The Trickiest Variable In Roth Conversion Planning: The IRMAA Trap
When it comes to retirement planning, few strategies are as compelling as the Roth conversion. Converting a traditional IRA or 401(k) to a Roth IRA can offer significant tax advantages, including tax-free growth and withdrawals, as well as the absence of required minimum distributions (RMDs) during the account holder’s lifetime. However, one often overlooked but critical factor in Roth conversion planning is the Income-Related Monthly Adjustment Amount (IRMAA) trap. Understanding IRMAA can help retirees and pre-retirees navigate their healthcare costs while maximizing the benefits of Roth conversions.
Understanding IRMAA
IRMAA is a surcharge applied to Medicare premiums based on an individual’s modified adjusted gross income (MAGI). Essentially, as your income increases, so does your Medicare premium payment. The thresholds for IRMAA can catch individuals off guard, leading to significantly higher healthcare costs in retirement, which can erode the savings and tax benefits associated with strategic Roth conversions.
The IRMAA scales are set by the Social Security Administration and can change annually. For 2023, for example, individuals with a MAGI greater than $97,000 or married couples filing jointly with a MAGI over $194,000 become subject to higher Medicare premiums. The surcharges start at $65.90 for individuals with MAGIs just above the threshold, but the cost escalates steeply for those with higher incomes, sometimes exceeding $400 per month for certain income brackets.
The Roth Conversion Dilemma
While a Roth conversion can be an excellent strategy for tax diversification—especially if you expect to be in a higher tax bracket in retirement—the extra income that results from a conversion can push you into a higher IRMAA bracket. This is where the “IRMAA trap” becomes significant; the extra Medicare premium costs can potentially negate the benefits of the Roth conversion.
For instance, imagine a retiree who wishes to convert $50,000 from a traditional IRA to a Roth IRA. If this additional income pushes their MAGI above $194,000, they might not only face an increased Medicare premium but could also escalate their overall tax burden, diluting the benefits of the conversion.
Planning Strategies to Avoid the IRMAA Trap
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Incremental Conversions: One way to mitigate the impact of IRMAA is to consider smaller or incremental Roth conversions. Spreading conversions over several years can help keep your MAGI below the IRMAA thresholds. This gradual approach allows for tax planning in tandem with expected income fluctuations and ensures you stay below critical income levels.
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Timing Matters: Assessing the timing of your conversion is crucial. Consider performing conversions in years of lower income, such as during retirement early years before Social Security benefits kick in or pensions are initiated.
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Evaluate Other Income Sources: Take stock of your income streams, including Social Security, pensions, and investment income. By planning strategically for when these sources commence, you might avoid spikes in your MAGI.
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Tax Planning with a Professional: Collaborating with a tax advisor or financial planner can bring clarity to your individual situation. A professional can help model different scenarios to determine the optimal conversion strategy without triggering unwanted IRMAA surcharges.
- Incorporate Health Savings Accounts (HSAs): Using an HSA in conjunction with Roth conversions can provide significant benefits. Medical expenses can be paid tax-free from these accounts, allowing for taxable income withdrawals from IRAs to be minimized.
Conclusion
The IRMAA trap highlights the interplay between Roth conversions and healthcare costs in retirement. It is an essential variable to consider in any retirement planning strategy, as failing to account for increased Medicare premiums could complicate the apparent benefits of Roth conversions.
By employing strategic planning and seeking professional advice, retirees can make informed decisions that minimize tax burdens while maximizing the benefits of Roth IRAs. In the increasingly complex landscape of retirement planning, understanding and navigating the IRMAA trap can lead to more financially secure and health-conscious outcomes in retirement.
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I almost never comment on videos or give thumbs up, but this video (and the previous on IRMAA calcs) have been ENORMOUSLY helpful to me. Thank you sincerely!
One of the trickiest and most frustrating aspects of Roth conversions is the fact that we must determine the right amount to convert without the benefit of our tax documents for the year, since those won’t be available for a few months after the new year. We must estimate (accurately) our MAGI and make a conversion before the end of the year. that is permanent and unchangeable. I learned the hard way about IRMAA increases on my Medicare premiums when I accepted an early retirement offer, and had very high earnings from the previous two years. Now, I have a better opportunity to make conversions before my wife and I start taking significant Social Security distributions when I turn 70. There’s a lot of guesswork about the future: how long will I live, how long will my wife live, will Social Security remain relatively unchanged, what return will I get on my investments, and will increases in my Medicare premiums be worth the large conversions tax benefits down the road.
Does the social security administration ever bother to adjust IRMAA penalties LOWER after finishing conversions? It does NOT seem to given the hidden IRMAA tax penalty (still) being charged against my spouse’s monthly ss benefit.
Imagine how insane it would be if the government released 2024 Roth IRA contribution limits in 2025! This is somehow worse.
These rules need serious reform. The inflation adjustment should examine time that has already happened, so that the exact brackets can be published within the tax year, or ideally, before January 1 of the tax year. Furthermore, there should not be a scenario in which you owe over 100% marginal taxes for recognizing income. The surcharges should be adjusted such that they, do not exceed 100% for each additional dollar, and if that means variable premiums for someone who brings in 95,000 versus 96,000, then so be it.
Thanks for sharing your insights on IRMAA and Roth conversion planning. I've been exploring crypto IRAs lately, and My Digital Money has made the process super easy and secure. Have you looked into rolling over your Roth IRA to crypto without penalty?
Good video as always. In my case, if I convert for the next 10 years, it will cause IRMAA surcharges for 12 years, just to avoid it after during RMDs for a break even at age 89.
Thank you for sharing your knowledge. I’m 8 years away from getting Medicare, but it’s good to learn this stuff now. Thanks.
What about the NIT doesn't it kick in around then ?
This video makes no mention whatsoever that filling an IRRMA zone may also put you into a higher tax bracket or change your longterm capital gains rate. For higher income people, the government takes IRRMA, taxes SS, puts you in a higher tax bracket, requires RMDs, raises the capital gains rate and adds an investment income penalty. All these are good reasons for young people to invest in a Roth, even if your current tax rate seems high.
Maybe ignore an anticipated inflation adjustment to IRMAA as your margin of error to remain below the critical error of reaching the next cliff.
3:28 is the 194k threshold one year of income or two years combined?
Do you have advice for someone using VA medical as well as Medicare?
The best tax video I've seen. Not only is this my subject of interest, but you can explain it so well and methodically. Thank you.
You failed to mention Form SSA-44. You can appeal your IRMAA two year lookback to have your prior year and current year estimate considered and the IRMAA either adjusted or eliminated based on your actual prior and current year income.
I stumbled across something interesting. I retired in 2022 and initially planned on doing Roth conversions only up to the first IRMAA threshold, so I sent in the form SSA-44 to turn off IRMAA completely and kept my 2022 income below the threshold. Later, after watching this channel, I realized I need to be more aggressive with Roth conversions starting in 2023.
As far as I can tell, my IRMAA for 2022, 2023, and 2024 will all be zero based on 2022 income, and will only go up in 2025 when the higher 2023 income kicks in. If I had done larger Roth conversions in 2022, my form SSA-44 reduction would have been smaller, so I would have had to pay IRMAA for 2022-2024 based on that higher 2022 income. So it seems I escaped three years of IRMAA fees by delaying large conversions for a single year.
At an effective penalty rate of at least 3 x 4.7% = 14.1%, that first year of conversions probably wouldn't have been worthwhile.
Can my younger spouse do a Roth conversion from her 401k before I do my RMD?
If you’ve had a life-changing event, you can request a new initial determination about your IRMAA. The SSA has its own definitions of life changing events, which includes you or your spouse stops working. Does it mean that I can appeal my IRRMA when I stop working (retire) while applying for the Medicare?
Thanks for the very clear and informative video. Two comments: 1) you can ask medicare to reconsider the 2 year look back. Their form is SSA44. I have revised mine a few times by agreeing to send them my tax return to prove I made what I claimed. So for 2022, I will send them my return this April. 2) before the new IRMAA limits are released just use the previous years and then top up conversions near the end of December. You have to top up anyway once you can estimate dividends. Generally, with mutual funds, the biggest dividends come near the end of December.
I shoot to match the current IRMAA limit exactly and let the unknown inflation adjustment save me.
I think our host may have erred in saying at 0:50 that you can take out standard deduction from IRMAA MAGI calculations. Everything I have found specifically States otherwise. Am I missing something?
I was very frustrated searching seriously at year-end (Fri 12/30 last business day of the year) for a MAGI calculator or form to calculate MAGI for IRMAA and could not find anything suitable.
One of the things I read regarding Roth accounts is that income spun off from certain Roth assets are to be included in MAGI. That seems quite strange and I was unable to find out from my brokerage what that means and how any such presumably tax-free income would be reported to the IRS.
I am living through a tax year in which I missed staying in a lower IRMAA tax category by about $5! I wish I had listened to this two + years ago!
An impressive amount of navel gazing here. I love the concept of trying to play within the boundaries, but here's my plan. To go to work for someone that can give me creditable insurance coverage so I DO NOT have to be on Part B or D in 2024 when my 2022 income would put me in the next to the top IRMAA penalty bracket. My income will drop substantially in 2023 and take me out of this problem. Then maybe when I'm 69-72 I can consider doing some conversions that make sense. Oh and the Trump tax cuts for individuals end in 2026 under current law so there's that issue also. Quite a problem. I've hear something about the 1.7 trillion spending spree bill just passed by the idiots in DC contains a provision to raise the RMD age to 73. True?
Thank you for the great info, I watch all of you content. Can you further explain if IRMAA is calculated AFTER applying standard deduction? Gross income less standard deduction?
Hey Eric, one more question. Only 85% of my Social Security is taxed currently. In the IRMMA calculation, Do I include 100% of my Social Security or just the 85% that is being taxed?
Eric, you said, "you are also able to take things like the Standard Deduction from this modified adjusted gross income number". I'm Confused. The word "take" could mean to add something or subtract something. Is IRMMA calculated with or without the Standard Deduction? Please clarify.
Thanks! There are so many variables including possible unknowns such as dividends and of course inflation. I play the game every year and see if I win or lose. I haven't found anything that will improve my odds. Plug the numbers in and hope for the best.
Eh
Excellent video that anyone should be able to understand.
IRMMA is a drop in the bucket when compared with the new tax law in part 1 of the Biden Build Back better plan that goes into effect in 2028 written by Senator Wyden from Oregon and Congressman Neal of Mass and signed into law by the big guy Joseph Robinette Biden that will cap your retirement accounts if it exceeds the amount that they feel is "too big" The amount does not even put you in the dreaded top 1%. No matter what your age if it exceeds this amount you will have to take an RMD. This leaves this cash open to law suits ..retirement accounts are protected from lawyers. I guess we should all strive to be failures and in the bottom 50% so we don't have to pay taxes. I could write a full page on all the bad things in this bill that will cost the country trillions that will be paid of the backs of the poor and those on fixed income through inflation.
Doesn't this analysis get turned on its head when considering relative stock market levels? Consider both the taxes paid and subsequent investment returns when converting at S&P 4,800 vs. S&P 3,600…
I just had reason to look at IRMAA a few days ago when my wife’s Medicare went up because we were $6000 over in 2021!! I never even knew it existed!! I know we will be over for this 2022 year for 2024, and I don’t hit Medicare until 2025. In another article or my e the SS website it showed that year over year IRMAA increases are usually always at least 4%.
I found this quote from SS for the years: “From 2007 to 2021, IRMAA bracket increases have ranged from 4.73% – 8.02%.”……needless to say I have now calculated my withdrawals starting in 2024 from my 401k and setup a spreadsheet that keeps me under IRMAA assuming 4% growth on the maximum wages allowed for the first step. What I need to figure out is what my RMD will be at 72 (10 years from,now)……maybe O will have converted enough of it to cash so it won’t matter. So confusing!!
Eric, thanks for the info. It seems there is some guesswork in the IRMAA calculation. Similarly, what should we expect when the fed tax rates revert in 2026? Will the income brackets reset to 2017 levels or inflate from 2025? Do you know what the tax law says? I am debating a Roth conversion now to avoid higher taxes on my RMDs which start after 2027. But if the income limits are indexed up, I’m not sure there is a strong argument to do a Roth (for my situation).
Eric, thanks for another excellent video. Many viewers may see the 2023 $194,000 threshold for the first IRMAA and think that IRMAA will never apply to them. It is notable that the surviving spouse or single threshold for the same is only $97,000. When one considers surviving spouse tax & Medicare rates, Roth conversions and IRMAA management becomes more important.
Luckily or not, I won't get close to that irma threshold close to retirement. So nothing to worry about for me.
Thank you for the great insights into Roth Conversions and IRMAA. Have been converting for several years, now I have approx. 50% of my retirement nest egg in ROTH for both my wife and I. Highly encourage those in there 50s to start the conversion process and not in your 60s. I have 6 yrs to go before RMDs may force even more IRMAA and make conversions too painful.
Eric I will be retiring with full medical coverage from my county government job. Is this something I need to worry about as my Medicare has been signed over to the county when I turned 65? Thanks for the information.
What about deflation?
We have had years when the cpi went down.
The Fed is aggressively fighting inflation so deflation is possible.
How do you make estimates for the IRMAA brackets with possible deflation?
The way I dealt with this is to make adjustments to your Modified Adjusted Gross Income, by taking a much lower paying job at 62 (once you are debt free). The major concern on a lower paying job is obtaining credible health insurance. I do not plan on taking Medicare until either 68 or 70, as I am still working and have credible health insurance. RMDs do not have to be taken until 72. I can pull over 1M from my 401K into a Roth over this time frame. I am almost 66 now and well on the way. I do not expect to have any RMDs by the time I reach 72. I will be taking Social Security at 70. Converstions plus income are less than the IRMAA limits. Just another way to convert everything over with no pain.
Eric, you have software that calculates all this stuff for you. I'm working with an Excel spreadsheet. I'm getting unexpected results. My calculations are showing that converting up to the first IRMAA trigger for each of the next four years is worse than not converting at all. I know you cannot duplicate my results without having all my numbers, which I'd rather not divulge here, but have you run scenarios in which the savings from not paying the conversion tax from a taxable account is invested in a dividend growth fund (say 3.4% yield now, with 5% annual dividend growth)? I'm showing the eventual combined total of regular and Roth IRAs in the "convert" scenario to be larger than in the "don't convert" scenario, but the growth in the taxable account in the "don't convert" scenario account more than offsets the IRA difference. The money that didn't go to taxes in the first four years (assuming paying the conversion taxes from my taxable account), generated enough dividend income to make the difference. I assumed all dividends were reinvested, the yield increased every year, and the tax rate on dividends was 15% for most of the 30 year trial, and 20% for the last few years. I think the 15% rate for dividends, compared to the 22% rate on the conversion made the difference. If you haven't tried a similar scenario, I would be curious to learn what you discover, and if you have run one and did not see results similar to mine, where might I have made a mistake? That dividend snowball is amazing, with the account compounding at a compounding rate! The "don't convert" strategy was better even if I assumed the tax on the conversion was withheld.
Wow $194,000 for IRMAA the average couple will never get close we are 58 y/o no debt spending $7100 monthly for everything.
Another excellent video Eric! It took me a while this year and last to fully understand this process. I'm sure this video will help many with their understanding and planning. Thanks Eric. Larry