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Roth Conversion Strategies

beebee
edited May 2015 in Off-Topic
@msf described a Roth conversion strategy in the recent 4% thread. I thought it might be worth dedicating a thread to Roth strategies.

Four Reasons to consider a Roth conversion:
four-roth-ira-conversion-strategies/

Establish separate Roth IRA conversion accounts for “smart” conversions or recharacterization (Check out step five...last page of this link)
https://content.putnam.com/literature/pdf/SI615.pdf

Fairmark on Roth (full of lots of good advice):
fairmark.com/retirement/roth-accounts/roth-conversions/

Comments

  • beebee
    edited May 2015
    I have read that the taxes paid on a Roth conversion are best paid with fund outside of IRA accounts. Here's a strategy that I think provides a way to pay taxes on a Roth conversion with the very Roth that is being converted. Humor me by reading on.

    Using a conversion "bucket" strategy as mentioned here - last page - step 5 I think it's possible to pay your taxes from within a Roth conversion. Here's how it would work.

    Let's say your goal is to convert $5K from you tax deferred IRA into a Roth. Let's also assume your tax deferred IRA totals $50K. The bucket strategy would create (10) separate Roth conversion accounts of $5k each. Each account would follow a unique investment strategy. Not knowing which of these strategies will be most successful during the conversion period you would want to make sure these ideas are somewhat diverse and unique. The conversion accounts could be set up as early as Jan 1st of any given year you choose to convert. You have until October 15 of the following year (22 months) to re-characterize even if you paid taxes in April on the conversion. This mean you have 22 months to reverse this conversion if this investment isn't profitable enough. What does profitable enough mean?

    By April 15th (tax time) of the following year, you will decide which of the (10) accounts to convert and the other (9) accounts would be re-characterized back to IRA status. The account you select has to have generated at least enough of a gain (from Jan 1st - Apr 15th...16 months) to pay the taxes of the Roth conversion. So, assuming you are in the 15% tax bracket, your $5K account needs to have gained of at least 15% (or be worth at least $5750) by April 15.

    This allows the gain ($750) to cover the income tax on ($5K) all from within the Roth account.
  • @bee: I took a look at step five. They say a tax free gain of $15K. I'm thinking $10k gain. $30k - $25k = $5k x 2 = $10k gain !
    Next, what is a person to do with the roths that lose money ? One that make's 15 % & 9 that lose $$ , just doesn't make sense to me !?
    Taking 1 or two sectors that are dogs & trying to catch a winner maybe more efficient.
    Just some early morning thoughts,
    Derf
  • beebee
    edited May 2015
    Derf said:

    Next, what is a person to do with the roths that lose money ? One that make's 15 % & 9 that lose $$ , just doesn't make sense to me !?

    Derf

    Maybe the thought is to make fewer "Roth" bets and hopefulluy one hits a double (2x's its historical return). There are always out of favor sectors (maybe commodities and PM right now) or sectors with strong momentum (Healthcare and Tech) or lagging sectors (Financials) or shifting sectors (QE induced alpha) or whatever your best ideas are.

    It's the "excessive returns" that presents itself during the conversion period (16 -22 months) which provides the proceeds to pay the tax for the conversion. If it doesn't work out just re-characterize and try it again once the waiting period is over.

    This is not not for everyone, nor for all part of your IRA, but I think it provides a way to pay taxes with excess returns from within the conversion rather than looking for funds elsewhere.

    Once this account is permanently in Roth status the investment can be re-evaluated. In fact, if outsized returns happen during a shorter part of the conversion period, you could secure these gains and reallocate part or all of the account into cash, near cash, or whatever you feel more comfortable with. Remember this is a separate account that can have as little as one investment or as many as you chose. What you do in each of these Roth conversion accounts act independently. In other words, even if you have one single IRA account you can create any number of Roth conversion accounts. This usually requires calling your IRA custodian (TRP, Vanguard, Fidelity, etc.) and have the representative help you set these accounts up.
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