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I am reading the chapter on Roth conversions and was struck by the example in the section called: the simple math behind the secret.
“You want to buy something that costs $100,000…You would have to cash in the IRA and pay taxes on the withdrawal. Assuming you are in the 25% tax bracket, the tax due on the $100,000 would be $25,000.”
I know you can’t account for every tax filing possibility, but the incremental nature of tax brackets means the tax due would be less than $25,000. In an extreme example, a couple filing jointly for 2015 and claiming NO exemptions and NO deductions would pay $16,587.50 in federal taxes, $6,200 in Social Security taxes, and $1,450 in Medicare taxes, for a total of $24,237.
The way the example was worded gives the impression that ‘tax bracket’ and ‘tax rate of taxable income’ are the same. Thoughts?
Apologies for my delayed response, Don. Anyway, the Roth conversion example is assuming that the taxpayer is already in the 25% tax bracket before making the purchase. It is highly unlikely that a person that has absolutely no taxable income would be making a $100,000 purchase. That also means that the tax payer has already used up the lower incremental tax rates possibly on social security income, other required minimum distributions from retirement accounts, or interest, dividends, or capital gains income. In addition, there is never social security or Medicare taxes due on IRA distributions. These are payroll taxes that do not come in to play for this example. The link to the calculator that you included in your email is calculating taxes on wages which are taxed differently than IRA distributions. The only taxes due on IRA distributions are federal income taxes and possibly state income taxes depending in which state you reside. We are located in Pennsylvania where there are no state income taxes on retirement plan distributions so we did not include them in our example. I hope this answers your questions.