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Tax advice
Old 01-25-2008, 07:24 PM   #1
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Tax advice

I have 50% in a taxable account and 50 % in an IRA . Should I just use the dividends and capital gains from both accounts to make up my 4% or would it be better to just use the dividends and capital gains from the taxable account and sell assets from the taxable account if needed and leave the IRA to continue to grow . Thanks , I'm new at the spending part of retirement .
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Old 01-25-2008, 07:45 PM   #2
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First I would make withdrawals from the IRA (which are taxed as ordinary income) to offset personal exemptions and the standard/itemized deduction. Then I would use qualified dividends and LT capital gains from the taxable account to bring me up to the 4% SWR. This year (and possibly 2009 & 2010) the portion of qualified dividends/LT cap gains which fall into the lower 2 brackets are taxed at 0%, and after that at 15%.

If you have any other taxable ordinary income (e.g. interest, SS, etc.), I would reduce the amount withdrawn from the IRA by this amount, the point being to use deductions/exemptions to shelter ordinary income, then get the favored tax treatment on qualified dividends/LT cap gains.
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Old 01-26-2008, 04:06 AM   #3
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Depends. IMO, and understand I did not do what I am suggesting, to my disadvantage, I would spend down the taxable account earnings and and the principle and try to have it pretty well depleted when the RMD's hit (age 70.5) and/or SS Benefits (age 62-70). We are on the verge of RMD's (actually DW starts this year). I find the impact of taxable account interest is pretty stiff when coupled with the RMD (which in fact becomes a fully taxable account) and the impact on SS being taxable is also pretty stiff. Starting this year 85% of SS will be taxable and there is no reasonable way out of it. If we had "spent down" or depleted the taxable accounts before this year the tax impact would have been considerably less, somewhere in the range of 30% less taxes. Additionally, I should have put more into ROTH accounts, which I did, but early on I could have put more in them. In any event staying in the 15% tax bracket becomes harder and harder and spending down the taxable money is the only reasonable recourse.
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Old 01-26-2008, 05:48 AM   #4
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Depends. IMO, and understand I did not do what I am suggesting, to my disadvantage, I would spend down the taxable account earnings and and the principle and try to have it pretty well depleted when the RMD's hit (age 70.5) and/or SS Benefits (age 62-70). We are on the verge of RMD's (actually DW starts this year). I find the impact of taxable account interest is pretty stiff when coupled with the RMD (which in fact becomes a fully taxable account) and the impact on SS being taxable is also pretty stiff. Starting this year 85% of SS will be taxable and there is no reasonable way out of it. If we had "spent down" or depleted the taxable accounts before this year the tax impact would have been considerably less, somewhere in the range of 30% less taxes. Additionally, I should have put more into ROTH accounts, which I did, but early on I could have put more in them. In any event staying in the 15% tax bracket becomes harder and harder and spending down the taxable money is the only reasonable recourse.
What R Wood illustrates is a valid reason for rolling over your 401k to IRAs so that you can roll that over to a Roth IRA. It is especially important if you have a pension of any consequence. Add your SS and you could be in the current 28% - 32% marginal tax bracket. If the dems get in, I would expect that those brackets would increase.

I just haven't figured out what the details are yet. But that is on my list to work out... and soon.
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Old 01-26-2008, 07:30 AM   #5
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I am very new to this "withdrawal" stage. ThisIRA conversion issue seems to be beyond my understanding... certainly much more complicated than at first thought.

A google search:
"traditional IRA to Roth IRA" - Google Search

gives, for example, this:
Tax-smart ways to convert a traditional IRA to a Roth IRA (Page 1 of 4)

Most of which went over my head. However, I can't get this question out of my head:

What , exactly, is the advantage to paying taxes early?

I always thought the key to financial success was:

Buy low.
Sell high.
Collect early.
Pay late.

How am I off track?
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Old 01-26-2008, 08:00 AM   #6
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Originally Posted by RonBoyd View Post
What , exactly, is the advantage to paying taxes early?
There is no advantage to paying taxes early...unless by doing so you pay less tax than you would by waiting.

Did you see the information on Roth conversions here?
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Old 01-26-2008, 08:32 AM   #7
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There is no advantage to paying taxes early...unless by doing so you pay less tax than you would by waiting.
Paying the taxes now instead of many years from now (RMD) when your tax bracket is, perhaps (assumably?), lower, for example?

Wow! Is there some calculator available that compares the (expected)investment return over a certain period vs the (expected) tax liability at the end of the same period. (That is a clumsy choice of words so I hope you understand what I am asking.) Or is this something I have to figure out myself?
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Old 01-26-2008, 08:48 AM   #8
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My intent upon retirement is to live on after tax money and a tiny pension. I will then convert enough from my IRA to my Roth to fill out the 15% tax bracket. I'll continue doing this until I am either out of after tax money or I turn 70 and start taking SS. If I run out of after tax money, I'll balance IRA and Roth deductions to keep me in the 15% bracket.

The goal is to get as much into my Roth as possible before starting SS or RMD. This will get my RMD down to a level where I'll hopefully stay in or near the 15% tax bracket. When I project where I need to be to achieve this goal, it looks very doable until I am in my late 80s.

Here's an RMD calculator. Since we're generally talking about something decades in advance, many things can change between now and then.

RMD Calculator
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Old 01-26-2008, 08:54 AM   #9
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Originally Posted by RonBoyd View Post
Paying the taxes now instead of many years from now (RMD) when your tax bracket is, perhaps (assumably?), lower, for example?
If you think your tax rate will be lower now than in the future, it might be to your advantage to convert some traditional IRA money to a Roth IRA.

Quote:
Originally Posted by RonBoyd View Post
Is there some calculator available that compares the (expected)investment return over a certain period vs the (expected) tax liability at the end of the same period. (That is a clumsy choice of words so I hope you understand what I am asking.) Or is this something I have to figure out myself?
I'm not aware of any calculator to do this comparison, but perhaps someone else will chime in with a suggestion. For myself, I could see that I would be at a very low tax rate my first couple of years of retirement (living on taxable savings, not withdrawing IRA funds), providing an excellent opportunity to convert to a Roth IRA and pay no more than 15% tax. My assumption is that future tax rates may increase and/or I will be in a higher tax bracket, so I prefer to pay 15% now rather than risk paying a higher % in the future. It's also nice that I will pay zero tax on any growth within the Roth IRA.
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Old 01-26-2008, 09:06 AM   #10
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Yes! That's it. That's exactly what I need... a Crystal Ball.
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Old 01-26-2008, 10:26 AM   #11
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Most of which went over my head. However, I can't get this question out of my head:

What , exactly, is the advantage to paying taxes early?
Ok, I took a look at the RMD Financial Calculator. I did a quick 'what if' and here is what I found.

Given my current course and speed, I COULD find myself in this predicament:
1) pension + rmd + SS + taxable income @ 70 1/2 = over 6 figures and that would put me in the current 28 -32% tax bracket. I suspect that the marginal rates could possibly go up with a few terms of Dems. in power. In any case, I don't see taxes going down any time soon.
2) If I convert 401k to IRA and start converting to Roth, to a max of say 20% effective rate each year. I should convert enough so that my rmd @ 70 1/2 won't be so large and therefore the taxes burden will be lower.

I hate to have done all of this good accumulation work and then let it grow tax free, only to get it 'taxed away' from me under rmd.
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Old 01-26-2008, 10:52 AM   #12
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If you ER before 59 1/2 and are funding your retirement from your taxable accounts, your tax rate is probably lower than it will be when you're taking funds from your IRA, getting your pension, SS etc. This is a good time to use up your tax bracket to move funds from traditional IRAs to Roth IRAs. (ie. withdraw funds until you're about to move to a higher bracket).

This paper was referred to in another thread on the subject. It is very good reading.
TIAA-CREF Institute | Tax-Efficient Sequencing of Accounts
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Old 01-26-2008, 12:12 PM   #13
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My intent upon retirement is to live on after tax money and a tiny pension. I will then convert enough from my IRA to my Roth to fill out the 15% tax bracket.
One thing I can never understand when people make statements like this. Even if you have almost zero in interest or dividends in your taxable accounts (you are only selling off shares over time), unless your investments are all loss makers, you will still have a fair amount of taxable gain.

After a person has been investing long enough to retire, he is going to have a lot of imbedded capital gains, or he is going to be too poor to retire.

I am quite tax conscious, but I still pay a lot of tax every year, and will continue to unles something very negative happens in the markets.

Ha
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Old 01-26-2008, 12:35 PM   #14
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One thing I can never understand when people make statements like this. Even if you have almost zero in interest or dividends in your taxable accounts (you are only selling off shares over time), unless your investments are all loss makers, you will still have a fair amount of taxable gain.
After a person has been investing long enough to retire, he is going to have a lot of imbedded capital gains, or he is going ot be too poor to retire.
I am quite tax conscious, but I still pay a lot of tax every year, and will continue to unles something very negative happens in the markets.
Ha
I don't disagree with your statements, but I don't understand what you're questioning.

If it's the IRA conversion comment, then I'd rather pay lower taxes now in the hope of avoiding higher taxes later. If it's about cap gains, then I'd rather pay those cap gains taxes in 2008 than wait to contend with the uncertainty of cap gains taxes in 2011.

But maybe you were making a different point.
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Old 01-26-2008, 12:45 PM   #15
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One thing I can never understand when people make statements like this. Even if you have almost zero in interest or dividends in your taxable accounts (you are only selling off shares over time), unless your investments are all loss makers, you will still have a fair amount of taxable gain.
One could have a large stash of after-tax cash held in a municipal money market fund, which is drawn down to live off. This would incur no additional Federal tax liability, and basically free up a large part of the 15% bracket for Roth conversions. Additionally, in 2008 (and maybe 2009 & 2010), someone in the 15% bracket could cut back on the Roth conversions, and take some LT gains at the 0% tax rate to replenish the money market fund.
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Old 01-26-2008, 02:17 PM   #16
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Since it was my comment Ha questioned, I'll explain based on what I understand of the statement.

Yes. There will be long term capital gains. Currently but probably not for long, they receive favorable tax treatment. The overall after-tax assets are well less than 50% capital gains. When I sell some, I will be able to manage the amount of gains in any given year to still leave some room in the lower tax brackets. It could be that I alternate years of taking capital gains with large Roth conversions. I will still have taxable dividends and interest but not enough to destroy what I'm planning to do.

When I get closer to being able to actually implement this strategy, I might decide the 25% tax bracket looks pretty good and I'll fill it up.
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