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Joe Anderson
ABOUT Joseph

As President of Pure Financial Advisors, Joe Anderson has led the company to achieve over $2 billion in assets under management and has grown their client base to over 2,160 in just ten years of the firm opening. When Joe began working with Pure Financial in 2008, they had almost no clients, negative revenue and no [...]

Alan Clopine
ABOUT Alan

Alan Clopine is the CEO & CFO of Pure Financial Advisors. He currently leads Pure Financial Advisors along with Michael Fenison and Joe Anderson. Alan joined the firm about one year after it was established. At that time the company had less than 100 clients and approximately $50 million of assets under management. As of [...]

Published On
January 21, 2020

The Vanguard Total Stock Market Index Fund (VTSAX) comes very highly recommended by JL Collins in his book, The Simple Path to Wealth. So why not put all your money into it? Plus, Joe & Big Al answer your questions on the 4% rule for retirement withdrawals, what to do before and after age 59 and a half, whether to invest in the Roth or traditional thrift savings plan (TSP), and of course, Roth IRA conversions.

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Show Notes

  • (00:48) Why Not Just Go All In On VTSAX?
  • (08:29) If I Retire With $1M and Take a 4% Distribution Starting at 65, Why Would I Run Out of Money If I’m Not Touching the Principal?
  • (14:19) Should I Invest in the Roth TSP or Traditional TSP?
  • (20:42) Penalty-Free Withdrawals Before 59 and a Half?
  • (22:48) What Should Retirees Do at 59 and a Half?
  • (25:30) No Tax on 401(k) Withdrawals in My State – Should I Ignore the Roth?
  • (28:50) Should I Convert More to Roth?
  • (34:40) I’m 24, Making $103K Self-Employed, Maxed Retirement Accounts. Should I Do Roth Conversion from Solo 401(k) to Roth IRA Now?
  • (38:36) Should We Do a Roth Conversion?
  • (41:02) Can I Recharacterize Roth IRA to Traditional IRA?
  • (42:50) What’s the Form to File for Estimated Tax Payments When Conversion Spikes Income?

Resources mentioned in this episode:

WATCH:

January 21 – 24, 2020 ONLY: Download the 48-page companion DIY Retirement Planning Guide!

ROTH CONVERSION RESOURCES:

LISTEN | YMYW Podcast #190: 4 Roth Conversion Options for Tax-Free Portfolio Growth

LISTEN | YMYW Podcast #212: Problems with Ric Edelman’s Argument Against Roth IRAs

LISTEN | YMYW Podcast #255: Breaking Down the Confusing 5-Year Roth Clock Rules

LISTEN | YMYW Podcast #251: Should You Convert to Roth IRA All at Once or Over Time?

LISTEN | YMYW Podcast #248: Is a Roth Conversion Affected By Social Security?

 

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Transcription

Today on Your Money, Your Wealth®, Joe Anderson, CFP® and Big Al Clopine, CPA answer your questions on the 4% rule for retirement withdrawals, what to do before and after age 59 and a half, whether to invest in the Roth or traditional thrift savings plan, and of course, their specialty, answering your Roth conversion questions. But first, the fellas answer a question from Joe’s good friend Mike about VTSAX, the Vanguard Total Stock Market Index Fund. It comes very highly recommended by some investing gurus, so why shouldn’t all your money be in it? I’m producer Andi Last, and if you have a money question or a comment, visit YourMoneyYour Wealth.com, scroll down and click Ask Joe and Al on Air to send it in as an email, or as a voice message, just like Mike did:

00:48 – Why Not Just Go All In On VTSAX?

“Hey Joe, Big Al. Hey, huge fan of the show! I’m stationed overseas in the Navy here and always enjoy listening to your podcast. So I just finished reading The Simple Path to Wealth by JL Collins. In summary, Mr. Collins is a huge advocate of Vanguard funds because of the extremely low expense ratios; specifically, he recommends putting ALL your holdings in the VTSAX Vanguard Total Market Index Fund which is comprised of nearly all 3700 US domestic companies while you’re in the wealth accumulation phase. The fund has an expense ratio of .04 ($400 per $100,000 invested) and has averaged 11.9% return over the last 40 years from 1975 – 2015. And of course, that doesn’t include the last 4 years of these incredible gains in the market. And I know past performance doesn’t guarantee future returns. But when I look at our portfolio with my current financial advisor, we have over a dozen different mutual funds and ETFs, to include 35% international funds all with an average expense ratio of about .38. So Mr. Collins doesn’t believe in international funds because of added risk and expense. He states, “international companies trade in the currency of their home country and are subject to currency fluctuations against the US dollar.” My portfolio isn’t outperforming the Vanguard VTSAX Total Market Stock Index but it’s costing me nearly $20,000 a year in expense ratio fees versus $2,000 a year had I followed Mr. Collins’ advice and had my portfolio solely in VTSAX. When I run these numbers out over the next 20 years or so with the power of compounding, my current portfolio is costing me hundreds of thousands of dollars in expense ratio fees. Not to mention, at no time has my portfolio outperformed the Vanguard Total Market Index. So my question to you guys is why shouldn’t I follow Mr. Collins’ advice, ditch our advisor, and go all in with the VTSAX? All right guys. Happy New Year and again, love listening to the show. Take care.”

Joe: Well that was a mouthful.

Al: That was. That took three minutes just right there.

Joe: I wonder if he wrote that down and-

Al: He must have.

Andi: He did.

Al: That was pretty intelligent.

Joe: – then read it. Michael Martin. Where do we start?

Al: You start and I’ll continue.

Joe: I think he’s got a couple of things right and a couple of things off.

Al: Well, first of all, I like Vanguard and I actually like that fund too. I actually own some myself.

Joe: And so do I. Full disclosure.

Al: Yeah.

Joe: So we are in full agreement that the Vanguard Total US Stock Market Index Fund is a very good fund. It’s very low cost and it comprises of just about every stock here in the US.

Al: It’s the US market. I mean how-

Joe: You’ve got it. Small, medium, value, growth…

Al: -diversified US market with low cost.

Joe: Sounds good to me.

Al: Sounds great.

Joe: So let’s just put all our money into it, Al.

Al: No. That’s the problem.

Joe: So we could get into the expense ratio talk in a second but let’s just look at globally diversified versus not. And that’s really what his argument is first.

Al: Yeah. Because in other words never do international.

Joe: Because what L.L. Bean or whatever the hell his name is. What’s his name?

Andi: JL Collins.

Al: Mr. Collins.

Joe: Whatever.

Andi: LL Bean.

Joe: It’s close enough. So he’s like just go all in on the total US stock market index fund. But what Mikey Martin didn’t- what he suggested was for accumulation phase. So okay, I agree with that to some degree. If you’ve got a couple of bucks, if you got $10,000, $50,000 don’t go into 15 different mutual funds. It doesn’t make any sense. It’s way too expensive. Put it all in the total US stock market index fund and let it go. I agree with that 1000%. But as soon as you start creating a little bit more wealth for you and your family then diversification is going to be a key component in your overall strategy. So the total US market has done quite well over the last 10 years Alan.

Al: Very much so.

Joe: Right. So let’s not go into international because there are currency fluctuations. There’s more risk and there could be a little bit higher fees. Of course. If I am investing internationally it’s going to cost me a little bit more money a couple of bucks more to invest in those companies especially in emerging markets than it would be to buy Coca-Cola. So that doesn’t- it is what it is.

Al: It’s a higher expense.

Joe: But if you look at 2000 through 2010 when the US stock market was down 10%, what was international?

Al: They were up I would say on average about 150%.

Joe: Right. In total return. Now I had those numbers in front of me at some point.

Al: I mean some were more, some maybe were less, but or even high 100%s, I mean close to 200%.

Joe: So you’re loading up 100% of your wealth in one country. And we talked about this earlier in the show is that what the global market capitalization of the US is only 40%. Everything else is 60%. So you’re giving up 60% of total return of other countries.

Al: And to me the most striking thing is that the international stocks tend to go up and down at different times than US. And then if you think of well okay, so the international stocks did very well the first decade of this century, and domestic stocks have done really well the second decade. Now we’re not market timers but US stocks then it would stand to reason are more expensive than international. International stocks are cheaper which means there’s a future higher expected return. So I’m not going to say to market time I’m really not. I want you to have a little bit of each. But the reason why you have international is so you have a smoother ride. Because the expected rate of return for an international stock is the same as it is a US stock. They just tend to have different cycles and so that’s why you might have some of both.

Joe: You want to make sure you look at correlations too when you have a diversified portfolio. If you have a correlation of one it’s going to move up and down together. If you’re trying to get some negative correlation in regards to your overall investments some are going to zig while others zag. That’s what you want in a real true strategy. Also, how are you going to rebalance if all of your money is sitting in one fund? Sometimes smaller companies outperform larger companies. Value companies sometimes outperform growth companies. If I have one fund that’s market-weighted in a giant index fund there’s no way for me to control my risk there or take advantage of other asset classes that potentially could outperform because I have a little bit more risk. So if you take all of that into account, how do I tax loss harvest? How do I-? I mean there are so many other components to this. But if you put all of that, that is going to add up significantly more alpha or more value than the 20 bips that you’re paying extra from the expense ratio of a mutual fund that’s international to your total US stock market index fund. So Mikey Martin, thank you so much for your service. We really appreciate you, Bud.

Al: And thanks for your question.

Joe: Yeah, thanks for your question, kinda.

08:29 – If I Retire With $1M and Take a 4% Distribution Starting at 65, Why Would I Run Out of Money If I’m Not Touching the Principal?

Joe: We got Leticia from San Diego Alan. Andi really wanted us to answer this question by the way.

Al: She did.  She’s curious of our answer.

Joe: She’s like, “if you guys answer any other question but this I’m gonna be very upset.”

Al: Yes, please. Please answer this one. So that means-

Andi: I’m being so misquoted. Sheesh.

Joe: “Believe me. I swear. I’m walking out if you don’t answer this question.”

Al: But that means Andi expects to retire with $1,000,000 at age 65.

Joe: She’s like, “I’m really interested in this.”

Joe: So Leticia, she writes in “If I retire with $1,000,000 and start taking a 4% distribution for the rest of my life starting at age 65, can you explain why I would run out of money if I’m not touching the principal on my investment? Thank you.” I’m not sure why you would run out of money, Leticia. Well, it depends on I guess rate of return.

Al: It depends on your rate of return. In fact what if the market goes down 20%? You are touching your principal to pull out the 4% and see I think that’s part of the misconception. The 4% is just kind of a rule of thumb as to what you can withdraw. And that’s based upon 100 years of history that the stock market earns around 10% and bonds earn around 5%. Now lately bonds have earned less and stocks have kind of been near that I guess-

Joe: It’s probably 2% and 6%.

Al:  But that may be – there’s no guarantee. The problem with the 4% rule is the market is not steady. Some years it goes up, some years it goes down. You will be touching the principal unless you’re all fixed income. Fixed and only living off the interest but then you’re not going to be living off 4%. Now if you have 100% fixed income you’re not going to lose money on your investments per se but you’ll have a much lower lifestyle.

Joe: So Letitia says I have $1,000,000. I’m going to start taking 4% out of it. So that’s $40,000 a year. So as long as she takes $40,000 or less out of the year the probability of her not running out of money is fairly high for a 65-year-old female.

Al: For a 20- that’s likely for a 25 year period. The longer it is than that it becomes a little bit less likely but it’s still probable. And that’s based upon historical rates of return.

Joe: Because what they’re looking at is that in a 60/40 portfolio they ran thousands and thousands of iterations of what an individual could pull out of a portfolio from a percentage to have a sustainable distribution rate. And this is Bill Bengen. He’s right down the street in San Diego.

Al:  It is. El Cajon.

Joe: The Cajon. And so they came up with, if you pull out 4% you have a high probability that you’re not going run out of money. Because on average 70% of the time the market’s up, 30% of the time it’s down. If you have a 60/40 split you could probably anticipate an average rate of return of 6%. And if you take 4% out you have a 2% buffer for inflation. So that’s where the 4% rule came about.

Al: And that’s about what, a 95% probability? Give or take, it’s not guaranteed.

Joe: No it’s not a guarantee at all. I think it’s not a great rule from a distribution standpoint. It’s a really good rule to see how much money you need to accumulate. So to get people in the ballpark. So Leticia wants to retire at 65. She needs $40,000 from the portfolio. A good rule of thumb is to say we’ll get to $1,000,000 or more and you’ll have a high probability of creating that income from the overall portfolio. Versus sometimes people will have $400,000 and they’ll take $40,000 out because they heard the stock market does 10% per year. So you want to look at a- it’s a more of a conservative approach but it’s not like every year you’re going to pull $40,000 out. Because like Al said if the market drops 25% depending on what your allocation looks like that 4% distribution rate could go to 6% and then now your probability of running out of money goes higher.

Al: So you’re pulling money out while the market’s down and so it’s much harder to recover then. So it makes- we call it sequence of returns. So if your first few years of retirement the market is down quite a bit, it makes it more likely that you’re going to run out in terms of probabilities.

Joe: Did that answer your question?

Andi: Yes. Thank you. I was specifically interested in the fact that she said she’s not gonna be touching the principal. Because that is assuming then that the market is going to be making more than 4% each year during her retirement.

Al: The probabilities are there but it’s not every year.

Andi: Yeah, it’s not a guarantee.

Al: Now if she had 100% fixed income-

Joe: If she had a guaranteed 4% rate of return that she bought some magical product from Jack and the Beanstalk. Or the average annuity salesman.

Al: Because like a 100% fixed income portfolio would probably pay 2.5%? 3% maybe?

Joe: Maybe?

Al: Maybe. Which means by definition you’re gonna be taking out a principal to pay yourself 4%. So you’re gonna have to have some in the market if you want 4% which is not guaranteed.

How about you, can you take a 4% distribution from your portfolio every year in retirement and have your investments last as long as you do? It’s hard to know, especially when you have to navigate market volatility like we just discussed, as well as tax uncertainty, rising healthcare costs, and the future of Social Security. Our Retirement Readiness Guide can help you get on track. Click the link in the description of today’s episode in your podcast app to go to the show notes at YourMoneyYourWealth.com and download the Retirement Readiness Guide for free. It’s got 7 plays that will help you prepare for a successful retirement and it won’t cost you a nickel. If you have further questions about your investments and making your money last in retirement, click the Ask Joe and Al On Air banner in the show notes to send them in as a voice message or an email.

14:19 – Should I Invest in the Roth TSP or Traditional TSP?

Joe: René from Maryland. He writes in Al. “I need the best of your advice.” Not average.

Al: Not our normal advice.

Joe: Not our normal advice that we give to people that are in a combat zone.

Al: Let’s step it up a little bit.

Joe: But the best. Stop slacking around guys.

Al: Ok. Gonna try to concentrate.

Joe: “I have worked for the United States Postal Service as a letter carrier for almost 12 years. My current income is about $62,000 paid hourly but I did almost $35,000 last year in overtime. I only have a very minimum amount saved in my TSP account $41,000. My employer matches 5%. I’ve been contributing more than 20% after taxes to my TSP and maxed out $19,500 in 2019. I intend to do that next year as well. That’s $1500 a month. A little bit more than 30%. What’s the best way to go with my TSP account, traditional or Roth? All my savings is currently in the Roth, C fund 90% and F fund 10%. I’m not sure of the smart choice for the future. I’m 45, single, no kids, and I have a 20-year mortgage that I plan to pay off in 10 to 12 years. I’d love to retire when I’m 60, 62. Considering the type of work I do, a 100% physical to perform the job.” Letter carrier walking, miles. I wonder how many miles René walks.

Al: Well I’ll tell you. It’ll keep you in shape that’s for sure. Keep you young. It’s a good profession. Thinking about switching.

Joe: You’d last a minute.

Al: Get bit by dogs.

Joe: Yeah I know. The mail never stops. “I plan to go back to my home country in Central America to meet my mother and brother when the time comes.” Oh, that’s kind of a weird twist to the story. “I made a big mistake when they made me full time permanent at my job. I didn’t pay attention. I didn’t know how the TSP plan worked so I never did the correct contribution and let the time pass. Thanks so much.” I don’t know, he’s jammin’ away now. Should he go Roth or traditional Al?

Al: Well, first of all, I would say René, better late than never.

Joe: But he’s still young. How old is he?

Al: Yeah I was trying to figure-

Andi/Joe: 45.

Joe: Super young.

Al: So you’re gonna contribute for another 15 to 17 years. I mean that’s very good. And Joe’s going to calculate how much you have based upon a certain rate of return. In terms of Roth versus traditional on the TSP, I would say one answer is it depends on your tax bracket now versus where it’s going to be in the future. However, I think in most cases people, when they retire, would like to have at least some Roth. So if I were you without knowing any more about your situation I would at least allocate at least some to the Roth IRA just so you can have some tax free growth. Put your C fund in that because that’s going to have higher growth. That’s the common stock fund as compared to the F fund. The F fund you want to have in the traditional side. So we need a lot more information to answer that question correctly. But just based upon what little I know I would allocate at least some.

Joe: So I think you’re doing pretty good René. You’re 45 years old. You’ve got $41,000 in the overall account. Now you’re maxing the thing out plus your 5% match. You want to work another 20 some odd years. And you want to go back to your home country in Central America, it might be a little bit cheaper than Maryland. If you keep doing what you’re doing you get a 7% rate of return, hypothetically you’re gonna have $1,000,000 at retirement. You’re gonna get Social Security. You’re also going to probably get a pension through the postal service.

Andi: So he can still take all that stuff even though he’s gonna be in another country right?

Joe: Sure. He’s a citizen. I think you’re doing fine. 45. It’s not like you’re 65, you want to retire two years. You got 20 some odd years left to go. Let’s say you retire at 67 at full retirement age, but if you want to retire at 60 or 62 it’s gonna be a little bit of a stretch. 65, I think is probably a pretty good number for you. That’s 20 years. I know lifting that bag and maybe you get a little, you could sort the mail in the- instead of being a letter carrier.

Al: Yeah but that’s not as much fun, being a sorter. It’s more fun to go out, be out in the field.

Joe: In Maryland dude, it’s cold there too right? I’ve never been to Maryland.

Al: It keeps you young because you gotta get-

Joe: Well look at Big Al, who’s a CPA sitting at a desk.

Andi: Saying ‘it’ll keep you young’.

Joe: And he’s like yeah.

Al: That’s why I feel so old.

Andi: René at 45 is going, “I’m ready to quit.”

Joe: I know. He’s 45. He’s like, “I’m spent. Get me the hell out of here.”

Al: Another way to look at this is if that’s right and I’ll assume your calculations are right Joe, $1,000,000 and depending upon how much your pension is which will be all ordinary income you actually might want to favor a little bit more in the Roth. Because you probably have a lot of ordinary income anyway. So that might be another consideration.

Joe: Got it. Thanks a lot for your email René in Maryland. I don’t know why we’re getting all these TSP questions. Apparently we don’t know anything about the TSP. And by the way your advice of saying we’ll put a little bit in the F fund and this is- that was really good.

Andi: Well actually what do you think about that, 90% in C fund and 10% in the F?

Joe: How the TSP is structured, I’m not going to get into it. That’s fine advice because someone’s going to call me and school me. But I like the pro-rata of everything because that plan is so cheap. It is not very efficient in regards to how you can maneuver the dollars around. You take dollars out of the account let’s say like he’s got 80% in the C fund and what 20% in the F fund.

Andi/Al: He’s got 90%/10%.

Joe: 90%/10%. Whatever. You take a $1 out it’s gonna be 90%/10%. You can’t choose. So everything’s kind of pro-rata there. But anyway, we got another one.

20:42 – Penalty-Free Withdrawals Before 59 and a Half?

Joe: You’re pointing at something else you want me to say before we-

Andi: Just the next one.

Joe: Okay. You like Jackson. From New York City. “This is made in New York City!”

Andi: “Pace Picante Sauce. Get a rope.”

Joe: “Get a rope. I thought this was from El Paso!”

Al: You know your commercials, I’ll give you that.

Joe:  I really love that commercial. “What strategies can you recommend-” This is Jackson by the way. That’s a pretty cool name.

Al: Yeah. Like it. Yeah.

Joe: “What strategies can you recommend for penalty-free withdrawals from retirement accounts before 59 and a half? My wife and I are 32 and 29 and in the 22% tax bracket and hoping to be able to retire early on our traditional 457 bonds, state pension, and my Roth 403(b) contributions. My plan is to roll over my 403(b) into my Roth IRA when separated from service and using those contributions immediately to supplement. Is there any penalty for this? Or are we better both contributing to pre-tax retirement accounts? Thanks.” Jackson, he’s part of the FIRE movement it sounds like. He wants to FIRE. He wants to FIRE up.

Al: He wants to retire early. Financial Independence Retire Early.

Joe: Here’s what I would do Jackson. You’re 32, 29 you got a long way to go. 457 plans, you are eligible to take those dollars out at any age as long as you separate from service. Sounds like the wife’s going to have a nice little state pension so you can live off that. I would not touch the 403(b), Roth or anything like that. I would start saving into a brokerage account, a non-retirement account. Start building up some non-qualifying assets. Then leave the Roth and let that continue to compound and take that out at 59 and a half or 60 because you want to retire a lot earlier than that it sounds like. Because he wants penalty-free action before 59 and a half and they’re probably saving a ton of money. They’ve got a pension. I would start building up a non-qualifying account. I wouldn’t start blowing out of Roths early. You have access to its FIFO, First In First Out treatment so- But be careful. I mean it’s a really good account for the long term. You’re retiring early but you’re going to live a hell of a long time so you would like to have those tax free funds later in life.

22:48 – What Should Retirees Do at 59 and a Half?

Joe: Starling. Is it Sterling or Starling?

Andi: Starling.

Joe: My good buddy’s name’s Sterling. Starling. I like that name.

Al: Starling from Hawaii.

Joe: “Aloha. I’m a Federal Government employee and I turn 59 and a half in two months. The age of 59 and a half comes up in just about every conversation about retirement. Can you switch the conversation to things you can and should do when you reach 59 and a half? I personally have a TSP, traditional TSP, Roth, traditional IRA, and Roth IRA. I follow your show on YouTube.” Can we talk about something you should do at 59 and a half besides retirement?

Al: Yeah. What should you do at 59 and a half?

Joe: This is the strangest question I think I’ve ever- I don’t know.

Al: I guess we could answer it this way, the reason why 59 and a half comes up is because that’s the age that you can pull money out of your IRA without penalty. You still have to pay income taxes on a traditional IRA but you don’t have to pay that 10% penalty. So that’s why this comes up. So a lot of folks that are-

Joe: But what should you do when you’re 59 and a half Al? You live in Hawaii, Starling. Maybe you play golf.

Al: Surf.

Joe: Surf. Hike.

Al: Enjoy your life.

Joe: Smell the flowers. That’s what I would do if I was 59 and a half in Hawaii.

Al: I would say there’s not that much different, the things that you do before are similar to after. You want to keep contributing to your retirement accounts. If you feel like retiring, and you can afford retiring, depending upon your federal pension and all of these sorts of things, then you can pull money out without any penalty. So that’s the good news. The good news is when you want to retire now that you’re 59 and a half you can do so and take money out of your traditional IRA without penalty.

Your Money, Your Wealth® isn’t just a podcast, it’s also a TV show! Check out the YMYW episode on DIY Planning for Retirement, I’ve put it in the podcast show notes for you – just click that link in your podcast app or visit YourMoneyYourWealth.com. I’ve also linked to our Special Offer, the companion DIY Retirement Guide, which will only be available until January 24. The 48 page DIY Retirement Guide has steps to understand and plan your retirement income, strategies for choosing a tax-efficient distribution method, tips on preparing for the unexpected, and much more. It will only be available for download until January 24, 2020, so don’t miss out. Click the link in your podcast app or visit YourMoneyYourWealth.com. If you’ve got questions on ANY personal finance topic, go to YourMoneyYourWealth.com, scroll down and click Ask Joe and Al On Air to send them as a voice message or an email and get your answer right here on YMYW.

25:30 – No Tax on 401(k) Withdrawals in My State – Should I Ignore the Roth?

Joe: We got Kenny from Granite City. He writes back in. Granite City. Remember Kenny?

Al: I do.

Joe: “Hello Andi.”

Al: He opens with that.

Joe: I know.

Andi: Because he emailed me directly.

Joe: Got it.

Al: Okay.

Joe: Here with another question “My state Illinois has a 5% plan income tax. However, the state does not tax 401(k) withdrawals. Based on this should I ignore the existence of the Roth 401(k)? And stick with the standard 401(k)? I appreciate the information that the fellows provide and yourself for keeping them in line.” Well, it’s 5% savings Kenny. It depends on how much money you have in a retirement account. Because you’re still going to be taxed federally.

Al: So I guess what he’s saying if he continues to put money into the regular 401(k) he’ll get a tax deduction and save the 5% tax and when he pulls the money out it’s tax-free in the state. So there is some advantage for sure. There’s no question Kenny there’s an advantage of just doing the regular. As far as your federal tax rate though that’s usually a bigger dollar amount. Like if you’re teetering between the 12% bracket and 22% bracket depending upon your income. Or if you’re teetering between the 24% bracket and 32% you might want to do conversions while you’re in those lower brackets to avoid larger brackets. That savings might be greater than 5% but that requires a lot of calculation I would say to figure it out.

Joe: But Kenny’s like loaded. He’s got a lot of money in a retirement account. If I remember correctly. You don’t remember Kenny from Granite City.

Al: I do. I don’t remember his situation. That was before the holidays.

Joe: Oh.

Al: That was like a decade-.

Andi: Let me catch you up.

Joe: No, that’s fine. I don’t need it. But I know he got- but let’s say if he’s got a lot of money in a retirement account. Would your advice change on that?

Al: If he’s got a lot of money in a retirement account you’re gonna want to look at it more closely. Because the required minimum distribution might put him in a lot higher tax bracket. And therefore the extra federal tax to pay might be greater than the state tax he would save. So I think the more money in the retirement account the more likely you want to take a closer look at this.

Joe: I guess I sent his Echo speaker off.

Al: You did.

Joe: I remember we were going-

Andi: Alexa. Now it’s me.

Joe: Alexa. We did that with a couple of people.

Al: Yeah. Yeah. Danny Martin texted me. Said she heard that song. One Thing Right by Marshmello.

Joe: I don’t know what that is.

Al: I don’t either. Is that what you asked for?

Andi: Apparently that’s what you ordered. One Thing- Let’s play that. One Thing Right by Marshmello. That’s probably my new favorite song.

Al: Probably.

Joe: I’m now familiar with the song One Thing Right. Perhaps Al isn’t quite there yet. Probably not. You don’t even know who Marshmallow is.

Al: I didn’t even know what Echo was.

Andi: Do you want to see what happens when we play it?

Joe: Yeah let’s do it.

Andi: Might get an ad we’ll see.

Joe: Let’s see-

Andi: Yeah, we got an ad. Oh well.

Al: Got an ad. Never mind.

Joe: So let’s go to- Thanks Kenny for that. I’m listening.

28:50 – Should I Convert More to Roth?

Joe: Jerry from Whittier, California. “I listen to your podcasts and it’s a great show. Very informative with lots of comedy. Here’s some history. My wife and I are both 60. I’ve been retired for 3 years and get a $110,000 a year disability pension. Because of the disability about $40,000 thousand of its taxable, $70,000 is tax-free. If I get hit by a bus and die my wife will receive about $75,000 a year from my pension, with most of it being tax-free. My wife works 3 to 4 days a month $15,000 a year, which is used for her Nordstrom’s addiction.” Wow, Jerry. She probably looks good though. Well, you should- who cares? Keep shopping. “We both plan to take our Social-” Are we going to get an email from that one? Is that what-

Andi: I don’t know.

Joe: Okay. Just keep me in line. “We both plan to take our Social Security at age 62 because we really don’t need to live on it.” So they’re gonna take their Social Security at 62? “Because we really don’t need to live on it?”

Al: That’s what he’s saying.

Joe: So they might as well take it now. “I will get hit with a Windfall Act, so mine will be only a few hundred dollars a month. My wife will stop working at 62 and use it for Nordstrom’s. I think she will get about $1500, $2000 a month. House is paid off and the only bill we have is one car payment of $400 a month and pay $1000 dollars to pay it off faster. My wife has $250,000 in her 401(k) and a $100,000 in her Roth. I have $550,000 in an IRA, $250,000 in a Roth and $100,000 in a trading account. So the question is our MGI-” I guess that’s MAGI-

Al: Yeah. Modified Adjusted Gross Income.

Joe: He forgot the A.

Al: Yeah, no A. But that’s okay. We’re still with you.

Joe: “- is roughly $31,000 a year so we are in the lowest tax bracket. For 2019 I converted $40,000 from an IRA to a Roth IRA in hopes of staying in the lowest tax bracket. After listening to your show you both seem to like converting more into the tax-free.” Yeah. I guess we’d like to convert more. I don’t know how much more. “I’ve increased the tax withholdings in my pension to cover these taxes needed to pay for this year’s conversions. If I convert more than $40,000 I would need to withdraw the tax money from the Roth to cover it.” Oh, I would need to withdraw the tax money from the Roth to cover it?

Al: That’s what he’s saying.

Andi: Realize, he sent this question on December 20th.

Joe: I got it. Well, he can apply this to 2020. “So should we convert more to the Roth then take a distribution to pay the taxes? Or stick with the $40,000 a year and let the pension tax withdrawal cover it? At $40,000 a year, we will never be able to convert all of the IRAs to Roth. That’s assuming the IRA continues to gain in the market. My tax guy doesn’t think it’s a good idea to convert more and moving us into a higher tax bracket. I’m not confident that he’s correct in his thinking. I hate paying taxes but realize it has to be done. I do love the Roth. Also, we travel a lot and will need to take some withdrawals from a Roth to cover these trips. If you think we should convert more, how much more would you suggest? I’m not sure of all of these bracket amounts. Thanks for your help.” Whooo. I’m tired.

Al: It took a segment to read the question.

Joe: I know. What do you think?

Al: Well I think first of all they say- he says they’re both 60 and they’ve got money that they don’t really need. So she’s got a 401(k) with $250,000. He’s got an IRA with $250,000 so that’s about $500,000. And if it’s growing at 7% in 10 years it’s worth-

Joe: I have $550,000 in an IRA.

Al: Oh did I get that wrong? Oh yeah, $550,000. Sorry, thanks. So about $800,000 in traditional types of accounts which in 10 years from now at a 7% rate of return could be double.

Joe: How old is he?

Al: 60. So that’d be $1,600,000. So the RMD on that would be $60,000, $65,000, something like that first year. And so add $65,000 to your current income and look and see what tax bracket you’re in. And that gives you an idea of what you might want to convert into as far as a bracket. Also, remember that we’re in lower brackets now than we’re supposed to have starting in 2026 because the old tax law comes back.

Joe: A couple of things, push out Social Security. Don’t take your Social Security. Because that’s going to be added to your overall income.

Al: He could probably take his because a Windfall Elimination Act it hardly matters.

Joe: Yeah, $200. Who cares? But the wife, push the thing out.

Al: I agree with that.

Joe: If she wants Nordstrom money I get it. Take it out of the retirement account or take it out of the trading account or something like that. Push that thing out just because it’s adding income to the overall tax return that’s going to give you more room in those lower brackets to convert. Then all those dollars are gonna compound tax-free for you. You already got the disability tax free some of it’s taxable. If you were to pass away that’s going to give your wife more tax-free income as well. Because all of these retirement accounts, let’s say if Jerry passes are gonna be now in her name and then her RMD is gonna be the same. Now she’s a single taxpayer. She’s going to lose more of that to taxes. So we’re not saying go crazy with it but I think you’re right on with the 12%, the 22%, probably might make some sense.

Al: It might make some sense. Plus you say that your pension will go from $110,000 to $75,000 if you pass. Be nice for your wife to have a higher Social Security benefit to cover that.

Joe: Right. So our, I guess take is to push out Social Security. Still live off of, she needs Nordstrom, take it from somewhere else. Convert to probably the top of the 22%. Do not pay the taxes from the Roth. Use other accounts to pay the tax such as your brokerage account. Hopefully that helps, Jerry.

34:40 – I’m 24, Making $103K Self-Employed, Maxed Retirement Accounts. Should I Do Roth Conversion from Solo 401(k) to Roth IRA Now?

Joe: We got Cindy calling from California. Or she’s not calling, she’s writing.  She goes “Hi. I’m Cindy from Podcast 253.”

Al: I think she means she listened to it.

Andi: She was in it.

Joe: Hello Cindy from podcast 253.

Andi: She asked a previous question.

Al: Oh she was in it.  We answered her question. Thanks for that clarification.

Joe: “I’m 24 years old in California with a Roth IRA, SEP IRA, solo 401(k) with some Roth, maxed out and make a $100,000 a year. Should I do a Roth conversion from my solo 401(k) into my Roth IRA now?” OK. Cindy from Podcast 253. She’s 24, making a hundy a year. That’s pretty impressive. She’s got a bunch of accounts. Should she do a conversion? She’s in- I wonder what her taxable income is. If her taxable income’s $100,000 a year-

Al: Yeah let’s just say it’s standard deductions, which is $12,000-ish?

Joe: She’s in the 22% tax bracket?

Al: Yeah. Which goes all the way to about $160,000?

Joe: Yeah.

Al: I mean that would be OK. No that’s actually 24% bracket. But that would that be OK to convert into that given that she’s already making this salary at 24.

Joe: The top of the 22% goes what $160,000?

Al: No that’s the top of the 24%. Single.

Joe: Oh yeah for single.

Al: So I might think about that. I might think about converting. So let’s just say your income is $100,000 and the standard deduction I’ll just round at $10,000, your taxable income’s around $90,000. So you got about $70,000 of room give or take to do a conversion. Being that you’re 24 and it could grow for four decades or more tax-free, that might be a good idea.

Joe: That just seems like a lot to me. I don’t know how much- I forget how much Cindy from Podcast 253 has. That’s probably why we should’ve listened to Podcast 253-

Al: We probably should have.

Andi: Actually, that’s all the information that we have about it.

Joe: Do you do a conversion? I don’t know. I mean maybe. I think maybe you just- at a $100,000 of income, I would maybe just switch my contributions to Roth. Maybe do smaller conversions. I don’t want her to spend all this money on tax that she might need as a liquid reserve.

Al: It depends on what she has in a brokerage account outside of her retirement accounts. If she’s got excess dollars then you’re right that probably makes more sense. If she doesn’t, in other words, if she has to get into her emergency cash fund that’s probably not a great idea.

Joe: Because what, $84,000’s at the top of the 22%?

Al: Yep.

Joe: Thanks Cindy from Podcast 253.

In case you hadn’t noticed, Roth IRA conversions are one of Joe and Big Al’s favorite topics of discussion and by far the subject we get the most questions about here on YMYW. I’ve posted several Roth conversion resources in the podcast show notes, including 4 Roth conversion options for tax-free portfolio growth, what Joe and Big Al have to say about Ric Edelman’s argument against Roth IRAs, the 5 year Roth clock rules, whether it makes sense to convert all at once or over time, how a Roth conversion and Social Security benefits might affect one another, doing a Roth conversion this year and applying it to last year, and, last but not least, you can also download the Roth IRA basics guide. Click the link in the description of today’s episode in your podcast app to go to the show notes at YourMoneyYourWealth.com and you can access all of these resources for free. And if you know someone who could benefit from this knowledge, why not share it with them too? Now, you guessed it, we’ve still got a few more Roth conversion questions.

38:36 – Should We Do a Roth Conversion?

Joe: What do we got next? We got Will.

Andi: You remember Will.

Joe: From Philly.

Andi: The gas siphoner.

Joe: “This is the greatest podcast ever.” Thanks, Will. “You guys and gal are awesome. After some more podcasts, I learned that this is the proper way to start a question. Oh, and the location, Philly, PA.” That’s right, Will. Stop sucking on gas.

Al: Now we know.

Joe: That was good.

Al: That was good, I remember. “So the questions are after learning Roth conversions which can be done at any time, should I do it now? I only have maybe $10,000-” Let me see, “I have only $10,000 since last year. You know my family’s situation but last year’s AGI was around $58,000 and taxable income was $34,000. We do get subsidies so how much would we convert to not impact that? Do we get a form from Vanguard or do we just tell our accountant? Thanks again and I repeat, the greatest ever.”

Al: That’s very nice.

Joe: Thank you, Will. I really appreciate that. This just gave me a very large head. We are the greatest podcast ever.

Al: More than you already have?

Joe: Yes, according to Will from Philly, PA.

Andi: Remember he worked full-time, part-time, overtime, halftime. He was all over the place.

Al: Got it.

Joe: He does a lot of things.

Al: So he’s married with one child, so that means a family of 3. I did look this up Joe, so-

Andi: 41.

Al: Age 41 so he’s getting a subsidy for his health care. So the poverty rate for 2020 for a family of 3 is about $21,000. And if you multiply that by 4, for 400% it’s about $85,000. That would be the highest modified adjusted gross income that Will could have and still get a subsidy for health insurance. Although the more income you make i.e. Roth conversion the lower your subsidy is. But when you hit that $85,000 number it goes away completely, the subsidy. So you do want to be mindful of that. And if your income’s about $58,000 and what I said was $85,000 that’s less than $30,000 I wouldn’t even push it. I mean the most I would do is maybe $20,000 additional Roth conversion.

41:02 – Can I Recharacterize Roth IRA to Traditional IRA?

Joe: Yeah we got Teri from Denver. “Greetings all. Joe, Al, and Andi. And a Happy New Year.” Well, Happy New Year to you too Teri. “I was walking on New Year’s Eve after the market closed and I was listening to Podcast Episode 254.” Was Cindy on Episode –

Andi: Nah, she was 253.

Joe: 253.

Al: Oh close.

Joe: Got it. “-which discussed re-characterization of Roth and had either an “AHA” or an “ah 💩” moment. If you know what I’m saying. For the first part of the year, I contributed to a 401(k) Roth. However, when I realized I was going to leave the company with severance which boosted me in the 37% tax bracket I switched it to traditional. Since now leaving the company I’ve rolled over my 401(k) into an IRA and Roth. But can I re-characterize the Roth to traditional? Was it ever a possibility? Too late? I think the answer is probably no. But if there’s any way to save on a tax bill I’m all ears. Never pondered this possibility.” Teri, good question. And I think you answered your own question.

Al: Yeah. The answer is no. The only thing you can re-characterize these days is if you do an IRA Roth contribution sorry, and you don’t qualify. Then you have to be able to re-characterize it next year. And you find out if you qualify or not after you file your tax return and find out what your adjusted gross income is.

Joe: But hey congratulations. You left your job. You got a nice little severance. It puts you in a little bit fat of tax bracket, but that means you probably have a little bit of cash in hand and you know-

Al: That’s right. Living in Denver, probably close to the slopes, skiing.

Joe: Skiing.

Al: Near Breckenridge.

Joe: Loving it.

42:50 – What’s the Form to File for Estimated Tax Payments When Conversion Spikes Income?

Joe: We got James calls in, writes in from Arizona. “Happy New Year YMYW team. I’m wondering if you can assist.” Mm-hmm. All right. Let’s see. “I did a fairly large Roth conversion in December 2019. I’ve listened to hundreds of your podcasts.” James, you have a problem if you’ve listened to hundreds of this garbage.

Al: Do we have that many?

Joe: Yeah I guess 253 means 253.

Andi: Actually we’re at 255 now.

Joe: We’re at 255 episodes. We’re probably more than that.

Andi: By the time this airs yeah.

Al: Well considering all the stuff that’s in the archive that we’ve lost.

Joe: The archives. “I’ve listened to hundreds of your podcasts in the past few months and I recall-” in the past few months James?

Andi: He’s on a binge.

Joe: Oh my God. It’s called problem child. “-and I recall that you mentioned a form to file so the IRS does not penalize me for underpayment for his underestimated tax payments for the year since conversion will spike my 2019 income. Can you please advise what that IRS form is. I’ve searched around the IRS website but it was useless. I do plan to go back and listen to all the podcasts again but it would take some time to find that specific episode so I thought I’d just ask outright. It might be good to remind others as well. Thanks for everything you do and best wishes in 2020.” So James, start.

Al: Well James I’d recommend you start listening now. In another two months you’ll get the answer. You and I were thinking the same thing. But because I’m such a good person I’ll give you the answer again. It’s Form 2210. 2210. 2210.  2210.  That’s the form that you fill out to calculate your underpayment penalty or to avoid an underpayment penalty. What you want to be concerned about is the last page. Page 4. That allows you to do what’s called the annualization method. It allows you to report your income at different points throughout the year. And so if it’s uneven then you can make estimated payments based upon that uneven income and that works really well if you get a big payoff for Roth conversion or something large at the end of the year. You just have to make that estimated payment potentially in that fourth quarter.

Joe: Teri from Denver might need to do that too because she got a little severance. And the 37% tax bracket because of that severance.

Al: Although probably she has withholding on that I’m guessing.

Joe: Never mind.

Al: But it may not be enough. So I’ll keep contradicting you. Just keep talking. In that case, she’d have to do an estimated payment. Potentially.

Joe: So that’s it for us. Thank you for your email questions folks.  Keep on bringing them in.  We’ll try to get to them each and every week. Thank you, Andi.  Thank you, Big Al. I’m Joe Anderson. We’ll see you next week.

_______

Click Ask Joe and Big Al On Air in the podcast show notes at YourMoneyYourWealth.com to send in your comments, money questions and suggestions. We have some Derails at the end of this episode if you like the outtakes and non-financial stuff. If not, you can dump out any time you want, we don’t have a problem with that!

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