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If you are planning on early retirement, one of your biggest concerns is probably how you will be able to survive in the retirement years before you turn 59 1/2. Like most people, the vast majority of your savings and investments are probably in tax-sheltered retirement plans. Of course, you will also have to pay the 10% early withdrawal penalty should you tap those accounts.

This can make the tax cost of early retirement withdrawals prohibitive, and might even cause you to rethink the whole idea of early retirement.

But rest assured that there is a solution to this dilemma. Known as the Roth conversion ladder, it will enable you to withdraw retirement funds early without having to pay the penalty tax — or even any tax at all.

The Roth Conversion Ladder Benefit: Tapping Retirement Early Without Paying a Penalty

There is a general rule on making withdrawals from any type of retirement plan. You will have to pay a 10% penalty on most early withdrawals before you turn 59 1/2. But the Roth IRA offers a workaround.

Resource: Current Roth IRA Income and Contribution Limits

Conversions made to a Roth IRA can be withdrawn both tax-free and free of the 10% early withdrawal penalty, as long as they are not taken until five years after the conversion has been made (since the tax was paid at conversion).

The IRS says the following on the topic:

Distributions of conversion and certain rollover contributions within 5-year period. If, within the 5-year period starting with the first day of your tax year in which you convert an amount from a traditional IRA or rollover an amount from a qualified retirement plan to a Roth IRA, you take a distribution from a Roth IRA, you may have to pay the 10% additional tax on early distributions. You generally must pay the 10% additional tax on any amount attributable to the part of the amount converted or rolled over (the conversion or rollover contribution) that you had to include in income (recapture amount). A separate 5-year period applies to each conversion and rollover.

You can use this loophole to access your Roth accounts anytime before you turn 59 1/2, but only after 5 years have passed since the conversion was made. So if you are 45 years old, and you want to retire at 50, you could begin making Roth IRA conversions now. If you make the first conversion at age 45, you will be able to withdraw that amount of money at 50, free from tax consequences.

Remember that this applies only to your conversion balances, and not to the investment income earned in your Roth account.

How to Set Up a Roth Conversion Ladder

The strategy is referred to as a “ladder.” This is because you will want to set it up so that it covers all of the years between your retirement date and when you turn 59 1/2. So if you plan to retire at 50, you will have to complete 10 annual conversions. This will enable you to withdraw funds tax-free between the ages of 50 and 59 1/2.

The first step in setting up the ladder is to determine how much money you will need to live on once you retire. You will then have to make annual Roth IRA conversions that match that amount.

So, if you believe that you will need $40,000 annually in retirement, that will be the amount of your conversion this year. You will then want to make an annual conversion to match each year of early retirement. Ideally, if you plan to retire at age 50, you should begin making these annual matched conversions each year beginning at age 40.

You should also make sure that all of you retirement assets won’t be depleted as a result of using the ladder. The ladder should only represent an interim funding source, until you reach age 59 1/2 and can begin accessing your retirement savings fully. The strategy is designed specifically to enable early-retirement, but should never leave you broke later on.

An Example of a Roth Conversion Ladder

Since the Roth conversion ladder is essentially a math equation, let’s demonstrate what it looks like using a chart. We’ll assume that you are 45 years old, and plan to early retire by 50. We’ll also assume that you expect to need $40,000 per year in early retirement.

Based on those numbers, here’s what your Roth conversion ladder will look like:

Roth Coversion Ladder Table


Your Age Amount of Roth
Amount of Roth
Source of Withdrawn
2016 45 40,000 0 N/A
2017 46 40,000 0 N/A
2018 47 40,000 0 N/A
2019 48 40,000 0 N/A
2020 49 40,000 0 N/A
2021 50 40,000 40,000 2016 Conversion
2022 51 40,000 40,000 2017 Conversion
2023 52 40,000 40,000 2018 Conversion
2024 53 40,000 40,000 2019 Conversion
2025 54 40,000 40,000 2020 Conversion

The Tax Implications of Creating a Roth IRA Conversion Ladder

When constructing a Roth conversion ladder, you need to be fully aware of the tax implications of what you are doing. In each year involving a conversion, you’ll have to pay ordinary income tax on the amount converted. That means that if you are converting $40,000 per year, and you are in the 28% tax bracket, you will pay $11,200 in taxes each year.

That’s a heavy price to pay. Keep in mind that you will be doing it for the purpose of providing yourself with a tax-free source of early retirement income. That is, you are trading a tax liability now, for an income source that will enable you to retire early without a tax liability.

From a tax standpoint, it would be more beneficial to wait to begin the conversions until you actually retire. If you can do that, then you will be in a lower income tax bracket. As a result, the tax cost of the conversions will be much lower. For example, if the same $40,000 annual conversion were done when you were in the 15% tax bracket during retirement, the tax cost would be just $6,000 per year. However, for some people, this would eliminate the possibility of early retirement. It’s really a matter of your goals.

How to Minimize Income Taxes on the Roth Conversions, Too

There’s an even better tax strategy, if you are able to do it. Live on non-tax-sheltered savings and investments for the first five years that you are working the Roth conversion ladder.

Why five years? Remember that the rule is you must wait at least five years after making the Roth conversion in order to withdraw the converted funds tax-free and penalty free. If you can live on non-retirement assets during those five years, you can make the Roth conversions with minimal tax consequences, since you will essentially have no other taxable income.

Considering that a standard deduction and two personal exemptions gets you an immediate $20,000+ in non-taxable income, you would only have to pay tax on $20,000 of the $40,000 Roth conversion. That would mean your tax liability would be only slightly higher than $2,000.

After five years have passed, you can begin withdrawing your conversion balances from your Roth IRA account each and every year until you turn 59 ½ — without having to pay any taxes or penalties on the amounts withdrawn.

So, if you have been planning for early retirement, but you’ve been spooked over how to access retirement funds without being clobbered by taxes and penalties, the Roth IRA conversion ladder could be the solution to your problem. And remember, consult a tax specialist before making any decisions as the consequences of making a mistake can be costly.

Where to Open a Roth IRA

Your options for a Roth IRA account are vast. A few of our favorites here at Dough Roller are:

You can also see our comprehensive list of IRA brokers here, along with more options and information.

What do you think about the concept of a Roth ladder? Do you intend to implement something like this in your own retirement plan?

Author Bio

Total Articles: 171
Since 2009, Kevin Mercadante has been sharing his journey from a washed-up mortgage loan officer emerging from the Financial Meltdown as a contract/self-employed “slash worker” – accountant/blogger/freelance blog writer – on OutofYourRut.com. He offers career strategies, from dealing with under-employment to transitioning into self-employment, and provides “Alt-retirement strategies” for the vast majority who won’t retire to the beach as millionaires.

Article comments

Money Gato says:

This is a great approach, particularly for those that can do the conversions while already in retirement. If you can build up a taxable account to support you through the first 5 years of retirement/conversions and also keep your living expenses low (thus minimizing the withdrawals needed from your taxable accounts), you can really minimize the amount of taxes for the conversions.

MLB says:

I do a backdoor Roth for my wife and I each year since I was 35. I plan to retire at 55. Do theses conversions count? Obviously I would have passed the 5 year period on most of the money deposited by then. From reading this I think they do.

micki says:

This is a good strategy. For those who are not able to do this, don’t forget about the substantially equal payment method or 72T payments that can be used to take early payments from tradional Ira with no nearly withdrawal penalty.

Dough Re Mi says:

Very interesting tactic ! I’ve converted my traditional IRA to a Roth several times in separate years. If I still have funds in a traditional IRA and start withdrawing Roth conversion principal after 5 years, would I be subjected to pro-rated taxes based on having traditional and Roth IRAs ? I’m 52 and want to avoid all income taxes, excise taxes and penalties if possible.

Karl Steiner says:

I’m trying to work out the part where you say, “Remember that this applies only to your conversion balances, and not to the investment income earned in your Roth account.” I’ve read similar things elsewhere as well. So, if I convert $10K from Traditional IRA to Roth IRA (pay any tax due at that time based on my income bracket), I can withdraw the same $10K six years later tax free. But let’s say that $10K grew to $20K in my Roth account during that five years. Do I have to pay taxes on that extra $10K if I withdraw $20K at year six? If so, it seems like you need to keep very careful records of the growth of each amount contributed, as well as keep track of the growth of any Roth amounts that were in the original Roth account prior making the conversions. The original Roth amounts would not be taxed upon withdrawal (if you are also over retirement age) regardless of their growth, cause that’s how Roths normally work. But it seems like the converted amounts could be partly non-taxable (original conversion amount) and partly taxable for the growth on any converted amount.
The reason I ask is that I’d like to be free to withdrawal basically as much as I want from my Roth later in life (after retirement age), but if I use this approach, I actually might have to calculate taxes on some of my withdrawals. Or I’d have to keep my Roth withdrawals below certain amounts in certain years to avoid taxes. It all sounds feasible, but kind of a pain in the ass for record keeping and growth tracking over the years. Am I getting this right?

Karl Steiner says:

Thanks for posting my comment. But is there any hope of getting an answer to my question? Thanks again.

Rocky says:

Good article and discussion. Seems like a bookkeeping nightmare to keep track of each conversion if one is doing the laddering and a separate five year waiting period applies to each conversion. I already have a Roth that’s more than five years old, but may do a conversion from traditional IRA before year end. I will likely set up a separate Roth for those funds. My broker seemed to think a new five year waiting period didn’t apply, but after reading this article, I believe it does.

Regarding Karl’s question, I believe if you’ve waited the five years then all withdrawals are free from tax, including the appreciation/profit on the investments, assuming you’re 59.5 years old.

Valerie says:

Do you have any new insight, now that the new tax plan repeals the rule allowing taxpayers to recharacterize Roth IRA contributions?

Rob says:

The new tax law has not affected the conversion strategy in the article. It has only affected the recharacterization of contributions to IRAs. There’s an important distinction between conversions and contributions here.

Travis says:

If you are rolling money over from a Roth 401k into a Roth IRA, do you escape paying taxes on the conversion? Since the money in the Roth 401k has already been taxed.