Reg IRA vs Roth IRA comparson
As I run the numbers,it looks to me as if it takes about 7 years for a Roth IRA to outperform a Regular IRA if you’re paying the tax for the Roth conversion near the top of your earnings versus withdrawing from the Regular IRA when you & your wife are both retired.
Does this sound generally correct??? Just want to make sure I’m not missing something. Was a little surprised it takes that long. Please note that for this comparison I assumed the same investment strategy for both the Regular IRA and the Roth.
Permalink Submitted by Bruce Steiner on Fri, 2012-04-20 16:40
Another possibility is to wait until retirement, and then convert, either all at once or over a number of years.
Permalink Submitted by Barry Shapiro on Fri, 2012-04-20 17:17
Thanks. Yes, I just made the ‘wait until retirement’ recommendation to my wife. If we’re careful about the amounts converted, at the new tax rate, the Roth outperforms the Traditional at the two year mark. So this is definitely worthwhile.
With respect to conversions to Roths (not contributions), do you know if there are any limitations on these conversions? That is, past age 70 1/2, aside from your RMDs can the rest of the Traditional IRAs be converted to Roths?
Permalink Submitted by Alan Spross on Fri, 2012-04-20 20:26
There is no limit to the amount of conversions or the number of conversion you can do. But in an RMD year, you must take out your full RMD prior to any conversion and cannot convert any part of that RMD.
Note that every dollar you convert reduces your future RMDs because the converted amount has been removed from your TIRA account. As your future taxable income is reduced by conversions, the odds that your marginal rate in retirement will be higher than what you are paying in taxes to convert diminishes. This generally means that the first dollars you convert will save you more in the long run than additional conversions. There reaches a point at which conversions should stop for most people, but each situation is unique.
If your beneficiaries interests are part of your strategy, it can make conversions more viable, particularly if your beneficiary is likely to be in a high tax bracket.
Also, remember that the recharacterization option for every conversion provides some flexibility:
1) Before the deadline to recharacterize you will know the exact tax cost of your conversion
2) You can recharacterize any portion of the conversion or the entire conversion
3) You have several months to generate earnings on your conversion. If you convert in January, you have 21 months before the recharacterization deadline (10/15 of the following year). You can apply various stratagies under which you would recharacterize unless the conversion gains x%. If you did two conversions for example, you could invest one conservatively with the intent of retaining it and invest the other one aggressively, with the intent of recharacterizing unless it gains the % you require.
Permalink Submitted by Barry Shapiro on Fri, 2012-04-20 20:44
I’m curious about your statement…there reaches a point at when conversions should stop.
When I first started looking in to all this, I thought this should be the case. But if you have enough cash for several years during retirement, I think for most people, if they use this cash instead of withdrawing from their Traditional IRAs and convert about 80K per year from traditional IRA to Roth, I don’t see why you wouldn’t want to do that as by the 2nd year (by my reckoning) the Roth is outperforming. What do you think?