Rollover 401k with $40k into IRA : Tax Implications?

Over at Reddit we read the following discussion, 

My wife has $40k in an old 401k that we want to roll over to an IRA. She also has $3k in a ROTH IRA at Chase that she wants to consolidate with the newly created IRA. We make roughly $150k in joint income.

Our idea so far:

• Open ROTH IRA with Vanguard. Direct transfer of the Chase IRA.
• Convert 401k to the ROTH IRA.

A few questions:

• What will the tax hit be like? Will the whole $40k be taxed at 28%?
• If so, can we convert half for the 2013 return, and half next year?
• Any reason to wait on the conversion?
• Different ideas altogether?

Thanks for the help everyone.

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[–]United StatesNothingKing 5 points 1 day ago

What will the tax hit be like? Will the whole $40k be taxed at 28%?

Most likely, unless you have enough deductions to drop you down to the next tax bracket.

If so, can we convert half for the 2013 return, and half next year?

Yes. You can drag it out as long as you like.

Any reason to wait on the conversion?

I would wait until your tax bracket is lower. If that means retirement, then that is what I would wait for.

Different ideas altogether?

If you expect your incomes to increase in the next few years, that will put you over the income limit to contribute to a Roth IRA normally, you will not want to have a t-IRA. You can either do the conversion and pay the taxes on it, or roll it into an existing 401k if the plan allows it.

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[–]consolidate123[S] 1 point 23 hours ago

Good info, thanks for the response. I think stretching it out over a few years makes the most sense (maybe wait for when we have kids and have more tax deductions). The ~$11k hit would be rough at one time.

One more question: my IRA is a Roth. Does it make sense for my wife's to be a t-IRA for tax-diversification reasons? I guess this would be a bit of a hedge in case we are in a lower tax bracket at retirement. Thoughts on that?

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[–]United StatesNothingKing 1 point 21 hours ago

Does it make sense for my wife's to be a t-IRA for tax-diversification reasons?

No, because at your income level, you don't qualify for a tax deduction on a t-IRA, so you should be doing Roth if you are doing an IRA. At your income level, you would probably benefit more to be contributing more to a pre-tax 401k, to reduce your taxable income, before doing a Roth IRA.

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[–]Zagor64 3 points 1 day ago

Why do you want to convert it to a Roth IRA? Roll it over to a traditional IRA at Vanguard (not a taxable event). There is no need to convert to Roth IRA unless you are sure that you will be in a higher tax bracket at retirement than you currently are.

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[–]consolidate123[S] 1 point 23 hours ago

That's why I want to convert. I think we're likely to be in a higher tax bracket by retirement.

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[–]Zagor64 1 point 22 hours ago

Why do you think that? Do you plan on working while in retirement? Are you really going to need more than 150k a year in retirement? I guess you really plan on living it up.

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[–]consolidate123[S] 1 point 22 hours ago

I guess I was thinking of the tax bracket at retirement vs. during retirement.

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