The previous post Stay Off Obamacare Premium Subsidy Cliff showed that when you retire before age 65, ideally you should keep your income below 400% FPL so that you will qualify for the premium subsidy for purchasing health insurance. What if you need more income than that?
Suppose you are already over 59-1/2 and you are withdrawing living expenses from your pre-tax Traditional IRA. Say your expenses are higher than usual in one year and you need to withdraw more. That pushes you over the cliff and you lose the premium subsidy. Now what?
Now that you are already over, you should take a big bath and jack up your income some more. Convert some more money from Traditional IRA to Roth, to the top of the 15% bracket, or even to the top of the 25% bracket. For married filing jointly taking the standard deduction and two personal exemptions in 2014, the top of the 15% tax bracket is AGI $94k; it’s AGI $169k to the top of the 25% tax bracket.
With more money in Roth accounts, you make it easier to qualify for the subsidy in future years, because withdrawing from Roth accounts doesn’t add to your income. In future years, you withdraw less from your Traditional accounts and you withdraw more from your Roth accounts. You’d rather be over the cutoff in one year, way over, and be under the cutoff in the next several years, as opposed to being over the cliff in all years.
This is similar to deduction bunching, when you put more of your tax deductible expenses into one year and take the higher itemized deductions in alternate years.
This also means if you want to live on more income than the 400% FPL cutoff when you retire before age 65, it could be beneficial to build up your Roth accounts beforehand. A large Roth account will help you stay under the 400% FPL cutoff after you retire.
On the other hand, if the need for income is only temporary, it can make sense to borrow the shortfall, say from a HELOC, instead of taking additional withdrawals from your pre-tax IRA and pushing yourself over the cliff. Borrowed money does not count as income.
[Photo credit: Flickr user mags20_eb]