72(t) vs. Roth Conversion Ladder: Pros, Cons & Tax Impacts

By Robert Townend, CPA, Early Retirement Access

A common question I hear from early retirees is: “What is the best strategy to access my retirement funds before age 59½?”

The honest answer is the one CPAs are famous for giving: it depends.

Both a 72(t) and a Roth conversion ladder can be powerful early-retirement tools, but they are usually designed to solve different problems. In many cases, they can even be used together at different stages of retirement.

A 72(t) plan is primarily an income-access tool. It allows you to take penalty-free distributions from an IRA or qualified retirement account before age 59½, provided the plan is properly calculated and followed.

A Roth conversion ladder is primarily a tax-planning tool. It allows you to move money gradually from a traditional IRA into a Roth IRA, usually during lower-income years, with the goal of building tax-free assets and reducing future required minimum distributions.

To see how these tools work, let’s walk through a simplified example.

The 72(t) Rule: What It Does Best

In practical terms, a 72(t) plan creates taxable income during the early retirement years, which I’ll broadly define as the period between ages 45 and 60.

Jane, a recent client, is a typical 72(t) candidate in many ways. She is 47, single, and has saved diligently throughout her career. Her assets include:

• $800,000 in a traditional IRA
• $170,000 in a Roth IRA
• $70,000 in an after-tax brokerage account

She is financially independent, owns investment property, and wants to supplement her rental income of roughly $20,000 per year. She has worked through her budget and wants to keep her income under approximately $62,600 for ACA subsidy purposes.

Because her rental income can fluctuate, Jane builds in a $5,000 buffer. That leaves her with an estimated income gap of $37,600:

$62,600 target MAGI – $5,000 buffer – $20,000 rental income = $37,600 annual income gap

Using our required SEPP balance calculator, Jane determines that she needs approximately $650,268 allocated to a 72(t) SEPP IRA to generate the desired annual distribution. The remaining IRA assets can be kept outside the SEPP account for flexibility.

In Jane’s case, a 72(t) plan works well because it helps her:

• Generate predictable income before age 59½
• Avoid the 10% early distribution penalty
• Stay within her ACA subsidy planning range
• Use lower marginal tax brackets during early retirement

This is the core strength of a 72(t) plan: it provides structured access to retirement funds before age 59½.

What a 72(t) Plan Also Does Well

A 72(t) plan can also help solve a problem Jane may not fully appreciate yet: the growing future tax burden inside her traditional retirement account.

Jane saved diligently in her employer’s 401(k), which she later rolled into a traditional IRA. That was a sensible strategy during her working years. When she was earning a six-figure income, pre-tax 401(k) contributions helped shelter income that may have otherwise been taxed at 24%, 32%, or higher.

The basic idea behind tax deferral is simple: contribute money when you are in a higher tax bracket, then withdraw it later when you are in a lower tax bracket.

That works well in many cases. But for diligent savers, tax deferral can eventually create its own problem.

The problem is compounding.

The Rule of 72 is a useful way to understand this. The rule says that if you divide 72 by your annual rate of return, the result approximates how many years it takes for your investment to double.

For example, at an 8% annual return, money roughly doubles every nine years.

In Jane’s case, if her $800,000 traditional IRA were left untouched and grew at a constant 8% rate, it could grow substantially by the time she reaches her senior years. That is great from a wealth-building perspective, but it can create a future tax problem.

Once required minimum distributions begin, Jane may be forced to withdraw far more than she needs for living expenses. Those RMDs are generally taxed as ordinary income. If her IRA balance becomes large enough, future RMDs could push her into much higher tax brackets.

This is where a 72(t) plan can provide an important secondary benefit.

By starting distributions at age 47, Jane is not only creating the income she needs today. She is also beginning to reduce the size of her traditional IRA while she is in a relatively low tax bracket.

Instead of letting the entire traditional IRA compound untouched until age 59½ and beyond, Jane is taking $37,600 per year out of the IRA system. Some of that money may be spent, but some may also be reinvested in her after-tax brokerage account.

That matters because after-tax brokerage accounts receive different tax treatment than traditional IRAs. Long-term capital gains and qualified dividends may be taxed at lower rates than ordinary IRA distributions. In some cases, they may even fall into the 0% long-term capital gains bracket.

By age 59½, Jane will no longer be locked into the 72(t) schedule. She can take distributions as needed, stop distributions, or begin using additional tax-planning strategies.

That is often where a Roth conversion ladder becomes useful.

What a Roth Conversion Ladder Does Best

Roth IRAs are one of the most tax-efficient retirement accounts available.

Unlike traditional IRAs, Roth IRAs do not create taxable income when qualified distributions are taken. Once funds are inside a Roth IRA, they can continue growing tax-free. Roth IRAs also have no lifetime RMDs for the original owner.

A Roth conversion ladder is a series of annual conversions from a traditional IRA to a Roth IRA. The taxpayer voluntarily recognizes taxable income today by converting pre-tax IRA funds into Roth IRA funds. The goal is usually to convert strategically over time, often filling lower tax brackets during years when income is reduced.

The main goals of a Roth conversion ladder are to:

• Build tax-free Roth assets
• Reduce future RMDs
• Pay tax at lower rates today instead of potentially higher rates later
• Create more flexibility in retirement withdrawals
• Diversify retirement assets across different tax buckets

Roth conversions must generally be completed by December 31 of the tax year. Unlike prior-year IRA contributions, Roth conversions cannot be made after year-end and applied retroactively to the prior tax year.

Because conversions are taxable, the amount converted should be planned carefully. Many early retirees use Roth conversions to “fill up” the 12%, 22%, or 24% tax brackets, depending on their income, filing status, and long-term planning goals.

Tax Diversification in Retirement

One of the biggest benefits of a Roth conversion ladder is that it helps create tax diversification.

Ideally, retirees want access to more than one type of account. Each account type is taxed differently:

After-tax brokerage account:
Potentially subject to long-term capital gains and qualified dividend tax rates, capped at 15%, they are typically lower than ordinary marginal income tax rates.

Traditional IRA / 401(k):
Distributions are taxed as ordinary income.

Roth IRA:
Qualified distributions are tax-free.

Having all three buckets gives a retiree more control. In a low-income year, they may choose to convert traditional IRA funds to Roth. In a high-income year, they may draw more from brokerage or Roth assets. If they need to manage ACA subsidies, Medicare IRMAA, capital gains brackets, or future RMDs, having multiple account types provides flexibility.

The goal is not to eliminate taxes, but to have more control over when income is taxed and the rate that applies. 

Roth Conversion Ladders and the Five-Year Rule

A Roth conversion ladder is often discussed as an early-retirement income strategy, but it is important to understand how the five-year rules work.

A Roth conversion is taxable in the year it is made. After that, the converted principal is not taxed again, but if you are under age 59½ and withdraw that converted amount within five years, a 10% early distribution penalty applies.

Earnings are different. Roth IRA earnings are tax-free only if the Roth IRA five-year rule has been satisfied and the distribution is qualified, usually because the owner is at least age 59½. If earnings are withdrawn too early, they may be taxed as ordinary income and may also be subject to the 10% penalty.

This is why it is called a “ladder.” Each year’s conversion becomes available after its own five-year period.

However, a Roth conversion ladder is not usually an immediate income solution. If someone needs income today, a 72(t) is usually a better tool. A Roth ladder typically works best when the retiree has enough cash, brokerage assets, Roth contributions, or other income sources to bridge the five-year waiting period.

In Jane’s case, the Roth conversion ladder becomes more attractive after her 72(t) plan ends at age 59½. At that point, she is no longer bound by the SEPP rules and may have more flexibility to manage income, conversions, and withdrawals.

72(t) vs. Roth Conversion Ladder

A 72(t) and a Roth conversion ladder are often compared, but they are not really substitutes for one another.

A 72(t) plan is useful when you need penalty-free access to IRA funds before age 59½.   The 72(t) is also a good way to start down the road of diversifying retirement assets to mitigate taxes in retirement. 

A Roth conversion ladder is useful when you want to shift money from taxable-at-withdrawal accounts into tax-free Roth accounts over time. It can reduce future RMDs and provide more tax flexibility. The downside is that conversions create taxable income today and generally require careful planning around tax brackets, ACA subsidies, Medicare premiums, and cash flow.

The 72(t) plan solves the early-income problem.

The Roth conversion ladder solves the future-tax problem.

For many early retirees, the best strategy may involve both.

Get Everything Ready for a 72(t) Plan 

In Jane’s case, the 72(t) plan and the Roth conversion ladder serve different purposes at different stages of retirement.

The 72(t) plan provides the income she needs today. It allows her to access traditional IRA funds before age 59½ without the 10% early distribution penalty. It also has the added benefit of reducing her traditional IRA balance during years when she is in a relatively low tax bracket.

Later, once the SEPP period ends, Jane can use Roth conversions to continue reducing her traditional IRA balance, build tax-free Roth assets, and lower future RMD exposure.

This combination can be especially powerful for early retirees with large traditional IRA or 401(k) balances. The key is to understand the purpose of each tool.

Used properly, a 72(t) plan can help bridge the income gap before age 59½. Used properly, a Roth conversion ladder can help manage taxes for the rest of retirement. There are different strategies for different jobs.

If you're considering a 72(t) plan, careful planning is essential. The timing, account structure, distribution method, and long-term tax implications all need to work together. Learn how a professionally designed 72(t) plan can help you access retirement funds early while avoiding costly mistakes and preserving flexibility for the years ahead. Contact us today for the best early retirement strategies.