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The tax man cometh
Old 04-07-2015, 07:55 AM   #1
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The tax man cometh

I worked on a tax return recently for a couple of new retirees. It is volunteer work so it does not count against my retiree status. They retired in 2014 and they are the perfect retirement tax storm. I was hurt just looking at their numbers.


The most significant mistake that they made was not understanding SS tax-ability. It caused a triple taxation event. They cashed in some IRAs ( taxable) which pushed some SS into the taxable range (taxable) which put them over the top for ACA premium (taxable). It broke my heart.


The year that we retire can be a significant tax wake up. Get ready for it.


Wake up call number 1. SS may be taxable. If you are married and your other income plus of SS exceeds 32k then 50% of SS becomes taxable and at higher income up to 85% becomes taxable. It your other income is below 50k then you need to understand this window. For example, non-taxable capital gains in this window cause SS to become taxable.


Wake up call number 2. For a married couple with AGI income below (roughly) 93k capital gains (CG) and qualified dividends (QD) are untaxed. Be careful, there is a trap here. If your income is ~93k and you have CG/QD)then they are taxed at 0. Cash in a 10k IRA that is taxable and watch what happens. The IRA gets taxed at 15% and the CG/QD gets taxed at 15%. An effective marginal tax rate of 30%.


What can we do?
  1. Be aware of these windows.
  2. Retire (lose the W2 income) early in the year.
  3. Plan your IRA/401k withdrawals with a eye to the tax brackets and these two windows.
  4. Run tax scenarios on some tax program, especially on the first transition year.
  5. If you get a buyout, watch out for the tax man.


We have to pay taxes. We do not have to be surprised by the tax man. Please to be sure to include a little tax planning in your process. Do not trust the advice of SS administration or your benefits coordinators. They may be good people but they do not understand your complete picture.
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Old 04-07-2015, 08:08 AM   #2
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#1 is more well known than the hidden 30% bracket. But even so, one of our TaxAide volunteers did a Roth conversion last year and learned recently that because of the SS push, the tax on the conversion was brutal. Lesson learned. I reminded her that tax software is generally available around December 1 and that major discretionary actions (like Roth conversions) should usually be done in December after doing a pro forma tax return. By mid-December, most people know all they need to know to get pretty close to an accurate pro forma return (K-1 recipients being an obvious exception).

I agree with your point, when you prepare your tax return, there should rarely be anything that surprises you.
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Old 04-07-2015, 08:09 AM   #3
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I disagree with the 30% tax bracket characterization, as each type of income is separately taxed at 15%, you've simply lost your 0% tax status on the long term cap gains and qualified dividends.

Otherwise, good advice.
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Old 04-07-2015, 08:29 AM   #4
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Cooked.......excellent advice on being informed and aware of the traps.
You might want to reword the advice to make it clear that these are phased
events, not cliffs.......e.g. if you go $1 over the limits, it's not a tragedy.

audrey......the 30% bracket can be thought of in a number of ways. The fact is that if you are in the situation described by OP (at the threshold) and then add some amount of ordinary income that pushes some of the LTCG/QDIV over the limit, your marginal tax bracket will be 30% on that ordinary income addition until all of LTCG/QDIV is pushed over that threshold.
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Old 04-07-2015, 08:34 AM   #5
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Cooked.......excellent advice on being informed and aware of the traps.
You might want to reword the advice to make it clear that these are phased
events, not cliffs.......e.g. if you go $1 over the limits, it's not a tragedy.

audrey......the 30% bracket can be thought of in a number of ways. The fact is that if you are in the situation described by OP (at the threshold) and then add some amount of ordinary income that pushes some of the LTCG/QDIV over the limit, your marginal tax bracket will be 30% on that ordinary income addition until all of LTCG/QDIV is pushed over that threshold.
Or you've simply hit the 15% tax bracket on your cap gains income.
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Old 04-07-2015, 08:38 AM   #6
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....But even so, one of our TaxAide volunteers did a Roth conversion last year and learned recently that because of the SS push, the tax on the conversion was brutal. ....
Couldn't she recharacterize the amount necessary to avoid the SS push if she wanted to?

The 30% was going to bite me this year by a small amount, but I simply recharacterized enough to get me down to the top of the 15% tax bracket. It was sort of cool that my TI was exactly the tax bracket amount... I suspect I may get a friendly letter asking about that from our friends at the IRS.
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Old 04-07-2015, 08:45 AM   #7
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Or you've simply hit the 15% tax bracket on your cap gains income.
yes, that's one of the ways of thinking about it so I'm not necessarily disagreeing with you. The same thing is true of SS taxation....people talk about marginal tax brackets of 1.5x and 1.85x nominal rates of 15% and 25%
when you're in the "zone".......but it's just 50% or 85% of SS being taxed at ordinary rates instead of at the protected 0%.....just depends how you want to think about it. The practical effect is that the marginal brackets increase when you add ordinary income in those situations. Both are ok ways of thinking about it............as long as you get the correct answer, it doesn't matter.
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Old 04-07-2015, 08:59 AM   #8
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Thanks for the warning. DH and I learned the unhappy lesson about SS being taxable when we married in 2003. I was 50 and working FT, he was 65 and filed for SS. Our state grabs its share of SS, too.


Fortunately, with what I learned on this Board, I'll make good decisions tax-wise when it comes to filing for SS, withdrawing from taxable vs. after-tax accounts, etc.


Calculating the impact of certain actions on marginal tax rates is tricky; if you itemize, any addition to your Adjusted Gross also increases the threshold for Medical expense deductions, and a lot of us here have enough in premiums alone to deduct some of our Medical expenses.
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Old 04-07-2015, 09:01 AM   #9
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Calculating the impact of certain actions on marginal tax rates is tricky; if you itemize, any addition to your Adjusted Gross also increases the threshold for Medical expense deductions, and a lot of us here have enough in premiums alone to deduct some of our Medical expenses.
I find TurboTax's What-If worksheet really useful for these kinds of calculations. It's a little quirky, but works ok.
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Old 04-07-2015, 09:49 AM   #10
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I disagree with the 30% tax bracket characterization, as each type of income is separately taxed at 15%, you've simply lost your 0% tax status on the long term cap gains and qualified dividends.

Otherwise, good advice.
Thank you. I re-read that a few times and never thought "30%". It's 15% on different incomes which is 155 for the total amount...............
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Old 04-07-2015, 11:26 AM   #11
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Or you've simply hit the 15% tax bracket on your cap gains income.

When you talk about marginal tax rate, you do not look at it from the view you are...

IOW, the next dollar of income creates how much tax So, if you put a dollar more income in the example, you pay 30 cents more tax... a marginal tax rate of 30%.... it really does not matter where the tax came from, but what you are paying out of pocket...

So, that extra dollar has a marginal tax rate of 30%... the OP did not say a 30% bracket... it was from another poster.... so OP is correct...
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Old 04-07-2015, 11:29 AM   #12
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When you talk about marginal tax rate, you do not look at it from the view you are...

IOW, the next dollar of income creates how much tax So, if you put a dollar more income in the example, you pay 30 cents more tax... a marginal tax rate of 30%.... it really does not matter where the tax came from, but what you are paying out of pocket...

So, that extra dollar has a marginal tax rate of 30%... the OP did not say a 30% bracket... it was from another poster.... so OP is correct...
Only if you expect ALL your capital gains to be taxed at 0%. IMO that is kind of silly.

It's quite clear that once you exceed total income of a certain amount, you start paying capital gains taxes of 15% on the amount that exceeds that threshold.
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Old 04-07-2015, 11:41 AM   #13
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Only if you expect ALL your capital gains to be taxed at 0%. IMO that is kind of silly.

It's quite clear that once you exceed total income of a certain amount, you start paying capital gains taxes of 15% on the amount that exceeds that threshold.

No... the example was that all WAS at 0%... so it is not silly as it happens all the time...

You seem to be looking at it from a whole... IOW, you pay 15% tax on the cap gain and 15% tax on the new income... that is true... no question about it.... but that is not what marginal tax is about...

But, what caused that cap gain tax What new dollar of income was earned to move it from a 0% cap gain to a 15% cap gain That is what the OP is talking about... know where that cliff is located... and if you need to delay earning that extra dollar then do so....
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Old 04-07-2015, 11:43 AM   #14
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No audrey, TP is correct.... the marginal rate is 30%... it doesn't matter at all what your expectations are with respect to capital gains taxes or the character of the taxes. It's just plain math.

If your income exceeds the 15% tax bracket by $100 your total tax increases by $30 so that last $100 got taxed at 30%... purely math.
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Old 04-07-2015, 11:47 AM   #15
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Okay. I get the message loud and clear. If I ever post again, in the interest of clarity, I will not include any contrived examples to demonstrate the point.
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Old 04-07-2015, 11:50 AM   #16
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FWIW I thought they are great examples and that it was a great post.
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Old 04-07-2015, 12:08 PM   #17
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If your income exceeds the 15% tax bracket by $100 your total tax increases by $30 so that last $100 got taxed at 30%... purely math.
This is not necessarily true. Your tax (1040 line 47) does go up by 30%. Your total tax (1040 line 63) may go up by less.

If you use Form 1116 to compute a Foreign Tax Credit, the additional $100 may give you a larger credit which would reduce your total tax.
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Old 04-07-2015, 12:11 PM   #18
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FWIW I thought they are great examples and that it was a great post.

+1.... I think it was a great post and had great examples....
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Old 04-07-2015, 12:37 PM   #19
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+1.... I think it was a great post and had great examples....
+1 the message is important even if there is some squabbling about the numbers and %....
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Old 04-07-2015, 12:40 PM   #20
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No audrey, TP is correct.... the marginal rate is 30%... it doesn't matter at all what your expectations are with respect to capital gains taxes or the character of the taxes. It's just plain math.

If your income exceeds the 15% tax bracket by $100 your total tax increases by $30 so that last $100 got taxed at 30%... purely math.
I don't understand. If I make $100 more in cap gains/qualified dividends to push the total income $100 above the threshold, it doesn't increase the taxes owed on the ordinary income at all, and you pay 15% on that $100 cap gains/qualified dividends instead of 0%. $15.

OK - I see that if your ordinary income increases $100 you will pay $30.
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