Conversion to Roth

[Guest bobolink]

Once the income restrictions fall away, what would discourage an IRA holder from converting his big $ IRAs to Roth IRAs? Other than the obvious requirement that he pay the tax liabilitly and the fact that he's 75+ so is rolling the dice on how much income he can generate and then shelter ... why not? Based on the Washington Follies, there is no way taxes will be going down any further in his lifetime, likely mine, and probably my kids'. (whoops, is my bias showing?) What do you think?

[John G]

Congress may change the tax rules and the no income limit will disappear. I would not do a lot of planning right now based upon the current rules.

A very large conversion could push you to a higher tax bracket - probably the single biggest issue. Second concern is can you pay the taxes from non-IRA funds. If not, some of the mathematical benefits disappear.

I would expect tax rates will either stay about the same or increase in future years. But that's just my crystal ball...and it often misses unexpected events.

You may want to consider a hybrid solution ~ partial conversions often get you a big benefit without maxing the short term tax consequence.

[mbozek]

Once the income restrictions fall away, what would discourage an IRA holder from converting his big $ IRAs to Roth IRAs? Other than the obvious requirement that he pay the tax liabilitly and the fact that he's 75+ so is rolling the dice on how much income he can generate and then shelter ... why not? Based on the Washington Follies, there is no way taxes will be going down any further in his lifetime, likely mine, and probably my kids'. (whoops, is my bias showing?) What do you think?

what is the purpose of a 75 year old converting?

Conversion to a roth makes sense if the Roth owner will be in higher tax braket when retired or to remove income from his estate that will be taxed at a lower rate than the 45% estate tax rate which only applies if the estate is more than $3.5M and is not being transferred to a spouse or charity. Paying taxes on a Roth conversion is not a good idea if the deferral period is short and the funds will be inherited by beneficaries who will be in a lower tax bracket.

Speculating on future tax rates increases is a meanlingless exercise unless the taxpayer is in the top 1-2% of earners, e.g. $200k+. Even if tax rates increase for higher bracket taxpayers next year, history demonstrates that tax rates follow election cycles as well as bugetary cycles. If there is regeme change in 2012 or 2016 rates would go down as they did in 1980 and 2000.

[Guest bobolink]

MBozek: It's really a matter of paying taxes now at the presumably "lowest" rate and not paying them later. The estate is greater than 3.5M and will go to spouse (if living) and then to kids. The IRAs are 3.5M alone. Fun problem to have! Thanks for your thoughts.

[mbozek]

MBozek: It's really a matter of paying taxes now at the presumably "lowest" rate and not paying them later. The estate is greater than 3.5M and will go to spouse (if living) and then to kids. The IRAs are 3.5M alone. Fun problem to have! Thanks for your thoughts.

But if the spouse or kids will be in a lower bracket after the owner dies then the roth conversion will cost more in taxes paid. If there are separate shares paid to the kids they will each be taxed in their own tax bracket so that two kids will each receive 50% of each MRD. The owner can divide the IRA among the spouse and the kids to minimize taxes. Or the spouse could get the income from the IRA and the kids could get up to $3.5M in capital assets with stepped up basis and no estate tax. Also the owner can make lifetime gifts to the spouse or kids to reduce any estate taxes in excess of 3.5M. The spouse will have a 3.5M exemption from estate tax. You need to talk to an estate planning attorney because this is an estate tax problem not an income tax problem.

[John G]

And...if the kids are listed as secondary beneficiaries, the wife may elect not to take the full amount and pass on some to the kids. Of course, this assumes the guy dies first - something Warren Buffett assumed and two years ago his first wife died.

I agree, this is more an estate planning issue than a Roth conversion issue.