“When Will My Roth Conversion Pay Off?” (Wrong Question)

Hey there. If you got a million or more sitting in an IRA and you're trying to decide whether Roth conversion is really the right move for you, then you probably have asked this question. If I convert and I write a check for the tax bill now, at what point does it actually pay off? So that's called your break-even point and wanting to know it makes sense, but there's a serious flaw in focusing on that number, which is the reason we don't use it as a defining target when we develop Roth conversion plans for people. So just recently we ran projections for a couple where the break-even number came in at like 19 years later when their family was already better protected by Roth conversions. If they would have avoided converting because of that high break-even age, they'd have handed the IRS about $850,000 more over their lifetime. And this is not uncommon. So look, over the next few minutes, I'm going to show you why your break-even number can't really tell you whether your family is properly protected. And I want to show you which number can. And if you don't know me, I'm Craig. And so far, our team of Rothologists, we've helped families avoid almost $10 billion of projected lifetime taxes. Okay, so back to that couple, uh, we'll call them Dave and Carol. Keep in mind that this is just one family story and your results are probably going to be different, but Dave is 63, Carol is 61, and between them, they had about $1,500,000 in IRAs and another $220,000 in savings. And here's what they're up against if they change nothing. So starting at age 75, the IRS makes them start taking money out of those IRAs every year, whether they need it or not. It's called your required minimum distribution. It's taxed as income. income, and it gets bigger as they get older. Doing nothing, the IRS forces about $4.25 million out of those accounts across their lifetime. So that money is already scheduled against a nest egg that they spent 40 years to build. So like most IRA millionaires I sit down with, the first thing Dave and Carol want to know is when converting actually is going to pay off. And so picture an old pharmacy scale, if you will, like this one here. On one side, we have every dollar of tax they'd pay to convert. On the other, every dollar in taxes they'd avoid by converting early. At first, the conversion scale side is weighed down, then year by year, the other side fills up. Eventually, the 2 pans settle evenly, and that's what some people call a break-even point. The year the tax you avoid finally catches the tax that you paid. For Dave and Carol, that scale settles when Dave is 83 years old, 20 years from today. I've watched people hear that, a number like that, and just walk away from conversions because 20 years is really a long time to wait to find out whether you did the right thing for your family. But before you write that number off, remember this. Every breakeven number is built on 2 really big assumptions, and neither one is really knowable. So here's the first. A breakeven at age 83 assumes you're still here at 83 to see it. If Dave were gone at age 82, breakeven never arrives at all. On paper, it never paid off, which is why a lot of people just walk away. The second assumption is that you're going to have a stable market. Better returns pull that breakeven in sooner. Worse returns push it out further. So we didn't run this once. We ran 8 different ways that they could do conversions. Good markets, bad markets, one spouse passing, both passing, higher tax rates, lower tax rates, and break-even landed anywhere from age 80 to age 87. So the real problem with hanging your hat on these numbers is that break-even asks you to predict the future. And I don't know about you, but I can't do that. But there is a solid mathematical conclusion that asks you to predict very little. And across all 8 of those futures, it shows Dave and Carol ahead almost every single time. So let's say you've got $1,000 in your pocket and you owe your buddy $300. How much money do you actually have that's yours if you intend to fulfill your other obligations? $700. Your traditional IRA is that money in your pocket and the IRS is, well, your buddy in this case. You just haven't settled up yet. Now, what I'm describing is something we call tax-adjusted net worth, and it's much more effective than break-even for determining if Roth conversions are going to be right for you. So let's go back to Dave and Carol. When we focus on their net worth, they actually pull ahead in year 2 when Dave is 64 years old. So in the In the same report, we have the couple pulling ahead at age 64 and breaking even at age 83, 19 years apart. How can that be? Well, let's dig into this just a little deeper. In our plan, Dave and Carol write the IRS a check for about $109,000 in year 1, and that's paid with money outside their IRA in their case. Now that stings. I'm not going to pretend that it won't. And yet at the end of the year, this family is only about $9,000 behind where they'd be if they had never converted at all. So where does the other $100,000 go? Well, it It comes back to them the same day in the form of a debt that they no longer owe. Here's what's happening. They're converting $350,000 to the Roth the first year. If that money stays in the traditional IRA, it's not actually worth $350,000. We've already established that about, in their case, 28% of it belonged to the government, but that's their situation. And if you live in a state with an income tax, yours probably is going to be higher, or if all your other income puts you in a higher tax bracket, look, the IRS just hasn't come to collect yet. So that money is actually worth about, in their case, $250,000. So The minute it lands in the Roth, it's worth the full $350,000. Every dollar of it is theirs for good. So converting wipes out about $98,000 of tax they were always going to pay. $109,000 out, $98,000 back, call it about $11,000 of real cost. And by the year end, with a little growth on it, the report puts it at about $9,268. That's the whole story of that scary check. It's not lost money. They're spending it to buy the government out of their own retirement account, and it's at price they choose instead of one that's chosen for them 30 years later. Next year, they'll be ahead and they'll stay ahead every year after they do the conversions. But that's not the only thing a break-even number ignores because a scale weighs dollars against dollars and that is the only thing it can do. It can't account for Carol or the kids. Right now, Dave and Carol file one tax return together and married tax brackets are pretty wide, meaning a lot of dollars within that bracket. But what happens if Dave passes before Carol? Well, if Dave never sets up conversions, Carol is left with a tax nightmare as a widow. Almost nothing about her financial life changes. She's got the same house, probably the same bills, and the IRS is still pulling money out of the IRA through RMDs, $336,000 just in that year alone. Now she files single starting the next tax year, and those brackets that used to fit 2 people just got cut roughly in half, which means a much bigger tax bill each year after that. Without conversions, Carol's tax bill that first year on her own is $136,000. She shouldn't She didn't have to deal with that during probably the hardest year of her life. But with the conversions already done, she only pays $16,000 in taxes. That's what real protection looks like. And the break-even scale never even accounts for any of that. Look, there's one last thing that the scale doesn't weigh. When your kids inherit a traditional IRA, the law gives them 10 years to empty it out. And every dollar is going to be taxable. The longer they wait, the more tax they're going to pay, theoretically, because the account's going up. But those 10 years usually land right in the middle of their own top earning years when they're tax rate is the highest it'll ever be, or it lands right after they've retired and have their own game plan figured out before being handed this huge tax bill from your assets that you left to them. Doing nothing, Dave and Carol's kids owe about $1.2 million in tax on what they inherit. On our conversion plan, it's just $108,000. Now, one of those is a tax bomb and the other is an actual inheritance. So let's step back and put all the most important numbers up on the screen. Here's the do-nothing path. Each of the 3 kids ends up with about $2.3 million, and this share right here belongs to the IRS. Every dollar of tax while Dave and Carol are living, plus everything the government collects after they've gone. $2,497,000. Look at that. On the do-nothing plan, the IRS ends up with more than any one of the children does. Now here's that same family on the Rothology plan. The IRS's share drops to $552,000, and each of the kids goes from about $2.3 million to about $2.7 million. That one decision made in their early 60s moved $1,945,000 out of the government's hand and into their hands. And it shows up everywhere else too, in what this family is left holding at the end and in what Carol pays in the years that she's on her own. Nothing changed about how much they saved or how they saved it, only how much of it stayed inside the family. So if you're weighing Roth conversions and you're wondering whether they're right for you, don't lean on the breakeven number. Look at what your family actually keeps. The fastest way to get real numbers in front of you is by using our free RMD calculator in the description below. If you have over $1 million in your IRA and decide Roth conversions are in your future, find out why converting just to the top of your current tax bracket can quietly cost your family 6 figures or more. I'll show you what to do instead in this video. See you right there.