Well, if you're getting close to retirement, starting to think more about tax planning down the road, one thing that comes up all the time are Roth conversions. You might have heard somebody talking about this. You might be thinking about doing a Roth conversion for yourself. But is it actually the right move for you? We'll tell you how to figure that out coming up.
Welcome in. Glad to have you once again on the channel. Ben George with Jake Dozer and John Stillman of Rosewood Wealth Management. Guys, today talking about Roth Conversions, another Common conversation you guys have every day. And I think a lot of people just think a Roth conversion is pretty simple.
I'm going to move money over to my Roth, pay the taxes now, save down the road. It's not that black and white, is it? It's certainly not. This is a question we hear all the time. Bar none, the most common tax-related question that we hear as retirement planners that focus on retirement and having an accountant on staff in-house.
It's something that we address all the time. Between John and I, we are on hundreds of calls and meetings every year implementing Roth conversions. And frankly, more people should be doing Roth conversions than at least within our clients than shouldn't be.
However, there are so many different administrative balls of wax, philosophical decisions tied into that that fit into your larger retirement plan. You know, there is no carte blanche, should you do a Roth conversion? There's no magic answer to that. It's when do you do a Roth conversion in all cores? Questions that relate to Roth conversions should link back to the underarching question, which is between now and the time I die, how do I pay the least amount of taxes?
And when do I pay those taxes? It's not whether you will pay taxes, but rather what are the efforts either before retirement through contributions. Or conversions technically, or after retirement through conversions from pretext or off. When do I pay them so that I have over all time paid the least?
So that means you can't be deterred from paying more taxes up front, so you pay less later. But conversely, you also Shouldn't only pay taxes up front because sometimes it does make sense to delay. John, why don't you take it from there?
So I like the way that you phrased it when you said there are philosophical. Considerations. Which I think a lot of people wouldn't necessarily consider that there are philosophical considerations related to their financial plan. But in this case there are. Because what we really have to determine is are you looking at your money solely as your money.
Or are we looking at it as generational wealth? And people hear the term generational wealth and they think, you know, people with multi-billions of dollars that are passing money down in trusts to their grandkids and great-grandkids. That's not what I mean when I say generational wealth. I just mean if you're passing money to the next generation. That is by definition, generational wealth.
So if you're thinking about this money in terms of Only my lifetime. How do I pay the least amount in taxes? It's a little bit more of a toss-up. Do you do Roth conversions or not? But if we're extending the view of that money.
to also your children's lifetimes. and say, how do we as a family pay the least amount of taxes on this money. Once we add that second generation to it. In nearly every case, not every, but in nearly every case. We're going to be better off to do the Roth conversions because we have this now long, very long timeline for the money to grow.
tax-free And the Roths. And so, if we're looking at it as generational wealth in that way, that completely changes the equation.
Now, I might go to some clients and say, hey, You know, if we do these Roth conversions, it's going to save you maybe a little bit of taxes, or maybe it'll be roughly break-even on your life, but it would save your kids tens of thousands on taxes. And that's a no-brainer to them. Absolutely. Let's do that. For others, I might say, you know, this is breaking even for you.
You might actually end up paying a little bit more in taxes in your lifetime, but your kids could save $100,000 in taxes. And they look at me like I have 16 hits. Like, why would I care? What my kids pay in taxes on this money, it's all money that they wouldn't have gotten anyway.
So let them just pay the taxes on it, right?
Well, this is a philosophical difference. And that's why I say I like the phrasing there of it's a philosophical question. It's one of the first things we have to answer in the analysis of. How we approach this for you. Another thing you have to analyze and solve is.
How much flexibility do you want to prepare for?
So, you have to think about not only this element of. Does this save me taxes? That's a good question to ask, which is over my lifetime, will doing a Roth conversion save me taxes? Will this Roth conversion save my heirs taxes? But you also have to think about the fact that Roth conversions provide flexibility and kind of can play defense against additional taxes.
What do I mean by that?
Well, let's say that in 10 years from now, taxes are higher than they are right now. Which, if I were a betting man, I certainly wouldn't bet that over time taxes will be lower than they are, right? Just not talking about your income or lifestyle, just let through legislative changes. I mean, our country is in billions and billions of dollars in debt to the point where the debt exceeds our GDP sometimes. That translates to somewhere something's gonna break, and that probably means higher taxes.
So, could you? Could you do a Roth conversion that, as long as you live your life normally, breaks you even on taxes, but stops future tax rates from hurting you? That's a consideration. Similar to that question is: Will this stop you from paying extra Medicare in the future? You know, there's this thing called IRMA, IRMAA, which are surcharges or just extra costs for Medicare associated with having too much income.
Well, it could be that you don't spend a ton of money in your RMDs, your required minimum distributions, the withdrawal the government forces you to take at age 73 from your retirement accounts. It could be that those forced withdrawals push your income higher. Which triggers extra Medicare costs, which could be to the tune of thousands of dollars per year per person. And it could be that the Roth conversion doesn't stop you, doesn't. Result in less taxes, but does result in less charges on Medicare.
Let's be honest, for all intents and purposes, it is just another tax. I mean, that's essentially what it amounts to. Yeah, it's not showing up on your tax return per se, but if it's a Fee that you're paying the government based on that, that's based on what your income was in a certain year. That feels a lot like a tax. That's exactly right.
And there's different tiers to it, just like with tax brackets, there's different Medicare tiers. And the first one triggers you to increase your Medicare premium by over $500 a year per person. And it can be as much as like $6,000 a year almost per person of increased Medicare, depending on how high your income goes. And then one final thing to think about is that. You know, that I think of as far as playing defense proactively is when you're thinking about like, what about not just the next generation, but what about my significant other?
What if I die? in my seventies or eighties. and my significant other survives me.
Well, now they're a single tax filer. And single tax filers, which largely have the same amount of assets than you did when you were a married couple, they pay more taxes on the same amount of income.
So if you've got $100,000 of taxable income as a married couple, you're in the 12% tax bracket. But if you're a single person with that much taxable income, you're in the 22% tax bracket.
So same dollars, more taxes to a surviving spouse.
So Again, it's not just about you. It's also about: is there a significant other in your life? It's about your kids. It's about. What is this money for?
It's not just a pile of money. It's not like the, what was the dragon's name on Lord of the Rings or the Hobbit Smaug? He would sit on his pile of gold and he would get mad at anybody who tried to steal it. Not because dragons have any purpose for gold, but because they just wanted a big pile of gold. Like sometimes we treat our money that way where it's, you know, well, I want more money.
Well, what if, what are you going to use it for? I don't know. I don't want to spend it because I'm afraid of taxes.
Well, you got to spend it in order to. You know, live your life and to enjoy it, which might cost you taxes. You know, so sometimes some of us lose sight of the function of money. In reality, we just want to hoard the money. And so we're afraid to make any proactive tax decisions or think about how the money is going to be withdrawn.
Or, you know, that person who won't take the vacation, even though they know they can afford it because they don't want to pay the taxes from it. Come on, you got to think about this money a little bit more functionally. And that's where Roth conversions come into play, too. If I may beat your dragon analogy to death, there's an old proverb about a guy, I think it was called the Miser and His Gold, if you want to look up. One of Aesop's fables, but it's the same idea where this guy buried all of his gold in the ground.
And then he would go once a week, he would go dig it up, look at it, check on it, make sure all of his gold was still there, bury it back in the ground.
Well, apparently, somebody was watching him do this.
Somebody figured out where all of his gold was hidden.
So one day he went to go dig it up, and the gold was gone. And he goes into town crying: somebody's taking my gold. They said, Well, where where was the gold? He said, Well, I just buried it in the ground. That's where I kept it and I looked at it.
And somebody said, Well, tell you what, why don't you just go stare at the empty hole? Because it's doing you as much good as the the gold was doing. Oh man, I thought you were going to go spiritual with the parable phrase. And then you derailed the Aesop. Let's go back to the original parable about this, which is the parable of the 10 talents in the Gospels in the New Testament, right?
So the servant with one talent. Which was a measure of currency, not just a talent in the sense that we use it 21st century, buried his talent. And when the master came and said, What'd you do with my money? He's like, Well, I buried it in the ground. I gave it back to you.
It's safe, right?
So I wonder who Aesop got that story from and who Tolkien got the story from. What did the master call that guy? Wicked and lazy, he called him unprofitable if you look at the King James.
So, I mean, it doesn't matter who your source of wisdom is. What matters is that you have to think about your dollars and all these decisions, including Roth conversions, within the context of what does my plan call for? How do I want to approach this? What's not only best for me, but my loved ones? And what is important to me ultimately?
And that question should come before you make decisions about is a Roth conversion a fancy product I should add to my arsenal? That's this isn't a used card lot. Come on, let's treat this like wise stewards of our money, not like we need a new shiny toy. That's just not the right way to approach this stuff. Yeah, some good questions there to kind of be asking yourself before making that decision.
One last question before we kind of wrap it up: does it matter? Timing-wise, kind of what age you are when you do this, and if you do it all at once, are those things you should also be kind. Of figuring out when you work with your financial advisor? Two good questions to speak to the timing. The earlier, the better, right?
I mean, if you're 30 and you've already contributed some money to a traditional IRA or a 401k, and you have sixty or seventy years for that money to grow and compound before you're pulling it out as income. Yeah, I mean, let's get it over let's pay the taxes now to get it moved over to Roth and let it be growing tax free. There.
Now, you have to have the cash available to pay those taxes when you do it. But to the extent that you can make that happen, that's usually more often than not a good move for you. But you know, we just have to take it on a case-by-case basis. I realize that sounds like a cop-out, but there's a reason. that re good retirement planning is customized and with coaching with people who have done this.
Hundreds of times before with other people. It's because Every little nuance in your situation could make a big difference that Causes us to answer the question differently. And so that's just why you have to get a customized answer on this. And a quick but poignant example of what John said: I spoke with a 22-year-old last week whose question was: Should I convert this old 401k to a Roth? And if you took John's answer on its face and didn't look into getting a customized piece of advice, you would say, Yes, I should do that.
And that would have resulted in a mandatory federal tax withholding of 20% from the 401k provider and state tax, depending on your state. And that Withholding because it came out of a retirement account before this guy's 59 and a half would have resulted in a 10% penalty and taxes.
So I thought Roths couldn't be taxed unless you do it the wrong way. Mm-hmm. But instead, because this young man is unlike 95% of the 20-year-olds that I meet with, has some money at the bank. I said to him, we can do it. But you cannot use the 401k to pay its own taxes for the conversion.
You have to use the money at the bank to pay the taxes. Because the money at the bank isn't penalized and taxed. But the money in your 401k is.
So you don't need to remember all the specifics. The takeaway needs to be is. This is something you should measure twice and cut once with and work with somebody who knows what they are doing on because HNR Block and TurboTax and Google are not going to be able to answer, at least not yet, that question accurately because they haven't seen the full deck of cards. All right. Very good.
A lot to think through. Again, this is just part of the planning conversation, right? This should be part of everything you're doing overall with your financial picture.
So again, have that conversation with the financial advisor, like Jake and John, before you decide to do those Roth conversions. Make sure you're doing it the smart way, the efficient way, and make sure it actually works for you, right?
So if you have questions, again, reach out to them. All that contact information is down in the show description for you. Also, please subscribe if you haven't already. We appreciate that support. We'll talk to you again soon.
Take care. Carolina Wealth Stewards doing business as Rosewood Wealth Management is a registered investment advisor in the state of North Carolina. The material presented is intended to be general information and should not be construed by any consumer as the rendering of personalized investment advice. Mm.
