ER Withdrawals - Pre-Tax & Post-Tax Accounts

[EnricoPallazzo]

My wife and I are basically at our number based on every model I've run. So I have been looking at how we would move forward if we decide to add RE to our FI. However, one element of our planning that I haven't fully wrapped my head around yet is the utilization of assets from Pre-Tax and Post-Tax accounts when in ER. Approximately 40% of our investment assets are in Post-Tax accounts and 60% are in Pre-Tax accounts. I am 47, she is 45, so it will be about a dozen years before I am 59.5.

If our income stopped today there's more than enough in the post-tax accounts to cover our expenses for the next dozen++ years, but I'm wary of SORR and how that might have a compound effect if we're relying on only ~1/2 of our investment assets in the near-term.

I am curious how others may have approached this or any thoughts from the community. Three (non-mutually exclusive) options that come to mind are 1) do nothing - if it becomes a problem then take action; 2) start Roth IRA conversion ladders to shift funds from pre- to post-tax accounts; and 3) take 72(t) SEPP IRA distributions. And there's always 4) keep accumulating in post-tax accounts, increasing portfolio value, reducing SORR impact by further exceeding our number, and reducing time-to-59.5.

This is largely academic at this point since we're still working (basically doing #4), but I wanted to do a sanity check if I should be taking action now (e.g., starting a Roth IRA conversion ladder so those funds would be available without penalty in 5 years) should we decide to pull the cord.

 

[pb4uski]

More information needed, but I would lean towards living off of taxable accounts and doing Roth conversions to the top of the 0% preferenced income tax bracket.... that's $80,000 of taxable income for a married couple in 2020 or $104,800 of income assuming you take the standard deduction.... then if taxable funds run out before you are 59 1/2 and eligible for penalty-free withdrawals from tax-deferred accounts you could withdraw contributions from the Roth tax and penalty free.

To me, this isn't a SORR issue... SORR is a function of AA and you can keep your AA constant as you spend down taxable accounts by just shifting money between stocks and bonds in your tax-deferred accounts.

 

[ut2sua]

More information needed, but I would lean towards living off of taxable accounts and doing Roth conversions to the top of the 0% preferenced income tax bracket.... that's $80,000 of taxable income for a married couple in 2020 or $104,800 of income assuming you take the standard deduction.... then if taxable funds run out before you are 59 1/2 and eligible for penalty-free withdrawals from tax-deferred accounts you could withdraw contributions from the Roth tax and penalty free.

To me, this isn't a SORR issue... SORR is a function of AA and you can keep your AA constant as you spend down taxable accounts by just shifting money between stocks and bonds in your tax-deferred accounts.

Bold is mine. Did you meant 12% instead of 0%, or did I miss some points along the way? Thanks.

 

[DawgMan]

As stated, more info is really needed. Do you have any 401K accounts and if so, would you qualify for Rule of 55? Or, are they SEP IRAs only? What level of income/withdrawals are you planning?

I'm 56 and have my pre/post tax accounts split roughly 50/50. I have a combination of 401K & some SEP IRA accounts and can qualify for Rule of 55. In my case, I am still "working", but slowly phasing out (may take a partial withdrawal next year). My income has been too high so Roth conversions have never made sense while working. I am also planning on higher than average annual spend. My plan is to manage my annual withdrawals by taking a $$ out of my 401K up to a targeted tax bracket and then pull the rest from my after tax accounts. This is my defacto Roth conversion strategy. I will then do annual projects as to how nasty my RMDs will get taxed and decide if I want to Roth conversions up to say the 24% bracket, or just put my head in the sand and face the tax man when RMDs hit.

At a min, you need to solve 47 - 55 (or 59.5). If you have kids and do not despise your job, my general recommendation is to keep working (lots of cost surprises can arise from those little boogers, especially from teenage - college years). If it's just you and your wife maybe run some "what if" scenarios in case you determine you want/need to go back to work. Otherwise, give it a go!

 

[pb4uski]

Bold is mine. Did you meant 12% instead of 0%, or did I miss some points along the way? Thanks.

I meant 0% preferenced income tax bracket, which is $80,000. The top of the 12% tax bracket is $250 higher, at $80,250. However, if you have preferenced income that extra $250 of Roth conversion attracts $68 of tax because $250 is taxed at 12% and pushes $250 of preferenced income into the 15% tax bracket.

 

[Big_Hitter]

I plan on living off the taxable part of my stash as long as possible

 

[mckittri2000]

We do SEPP payments every year from an IRA account. Works out well for us.

 

[mrfeh]

If our income stopped today there's more than enough in the post-tax accounts to cover our expenses for the next dozen++ years, but I'm wary of SORR and how that might have a compound effect if we're relying on only ~1/2 of our investment assets in the near-term.

I am curious how others may have approached this or any thoughts from the community.

Our "solution" to this possibility is to keep 3 years of expenses in cash, to avoid selling equities if the market tanks.

 

[EnricoPallazzo]

Thanks all - appreciate the thoughts.

More information needed, but I would lean towards living off of taxable accounts and doing Roth conversions to the top of the 0% preferenced income tax bracket.... that's $80,000 of taxable income for a married couple in 2020 or $104,800 of income assuming you take the standard deduction.... then if taxable funds run out before you are 59 1/2 and eligible for penalty-free withdrawals from tax-deferred accounts you could withdraw contributions from the Roth tax and penalty free.

Thanks. This also led me to find some other discussions on the same topic that were helpful, including this one: https://www.early-retirement.org/fo...n-newbie-with-a-question-on-taxes-100678.html

Do you have any 401K accounts and if so, would you qualify for Rule of 55? Or, are they SEP IRAs only?

Yes we both currently have 401(k)s, tIRAs, and small Roth IRAs, but may consider leaving our current employers prior to reaching 55.

At a min, you need to solve 47 - 55 (or 59.5). If you have kids and do not despise your job, my general recommendation is to keep working (lots of cost surprises can arise from those little boogers, especially from teenage - college years).

Right - we have an early-teen and nearly-teen, so that's definitely a consideration. I'm comfortable that our projection of expenses covers our standard needs/wants (with cushions) plus an extra cushion for expected/semi-planned one-time expenses, but it's the "unknown unknowns" that would be concerning..

 

[RetireBy90]

I would make 3 suggestions.

First, open a Roth today if you don't have one. My understanding is that the 5 year clock starts when you open the account, not when further deposits are made. Get the clock started.

Second, if your retirement funds are in a 401K check with the administrator to see if you can take distributions on your schedule of time and amount and source. When I retired the only choices were a total withdraw or annuity like fixed payments every year and from both Roth and traditional funds. Not a big problem as I just rolled over the 401K to existing IRA accounts so I can time and select sources as I want but could be an issue depending on your plan.

And third, you will have 18 and 20 years to medicare. Medical insurance can be a tremendous cost for those gap years. I checked with Kaiser who we used while employed and they wanted $800 or more per month depending on the plan. I was fortunate to get Tricare for the 3 year gap before Medicare (next year for me). I had planned on paying for medical in my planning, just not $800 for each of us or $1600 a month.

 

[donheff]

Good advice on Roth conversions. I am 15 years in and all withdrawals until recently were from our joint taxable account with is 100% equities. In my opinion, the best way to view this is that you are pulling from the portfolio as a whole. If selling equities to generate the withdrawal cash upsets your asset allocation (particularly, if you have to pull while equities are depressed in a downturn) you can simultaneously (i.e. same day) exchange bonds for equities in a tax differed account to keep the overall portfolio in balance and effectively pull from bonds instead of equities.

 

[EnricoPallazzo]

First, open a Roth today if you don't have one. My understanding is that the 5 year clock starts when you open the account, not when further deposits are made. Get the clock started.

My understanding is that the clock starts for contributions in the tax year in which the first contribution is made (not when the account was opened), and for conversions the tax year of that explicit conversion, i.e. for each conversion transaction.

you will have 18 and 20 years to medicare. Medical insurance can be a tremendous cost for those gap years.

Agreed. I recently significantly increased our projected annual medical expense budget to ensure expected premiums, OOPs, etc. are fully covered plus some more on top for additional cushion. Likely/Hopefully that projected cost is now way over-inflated, but would rather have it that way than the opposite.

In my opinion, the best way to view this is that you are pulling from the portfolio as a whole. If selling equities to generate the withdrawal cash upsets your asset allocation (particularly, if you have to pull while equities are depressed in a downturn) you can simultaneously (i.e. same day) exchange bonds for equities in a tax differed account to keep the overall portfolio in balance and effectively pull from bonds instead of equities.

Thank you. This makes sense and mirrors pb4uski's comment "To me, this isn't a SORR issue... SORR is a function of AA and you can keep your AA constant as you spend down taxable accounts by just shifting money between stocks and bonds in your tax-deferred accounts."

 

[RetireBy90]

My understanding is that the clock starts for contributions in the tax year in which the first contribution is made (not when the account was opened), and for conversions the tax year of that explicit conversion, i.e. for each conversion transaction.

Should have been more explicit perhaps. Open an account with some funding, either Roth conversion or direct contribution if you are eligible. Either way, you can start the clock. I believe the clock doesn't restart for each conversion or each contribution.

 

[SecondCor521]

Should have been more explicit perhaps. Open an account with some funding, either Roth conversion or direct contribution if you are eligible. Either way, you can start the clock. I believe the clock doesn't restart for each conversion or each contribution.

There are two different five year clocks, so referring to "the clock" is a little inaccurate.

Each conversion has it's own five year clock (*) after which it can be withdrawn penalty free.

The other five year clock starts with your first Roth IRA account, but I'm not sure about that one too much since it doesn't apply to me - my Roth is probably at least a decade old by now and I won't need to worry about it. You can certainly google to find out more about this second five year clock.

(*) Technically all conversions in a year are effectively treated as having been made on 1/1 of that year, and the five year clock ends on 1/1 five years after that, so conversions late in a calendar year (**) can effectively have as little as a bit over a four year clock.

(**) Technically tax year, but pretty much all individuals are calendar year tax filers.

 

[Koolau]

No specific advice but I'll just let you know how I feel about the way I did it. I believe I ended up with WAY too much qualified money (tIRAs and 401(k)). I wish I'd had a better understanding of the consequences. I did my best, post-FIRE, to move as much to Roths as possible within the limits of tax burden. When you begin RMDs, you'll know what I'm talking a about but YMMV.