benefit more taxable (to a point), so the effective tax rate on an IRA withdrawal can be much more than the standard 15% or 22% rate.  Because Roth IRAs are not taxed, they do not have this effect.  So you could withdraw say $10K per year from a traditional IRA, and infinite funds from a Roth IRA, and never pay income tax again.  That argues for moving your assets to Roth accounts as much as practical.

2. However, suppose you some day need long term nursing care under medicaid.  You have to spend all your "assets" before you can get Medicaid to cover your needs, and there is an entire field of elder law devoted to figuring ways to protect your assets so you can pass them to your family.  A traditional IRA is not a Medicaid "asset" as long as you use the RMDs to partially offset the cost of your care. This leaves the balance for your family.  But a Roth IRA has no RMD, therefore most states consider it an asset and you would have to spend your entire Roth IRA before you would qualify for medicaid.    So an asset mix that is heavy into Roth IRAs can hurt you if you lose the long term illness lottery. 

(It's tough to think about this, especially at only 60, but my mom recently passed from Alzheimers and required residential care at the end.  My parents had done the proper planning, and my Dad has done the right planning for if and when something happens.)

Anyway, deciding how to hold your retirement assets and in what amounts has a lot of variables, and if you pay for a planner now, you can consider that an investment of sorts because it will possibly save you money in the long run.

Cheers. 

[jonic]

A lot to consider.  And sorry Opus 17 about your mom. 

Is there also a difference between 401K, IRA and Roth IRA when it comes to creditors? I seem to recall 401K/IRA cannot be tapped by creditors but Roth IRA can? Is that correct and is it also because of the RMD requirement for the former but not the latter?

[Opus 17]

@jonic 

A quick Internet search suggests that qualified workplace plans are protected from bankruptcy, and rollover IRA‘s that were funded from a workplace plan are also protected. Traditional and Roth IRA‘s that were not funded from a workplace plan rollover are protected up to $1.3 million.  However, I am certainly not a bankruptcy attorney, and you should discuss this with a qualified expert.