High Taxes Gobble Up Income
I am reevaluating my ROTH conversion strategy. For the most part I have tried to avoid going into a higher tax bracket, but I have done ROTH conversions each year for the past ten years. For example, in April 2019 I converted 500 shares of ABBV at a total taxable value of $38,785. In other words, I paid income taxes on that dollar amount.
Those shares are now worth 138.47 per share, or $69,235. In addition, I have received $12,058 in dividends that will never be taxed. But it doesn’t end there. I have also received $1,556 in covered call options premiums. So my initial tax liability on about $39K has given me tax-protected benefits of $82,849. That is a real deal. And the real deal keeps giving year after year.
Now, however, I will be required to take my first RMD next year. As a result, I am rethinking my strategy.
The Big Pieces of the RMD Puzzle Create a Moving Target
The problem with the puzzle is that there are many pieces, and they are not static. The first piece, of course, is the total balance of my traditional IRA. It is very likely that the year end balance will be at least $1.8M. Withdrawals must start in 2024. Therefore, I will have a large withdrawal and it will mean we must pay a significant amount of income taxes to the federal government and to Wisconsin. Each year the percentage of the withdrawal increases based on my increasing age. In addition, if history repeats, it is not unimaginable to think that the traditional IRA balance will grow at least by six percent per year. That is very conservative. Eight percent or more is highly likely.
If you were prudent during your working years, it is not that hard to accumulate a significant amount of assets in a traditional 401(k) or traditional IRA. When withdrawals start, you need to think about your total income and the income taxes that will be required each year. Those taxes are likely to increase because of the way the withdrawals increase mathematically by age.
Because I wanted to stay in a lower tax bracket, I have been more conservative in the IRA conversions to a ROTH IRA for the last ten years. The good news is that I did some conversions. This moved not only the investments from my traditional IRA to my ROTH, but it also moved the dividends from the IRA to the ROTH. As a result, my ROTH IRA now generates about $42K in annual tax-free income.
Aunt IRMAA is Like Uncle Sam
The other thing I was trying to avoid is Aunt IRMAA. She has her hand out and she must be paid. The 2024 IRMAA Medicare Brackets (Income-Related Monthly Adjusted Amount) are published. The Medicare IRMAA Brackets premium surcharge was, I thought, a significant factor. I now believe I have put too much emphasis on that piece of the puzzle.
ROTH Conversion Secrets
Craig Wear wrote two books, one of which I read because he sent me a free PDF version. The book is: Roth Conversion Secrets. I also listened to his high-level explanation to understand what he and his team look at for doing conversions when a person has at least $1M in a traditional IRA or 401(k). I think I may need to rethink my tax boundaries and my concerns about Medicare premiums. “Roth Conversion Secrets” is about 102 pages of “secrets” he really doesn’t share. He gives you enough to think you might want to do what he suggests, but he also makes it very clear that you probably can’t do it yourself. In other words, his book is thinly-disguised marketing materials. I suspect his other book, “Paying the Piper,” is the same thing. I don’t recommend reading “Roth Conversion Secrets” unless you want to pay for marketing materials.
Projected RMDs and IRMAA Tax Consequences
I also want to look at my total projected RMDs and the tax consequences of doing nothing. If our income (MAGI) is less than $206K then there is no added “adjustment” or penalty. However, if our income exceeds that amount, then Cindie and I will pay a combined additional amount of $1,677.60 in Medicare premiums. So it might seem wise to keep our income below the adjustment threshold. The problem with this logic is that it ignores the long-term total taxes from RMD withdrawals and the income that could flow from ROTH IRA investments. In other words, it might make sense to convert up to $250K of the traditional IRA assets, pay the taxes in 2023, and pay the increased Medicare premium for one year. NOTE: The income amount applies to future year IRMAA – not to the 2024 IRMAA!
Who started me thinking about this? Craig Wear did.
Who is Craig Wear?
Here is what I learned about the author of two books that suggest they deal with the subject: “After a thirty-two-year career as an independent financial adviser and Certified Financial Planner™, Craig sold his practice and focuses his business interest, experiences, and efforts toward alerting savers of the large tax obligations that are built into their retirement accounts. This has birthed two Amazon #1 Best Selling books, Paying the Piper, and Roth Conversion Secrets. The tax issues are very real and a very large concern for many savers.”
Gathering The Data
I rather doubt what Craig does is all that difficult. Perhaps what he charges for his services is reasonable. I don’t know. However, in the last couple of days I have been building a spreadsheet. The spreadsheet contains sheets that include: 1) My estimated 2024 RMD and all other sources of income so that I can see our total expected 2024 income. 2) Our total anticipated pre-Medicare premium Social Security income. 3) The Medicare IRMAA premiums by income level. 4) Cindie’s RMD from her traditional IRA. 5) The holdings in our traditional IRA accounts so that I can be strategic in determining which assets I might convert to the ROTH in 2023 and again in 2024.
Conclusion and Suggestion
The problem in 2024 is that I have to take my RMD and Cindie has to take her RMD before I can convert any additional traditional IRA assets to my ROTH. Perhaps I should have thought more deeply about this before now. In any case, perhaps you might want to start thinking about it now, rather than later.
In a future post, or posts, I hope to be able to explain what I did and why I did it. I also plan to share some links for various resources applicable for those who are interested in their own tax situation. Schwab provides a free useful RMD tool. LINK
