What assumptions to make about future tax rates?

Gary, you don't mention if you file single or joint. For single, your 28% bracket in 2008 goes from $78,850 - $164,550 If Joint, the 28% bracket from $131,450 - $200,300

I think converting enough to 'top off' just that bracket may be a helpful strategy. Without more numbers from you, I can't tell for sure. But any more (converted) will send you into the 33% bracket, which is really the highest rate for you. I doubt you'll be subject to that rate despite future changes to the tax rates. The 'phantom tax rates' created by phaseout of entitlements are a tough one. You are penalized for your own success and thrift.

Joe

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The problem I see is that you are making a large bet on something that is completely unpredictable. I mean we're talking about Congress here.

The usual recommendation around here is that you diversify your tax risks -- some money taxable, some IRA tax deferred, some Roth tax exempt. This way you have some protection no matter what happens.

If you have strong feelings about future taxes, you could put more emphasis on one type of account or another. But I wouldn't go "all in" on any of them.

-- Doug

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Gary, if your income is "well over $100k" you can't convert your IRAs to Roth IRAs - Roth conversions are only allowed if your adjusted gross income does not exceed $100k. This limit goes away in 2010, but this conversion idea doesn't sound like an option until then.

It would help if you shared the breakdown of total income into dividends, pension income, IRA MRD, Social Security, etc. Can't tell from your post whether you're talking about RMDs of $70,000 with some Social Security and not much pension/dividend income (which could be a million-dollar IRA) or $20,000, with a lot of pension & dividend income. The immediate tax hit on a large IRA conversion could deplete 40% or more of the IRA, and you'd need some pessimistic assumptions about future tax rates to justify doing that. Giving the breakdown could allow an estimate of the immediate tax hit.

Also - do you live in a state with income tax?

-Tad

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I generally agree with joetaxpayer. Only convert to cap out current bracket and the advice to keep accounts diversified is where I am at

The primary tax assumption I make when planning is for the prolonged future the US will have an income tax, and that tax will be tiered with brackets. The caps to the brackets change every year. I assume the percentages of the tax will change about every 5-10 years then stay fixed for another 5-10.

My goal is to stay in the second lowest bracket (15% right now) for as long as possible. Our gross income is 104k and deductions put taxable income at 62k right now- so I have lots of tax planning I do to meet that "stay in second lowest bracket" goal. Having twins in 2008 helped that cause (two more dependants), 401k contributions increasing, using HSA as well.

My prediction is I go from 15% bracket to 28% bracket reasonably quickly- as my mortgage gets paid down (biggest deduction is the 20k of mortgage interest we pay each year) and my income goes up (wife and I get 3% raises every year and I anticipate 2 raises in 2008 for me). We have much 401k wiggle room (we contribute only around 10k total now), and some HSA wiggle room (contributed only $1300 in 2008), but probably not enough to maintain 15% bracket for more than another 5-10 years.

accounts now (while in 15% bracket) and not increasing 401k contributions until I need the extra deductions. When I retire I want much of the taxable account to be either dividends, cash or muni bonds.

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Just be careful - the "marginal rate" according to the tax tables is far from the whole picture. If you push your AGI up by doing this, it can affect other things which have AGI-tied phaseouts, as well as the potential deductibility of certain things (ie. medical and miscellaneous dedutions).

The only way to really know how this will affect your overall taxes is to actually run the numbers on your individual situation. It may be worth paying an accountant to do it for you.

I'm age 75

Joe, although I don't remember any of the particulars, this sounds like a situation in which your strategy of donating RMDs to charity might apply. Perhaps you could repeat it here.

Elizabeth Richardson

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The others are right about watching what tax bracket you will be in. If you are in a state that taxes standard IRA withdrawals, you might want to move before you convert.

Because the national debt is so high, there won't be much drop in the tax rate for upper brackets, but there might be a drop for the lower brackets.

Don't forget about the AMT which can cause you do lose various deductions if your AGI causes it to set in.

-- Ron

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I tried to answer this message twice, but without success. So I'm going to try this third attempt by entering a fresh post, altering the subject slightly.

I didn't give enough details. Here they are now, based upon my last tax return.

Some notes:

I file as single. I reside in NY State. I'm age 75, retired. My IRA was worth about $750,000 at the end of 2007. This may have dropped to about $700K by now.

Federal Income tax 2007:

Earned income 0 Interest 615 On bank accounts Dividends 15,229 On taxable investments Capital gains 17,693 On taxable investments IRA distributions 31,211 MRDs Pension 35,543 Constant, not indexed Social security 13,841 Total SS = 16.283 ---------- AGI 114,132 Deductions 11,182 Exclusions 3,400 Taxable income 99,550 Tax 18,529

NY Income tax 2007:

Federal AGI 114,132

-Social Security -13,841

-Pension exclusion -20,000 ----------- NY AGI 80,291 Deduction 7,724 Taxable Income 72,567 Tax 4,574

One more note, regarding Tad's comment (cannot buy into a Roth if your income exceeds $100,000).

The $100,000 figure we all know and love is MODIFIED Adjusted Gross Income (MAGI). ONLY FOR THE PURPOSE OF CALCULATING IRA TO ROTH CONVERSIONS, MAGI does not include MRDs or any conversion income. So for 2007, my MAGI is $114,132 - 31,211 = $82,921. I'd expect it to be about the same in 2008.

======================================= MODERATOR'S COMMENT: The reason your post did not go through is because we returned it to you with the request that trim the post you were responding to, especially including the part that asked you to trim. Thank you for doing so.

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Not to get political on this non-political group, but that may very well depend on who controls the Congress and WH in Jan.

Chip

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You are in the 28% tax bracket, which for 2008 ended at $164,550. I don't think it makes much sense to do a Roth converstion so large that it pushes you into the 33% bracket, so I suggest you convert enough to top off the 28% bracket, about $50,000.

If you make charitable contributions, I suggest you consider setting up and funding a Fidelity Gift Fund account. E.g., if you make $5,000 of contributions per year, you could instead make a contibution of, say, $25,000 to a Gift Fund account, which would fund your contributions for five years. This additional itemized deduction would enable you to add a like amount to your Roth conversion. You could donate appreciated securities for an additional tax break. Here is an article to read about using Gift Fund this way:

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There's a 49.5% chance of the tax rates going up, 49.5% of going down and 1% of remaining the same. Therefore, you should hedge.

HTH

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That's correct, from your post it wasn't clear you'd meet that.

I'd suggest talking with a local CPA to get an exact figure, but my software's one-minute guess is about $329k in additional tax if you'd converted a $750k IRA on top of the income you posted. That's a 41% average tax rate - 9% higher than the marginal rate you pay now.

If correct, that strikes me as a lot of "certain" tax to pay in exchange for a "possible" tax benefit. Your current tax on RMDs is a good bit lower than 41%, and the Medicare means-test surcharge isn't all that big (and you might get hit with the first-tier surcharge anyway?). So you'd need a big increase in tax rates for this to net you a benefit. And it might go the other way...for example if the IRA-to-charity provision is extended (it expired in 2007), and you do some charitable giving in this manner, that could be enough to keep you in an acceptable bracket.

Also, you might be able to shift your investments so you end up with little or no taxable interest, dividends, or capital gains. The capital gains in particular might be manageable, by doing some specific-ID selling of loss positions (this is a good year to harvest unrealized gains). Strip out these income items and you have mid-$60k's taxable income. Even if not a possibility now, this stuff could be an option in the future, if tax rates do rise -- shift your taxable income downward in response to that. So there may be other ways to reduce the impact of higher tax brackets, other than the Roth route.

And of course it's said often on MIFP - the point isn't minimizing tax, it's maximizing your after-tax income. So it might be just fine to stick with these taxable income sources and pay the tax.

-Tad

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I meant "unrealized losses" there...

-Tad

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