If you’re heading into retirement and thinking all the hard financial work is behind you—think again. The truth is, retirement is when some of the most critical tax decisions come into play, especially when it comes to Roth conversions and the clever strategy known as “filling the bucket.” Let’s break down how Roth conversions work and why you should be thinking about how to “fill your tax buckets” smartly during retirement.
What Is a Roth Conversion?
A Roth conversion is one of the most powerful tools in your retirement tax-planning arsenal. In simple terms, it’s the process of taking money from a traditional IRA or 401(k)—where your contributions have grown tax-deferred—and moving it into a Roth IRA, where future withdrawals are tax-free.
Sounds great, right? Well, there’s a catch: when you convert that money, it’s treated as taxable income in the year of the conversion. So why bother converting at all? Because with the right timing, you can pay tax now at lower rates and avoid much bigger tax bills down the road—especially when Required Minimum Distributions (RMDs) kick in at age 73.
The “Filling the Bucket” Strategy – What Is It?
The “filling the bucket” strategy is a method of doing Roth conversions to maximize the tax benefits while keeping your overall tax rate in check. Think of it as filling up your income “bucket” with just enough to avoid spilling over into the next, higher tax bracket. It’s all about staying in your sweet spot—where you can take advantage of lower tax rates.
Here’s how it works:
Know Your Tax Brackets: In any given year, your taxable income fits into one of several tax brackets. For example, the 2024 tax brackets for married couples filing jointly look like this:
10% on income up to $22,000
12% on income between $22,001 and $89,450
22% on income between $89,451 and $190,750
24% on income between $190,751 and $364,200
And it keeps going up…
Fill the Bucket, but Don’t Overflow: Say your taxable income this year is $100,000, putting you in the 22% bracket. That means you’ve got plenty of room before you hit the top of the bracket ($190,750). In this case, you could convert up to $90,750 from your traditional IRA to a Roth IRA and stay in the 22% bracket. You’re “filling the bucket” with Roth conversion dollars, but not so much that you spill into the next tax bracket (24%).
Why This Matters: By “filling the bucket” each year, you can spread out your Roth conversions and avoid jumping into higher tax brackets unnecessarily. This reduces your overall tax bill in the long run, allowing you to pay taxes now while rates are lower and minimize the impact of RMDs later in life.
Why You Should Care About Roth Conversions
Here’s why Roth conversions and the “filling the bucket” strategy should be a key part of your retirement plan:
Tax-Free Growth in Roth IRAs: Once your money is in a Roth IRA, it grows tax-free. You can withdraw it, along with any earnings, completely tax-free in retirement (as long as you follow the rules). That’s a huge benefit, especially if you think tax rates will rise in the future—which, let’s be honest, they probably will.
Avoid Massive RMDs: RMDs are the government’s way of saying, “It’s time to pay the tax bill on your traditional IRA.” The problem is, RMDs can push you into higher tax brackets and increase your Medicare premiums. By doing Roth conversions now, you can reduce the size of your traditional IRA and, in turn, shrink those future RMDs.
Flexibility in Retirement: With Roth IRAs, there are no RMDs. That means you can let the money sit and grow tax-free as long as you want, giving you more control over when and how much you withdraw in retirement.
Protect Against the Widow’s Penalty: If your spouse passes away, the surviving spouse will file taxes as a single individual, often jumping into higher tax brackets. By converting to a Roth now, you reduce the taxable income later, protecting your spouse from the harsh tax penalties that come with this transition.
When to Use the “Filling the Bucket” Strategy
The best time to use the “filling the bucket” strategy is during those low-income years—typically the early years of retirement before you start taking Social Security or RMDs. This window is often called the “tax valley”—a golden opportunity to convert IRA dollars to Roth IRA dollars without pushing yourself into sky-high tax brackets.
Example:Let’s say you’re recently retired, not yet taking Social Security, and you have minimal income. This could be the perfect time to start doing Roth conversions and filling up your 12% or 22% tax bracket. You’ll pay lower taxes on those conversions today, avoiding potentially much higher tax rates later when RMDs or Social Security start pushing your income up.
How to Execute the Roth Conversion and “Filling the Bucket” Strategy
Work with a Financial Advisor: Roth conversions and tax planning can get complex. You’ll want to work with a financial advisor or tax professional who can help you figure out how much to convert each year without tipping into higher tax brackets.
Monitor Your Income: Keep an eye on your taxable income throughout the year. Even something as simple as selling stock or taking a bonus can push you into a higher bracket, so you’ll want to time your Roth conversions carefully.
Don’t Forget Medicare Surcharges: Keep in mind that your Medicare premiums are based on your income from two years ago. Too big a conversion can not only raise your tax bill but also increase your IRMAA surcharges for Medicare.
The Bottom Line
Roth conversions and the “filling the bucket” strategy are about playing the long game. You’re paying taxes now to save yourself—and your heirs—huge amounts of money in the future. By strategically converting your traditional IRA into a Roth IRA while staying in your ideal tax bracket, you can set yourself up for a tax-efficient retirement.
Need help figuring out your Roth conversion strategy? Let’s chat. We’ll look at your current situation and come up with a plan that minimizes taxes and maximizes your retirement savings.
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