There seems to be lots of 401(k) millionaires these days.
If you have $1 million in a 401(k) are you really a millionaire?
Uncle Sam keeps asking for a chunk of my RMD every year. As I understand, it doesn’t all belong to me.
Am I the only person who calculates 401(k) deferred taxes when looking at my net worth?
Gifted article:
https://wapo.st/4e50wGk
Thanks to several posters at the old tmf, including Wendybg, I am doing two things to reduce the size of the ‘tax bomb’ that can be caused by large rmd’s from an oversized IRA/401K/403B. 1. I am moving roughly 4% of my IRA into a backdoor Roth annually while I am in a relatively low tax bracket, and I am rolling a sum roughly equal to my monthly Social Security check into a low dividend etf.
I am 68 years old. If I predecease my wife this will reduce the tax impact on her when she is single filing jointly, and if the bulk of our money is in taxable and/or Roth accounts at the end of our joint lives, the stepped up cost basis rule should inure to the benefit of our daughters-if it still exists at that time.
If I could go back… This is the one thing I would change. Somehow this one completely eluded me and I am paying for it now (and forever, as long as that is for me.)
I have counseled my brother to do this, and he is, but it’s too late for me.
I started taking distributions from my IRA at 59 1/2, for the same reason: to reduce the balance in the IRA, to reduce the size of the RMDs in the out years.
Steve
Ditto. Except I’ve drilled my kids not to make the same mistake.
I want to understand this more. For someone who is 60 and has $1 M in IRA, when do you start your 4% rule? or can you walk me through how you would approach this.
Thanks in advance.
In the case of a $1MM IRA, most of us would reduce that by the income tax due in your situation. Maybe 20%, but it can vary. Then the max you can take from your investments in retirement per year is 4% of the $800K or $32K per year.
The important calculation is what are your living costs going to be in retirement and where will those funds come from. How much from Social Security? Pensions? Other sources like business income, rentals, etc.
When is the right time to begin collecting Social Security? If you have a large IRA balance living off of IRA payments is a good way to work down that balance before beginning Social Security. And sometimes pensions. That reduces the RMD payments due after age 72.
This a good subject to put into a spreadsheet and work through the various combinations to find the best for you.
And remember to adjust your expenses for retirement. Your commuting and wardrobe expenses may be less but you will have more time for travel or hobbies like golf. And you can consider downsizing to make the numbers work.
Lots of choices to make.
HWhen I say ‘tax bomb’ I am referring to what happens to millions of retirees who max out all of their tax exempt retirement accounts for decades, and then are forced to take rmd’s out of those accounts in the year in which they celebrate their 73rd birthday. When it comes time to take rmd’s out of a multimillion dollar tax sheltered account, he runs the risk of paying taxes at a rate of 32%, 37% or even higher (if a spouse dies and starts paying as a single taxpayer, and/or the tcja has expired).
He looks backwards and sees that he has frugally lived on retirement income of, say, $120,000 per year at a 22% maximum tax rate. He also sees that the tax rate was 22% up to $201,000 at that time. He could have shifted thousands of dollars from his 401k to a Roth IRA annually, paid a 22% tax each year, and then watch it grow tax free and not be subject to rmd’s or additional taxes thereafter.
I did not know anything about Roth IRA conversions for years because my cpa told me I made too much money for traditional Roth contributions. I didn’t think to ask the question until I read a post by aj345 here at tmf. After dilly dallying a year or two, I showed my numbers to my cpa and she helps me figure how much to convert each year.
It is a fact based decision made on an annual basis. I am conservatively converting up to the 24% threshold, and I arguably could profit by converting up to the 32% threshold.
@iampops5 answered it pretty well, but in a nutshell the general strategy is to convert amounts that will “fill up” your current tax bracket without pushing you into the next higher bracket.
Without knowing when you will die there is no absolutely correct answer. If you know you are going to die before your FRA, claiming at 62 is best. If you know you will live through your mid 80s, waiting till your FRA is best. If you know you will live well into your 90s, wait until 70 to claim SS.
Sure. If you are considering retiring at age 60, you can collect Social Security at age 62, but people are routinely advised to wait a while if they can as payments increase sharply when you wait. Living off of IRA withdrawals probably makes sense. But yes, you must live longer to recover the difference. A spreadsheet should let you work out which combination works best for you. And of course the earnings you make on your IRA that you are spending down are also a factor to consider.
Yes. My wife is worried we may run out of money and I am worried I may not live long enough to spend it all. 
Joking aside, thanks everyone. My current predicament is we are currently at the highest tax bracket. May be it is time to have a conversation with a financial advisor.
This seems short sighted. Shouldn’t the goal be to get the RMD down to approximately what one would want to draw anyway? If one is $100 into the next tax bracket, the difference between the tax were it still in the lower bracket and the tax in the higher bracket is trivial. The goal, after all, is just to pay less total tax in the end than one would have if one left it in the large account.
For the longest time I kept thinking “I’ll be in a lower tax bracket in retirement” so a Roth conversion would make no sense. I either knew nothing about RMD’s at that time, maybe they didn’t exist way back then, I’m not sure. But I look back at the lows of the Great Recession of 2008, when my IRA had lost value, and it would have been a great move to make. I’m past that point now.
Thing is, the IRA contains a finite amount of money. Spend that down, and it’s gone. SS benefits are for life, no matter how much you confound the actuarial tables. I live off SS, with a bit from the IRA distribution. The rest of the IRA distribution goes into my cash account, where it generates cash income and cap gains at the more favorable “JC” tax rates, vs the much higher earned income rate, if it stayed in the IRA.
Steve
That’s why we retired. We had reached the point that our earned income was taxed so much more heavily than our investment income that it made no sense to keep working.
The tax laws really punish high wage employees as compared to tax favored investment income.
Yes, and much depends on how close those SS payments come to covering your living expenses. They increase in value if you delay taking them. If you defer SS payments and take more IRA funds initially, when do you break even. How long must you live to get ahead?
That’s the kind of calculation needed to make good choices.
I did some quick figuring. The break even point between 62 and 70 was, iirc, about age 88. I plan on breaking the century mark, but how much running around/spending will I still be doing at 88? What would the utility of that extra money be in my 90s?
Steve
Right, that’s why I said the general strategy. The 22% tax bracket for MIJ is $94,301 to $201,050. As a guess, I’d say a good percentage of this board fit in there somewhere for retirement planning.
If you need to withdraw say, $150,000 for expenses, that leaves you $50K to convert without filling up the tax bracket. Do that for 10 or 15 years and you’ve probably whittled your IRA down to a manageable size for RMD purposes. If not, the 24% bracket is $201,051 to $383,900. You can whittle pretty fast in that event.
Lightly taxed, compounded investment returns are likely to grow much faster than your wage & salary income. I started making withdrawals from my IRA at age 40 using a SEPP. I discontinued that at age 59-1/2 to make myself eligible for “free Obamacare” and any other tax credits a lower income might offer. Once I turned age 65, I started doing Roth conversions to even out my lifetime Federal tax payments to the extent possible.
Years ago there was an article about the Berkshire Hathaway Annual Meeting where a Fortune magazine reporter observed, “This is the World’s largest gathering of multi-millionaires living on $30,000/yr.”
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