SYNOPSIS

To Roth or not to Roth, that is the Question. The answer: It depends upon your effective tax bracket, your goals at retirement, and if you can qualify to use a Roth IRA based on your income. Watch the interview with financial planner Sean Humeston.

FULL TRANSCRIPT

Steve Savant

00:01

Hello everyone, I’m Steve Savant, syndicated financial columnist and money color commentator. On today’s show, Roth conversion strategy is part three of our series on building a firm financial foundation for retirement, the financial advisor, Sean Humeston. Welcome to the show Sean.

Sean Humeston

00:14

Thank you.

Steve Savant

00:15

Roth conversions, well, I think most people don’t understand, you know, it’s not the Roth of the government. It’s a senator named Roth back in the day, who said we need to add on other savings vehicles. Now, first thing right out of the gate before we get into too much Roth conversions. I’m into it, I don’t want to pay any more taxes than I have to, but just a heads up. There’s a little known piece of the code and I know that you do this now. We can take, if you’re married and you’re over 55, you could take $7,550 from an IRA, which is generally taxable.

Sean Humeston

00:48

Correct.

Steve Savant

00:48

And I can exchange that over to an HSA account and as long as it’s used for qualified medical expenses or insurance premiums that qualify, that’s tax free.

Sean Humeston

00:58

Tax free.

Steve Savant

00:58

So before I do Roth conversions, I want to take care of the tax free as you first. Remember if you’re married 55 and older, $7,550, it’s free money. Why not? Right? Okay, so Mr. Senator Roth made this idea. Now, the people say, well the negative is it’s not deductible, that’s true. It’s not deductible, but it accumulates tax deferred. The money comes out?

Sean Humeston

01:23

Tax free.

Steve Savant

01:23

And does that number, because all these other are other qualified moneys all conference social security taxation. Does this count for it?

Sean Humeston

01:32

No.

Steve Savant

01:32

No. So this is a big issue because all qualified plans are going to be ordinary income tax at the time of distribution and they’re going to flow over to the provisional income test for social security. So this could be a big play, I’m giving up the front end deduction. Now,I was looking at America’s middle class are blended effective rate is like, not even, it’s about 20 at the Max blended. So if I’m getting 20 percent, I’m wondering if the deductions worth it? So that I can get it free. See, I’m just kind of, I’m always kinda going backwards, should I do the traditional IRA or should I do a regular IRA?

Sean Humeston

02:05

Yeah.

Steve Savant

02:06

Or a Roth IRA. Now, people are sitting there saying, Steve, I’ve got this big tax bill coming up. It’s going to be a whopper. I got to a million dollars sitting in my 401k. If I could see that person will know you liked this too. I’d like to see people early, like a writer on that late fifties. If you give me 10 years to smooth and convert, I can actually make this work for you to move it from taxable, to tax free. Now, am I going to have to pay taxes on this conversion?

Sean Humeston

02:29

Absolutely.

Steve Savant

02:29

Absolutely.

Sean Humeston

02:31

Can avoid that.

Steve Savant

02:32

So I can avoid that. I’m trying to stay within the bracket I’m already in. You know, because you know where you live in a marginal, progressive tax bracket the more income we have, we keep bumping up to another bracket. I don’t want to bracket bump by doing my conversion, so I have to do some time. I have to spread this over some time so that I’m paying the least amount of taxes for the conversion. Tell me how you do this in your practice, and are people really excited about getting out from under this tax bill that they’ve had?

Sean Humeston

03:00

Most of them are. So the two things that we want to make sure that we cover is, the two biggest concerns and that is what do people think the tax rates are going to be in the future? Is it going to be lower or higher? So traditionally we know that it’s always going to be higher and that tax rates generally don’t go down. Would you agree?

Steve Savant

03:17

I do agree that the future really looks like that. Yep?

Sean Humeston

03:19

Yeah.

Steve Savant

03:19

We got to pay a bill 20 trillion in debt.

Sean Humeston

03:22

Now, the other thing is, is that most advisors usually want to do a conversion of that qualified IRA to the Roth and a very short window. We agree that we should actually do it a much longer process if we can at least five to 10 years to really get that tax deduction maximized and not go into that higher bracket, that is definitely true.

Steve Savant

03:42

By the way, just to think of what Sean just said, not every advisor looks to amortize that event over a long period of time. They’re trying to get it done in two, three years.

Sean Humeston

03:52

Yeah.

Steve Savant

03:52

Almost everyone that I’ve seen in my 35 year career and especially since we started doing Roth conversions heavily, especially about 10, 12 years ago. Everyone that’s done three years or less, they were bracket bumped into two, not just one bracket. They went up two brackets to make the conversion, payday and excessive tax. The recovery time is so long it doesn’t have the mathematics to it. So, it’s important to what you just said is we have to see if we can spread this out. If you’re thinking about trying to move into tax-free retirement, we need to see sometime in that late 50, somewhere in that vicinity. That, to me, would be huge.

Sean Humeston

04:26

Even early sixties, you know, you could argue that between 60 and 70. If you don’t necessarily need that money and you can convert that qualified money into a tax free environment, more power to you.

Steve Savant

04:37

Now, I noticed that there’s limitations here. Let’s do the limitations first. I can only put 5,500 into my Roth. Can I deserve a catch up provision for this? Could I actually dump another grand?

Sean Humeston

04:50

Sixty 500, over the age of 50.

Steve Savant

04:52

If I’m over the age of 50, I could actually do that. Okay, now I’m looking at this and I am catching up, when I’m doing the actual exchange from qualified plans to this Roth, whatever. If I’m going to make a difference here, I have to figure out that tax bracket that I’m in, just make sure I don’t bracket bump and then as I’m making the conversion am I keeping the same investments or am I looking at different investments on the conversion?

Sean Humeston

05:15

It’s a good question. It’s sometimes not always the case, meaning that you could always go back into the same investment strategy, but most favorably is going to be some arguments that you should actually look at some other strategies, some other investments with that conversion.

Steve Savant

05:29

Well, I read a huge article by the prudential right, who said that the danger zone of retirement is that decade before you go and retire in the decade after, that 10 year period could be terrible for people. They have to really think about it. That’s why we want to try to get people earlier, not later, because the shorter my timeline, the hard it is to maneuver. I don’t have the same kind of flexibility. Alright, so that’s the first thing. What was the other thing you wanted to talk about on the Roth? You said the first part was you wanted to make sure, I’m sorry, I brought up the income issue of, Hey, should I stick with the same investments? If I don’t, most people are in the mutual funds and ETFs, most of them, so what am I putting it in? I’m kind of close to retirement, I’m a little afraid to stay in the market.

Sean Humeston

06:13

So after you convert and now you’re in a tax deferred slash tax free environment, the question is, is do I want to protect this money? Or do I want to still put it at risk for growth? And that can be done in a mixture of things. Obviously, some guaranteed positions or you can still be a hedging inflation with some growth, maybe a combination. But we would argue that that money should really start to be preserved and protected.

Steve Savant

06:40

I would think that the vast majority, and I don’t want to speak for my generation, but I think the vast majority of baby boomers are a little gun shy after 2008. I mean we just got back to even about 2:15 really got even back to even. And so now we’re thinking about punching out or retiring between 65 and 70. You know, I’m a little gun shy to go through it. I don’t know if I can afford. I don’t know if I can afford to take another hit like 2008.

Sean Humeston

07:01

Yeah, there’s a lot of concern there. Of course we feel that the markets are at possibly their all time highs, so you know, taking off some of that stuff off the table. Does that make sense? You know, and so that’s part of the reason that we have that conversation with those.

Steve Savant

07:16

Okay. So, I want to convert Roth without putting myself into another bracket if I can, that’s my goal. I want to try to convert as much as I can before I take constructive receipt of my retirement. I may have to think about moving away from mutual funds and ETFS to a more conservative posture. Right?

Sean Humeston

07:34

Correct.

Steve Savant

07:34

And that means that some of these people are going to have and I think it was a great idea, you need to do a risk tolerance test. He did find out, hey, where are you at? And if people have any bit of concern or they’re on the bubble that they seemed to start moving to more conservative posturing. Now I still have money, just so our listeners know, I still have money in the market, but a lot of it’s been converted. Now I’m way past that stage. So I have a good chunk in it, but my majority is not. It’s in conservative, it’s sitting on the sidelines waiting to annuities or to see what my expenses are going to be when I turn 70. Now, you deal with a lot of people that retire. You’re kind of rewrite on the edge of being a millennial energy, like a so you’re not really a gen x or higher. So you’re looking to all, your clients are predominantly older, you know, they think, I think they could be your dad. Right. Okay. So tell me, how do they look to you? How did they get in front of you? You have so many clients that are baby boomers and you attracted these people. Are these some of the tactics and attract your clients?

Sean Humeston

08:32

Oh sure, sure. You’re talking about Roth conversions?

Steve Savant

08:36

Yeah conversions, sure.

Sean Humeston

08:37

Yeah. I mean, that’s a huge button for a lot of people and that generally it seems like every time we come in for a consultation, somebody that I don’t know that I’ve met for the first time, the question usually comes up. Should I convert my traditional IRAs for 401K is, etc. So that’s usually a really big topic.

Steve Savant

08:54

Now if I want to convert, and I’m not under the same when I have Roth IRA, I may not qualify to put out so much money. Remember it’s means tested. So if I’m making a lot of money, my AGA is high, I can do that, but if I’m just rolling it over to those rules, apply to the rollover?

Sean Humeston

09:08

No.

Steve Savant

09:08

Alright, so I’m good with that. I can look at that.

Sean Humeston

09:11

Yeah, you can transfer as much over as you want. Of course you’re going to be taxed on that distribution. So you want to sometimes, like we had mentioned before, phase it out over several years. Right? Keep that, keep that flow going. And for some it doesn’t work. It just flat out doesn’t work, but for a lot of guts.

Steve Savant

09:25

Okay. And I, that’s one thing I really like about you showing you or if it doesn’t work, we’re not going to try to force a square peg in a round hole. It’s just not gonna happen. So we want to make sure that there’s always another, as I’ve said on the show 100 times, math and science makes the call. So the math is there, the actual sciences are there, and we’ll I’m all over it. So I want to again, Roth conversions. You were sitting here saying, Steve, I’d like to prep now my retirement for tax free living. I love the idea of moving Mr. Roth and not paying social security taxes because of it. I think that’s huge. Listen, don’t forget to watch our next segment on active money management with ETFs part four of our series on building a firm financial foundation for retirement. And keep in mind before moving forward with any of the ideas on our show, always check with your tax consultant, legal counsel, or financial advisor. Even watching Steve Savant’s money.

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