Man Walking on a Tight Rope

[Cameraman1280]

Hello All: I’m new to the forum. I discovered this forum a few months ago and thought I would join to learn from the wealth of knowledge I have read about in the various forums.

I’m 65, and recently retired from my job of 38 years. I do not have many assets, except my 401K = 1.2M, company pension = 3800/month (before taxes), and 100K in a rainy day fund. I’m not taking SS yet. My house will be paid off within 6 months. I would like your thoughts and suggestions on my early retirement problem, I’m trying to solve. I have a Fidelity consultant helping me with my 401K management. I not taking Social Security until I turn 70, so, I want to live on just my pension, that I get from my past employer. It’s not a lot of money, but I can live frugally until I start taking SS. I figured out my total yearly retirement expenses are around 48K. I told my Fidelity consultant that I wanted to take out 20K each year from my 401K to supplement my yearly expenses and pay for my hybrid LTC insurance payments, until I start taking SS payments. Before receiving any money from my 401K, my Fidelity consultant asked me If I wanted to do a Net Unrealized Appreciation (NUA) on some of my company stock in my 401K. I did not know anything about NUA. He explained it and I read several articles on this process. From my first learning of this process, I asked why would I want to get rid of my company stock; it’s doing well. Just to make a general statement: looking at what’s going on in the world today, it ain’t going down. My Fidelity consultant said that rolling over a percentage of company stock, would lower my income when I had to do RMD’s in the future. He also said that the income from my dividends from my rolled over company stock could help pay for some of my LTC payments. I found an on-line NUA calculator and ran some numbers on various percentages of company stock to roll over. I looked at the amount of taxes (Federal and State) that would have to be paid out for the various percentages. Then thought, where am I going to get the money to pay the taxes for this NUA? The Fidelity consultant suggested that I use my rainy day fund money, that I have been saving for years. To accumulate that little rainy day fund, I did not go on any vacations, and all of my yearly tax refunds were saved. I deprived myself to save this money. If there is a household repair or health emergency or replacement car, I have something to fall back on. I’m no longer working to replenish this fund. I do not want to risk loosing any of my fund. Without it, I would sort of feel like a man walking a tight rope without a net. Would it be better to do small Roth IRA conversions every year to lower my RMD income (taking out extra money from my 401k to pay the taxes on the Roth IRA conversion amounts). I would appreciate any helpful thoughts or suggestions on my situation. Thanks

 

[OldShooter]

What percentage of your 401k is in company stock? "Prudent Man" guidelines say 10-15% should be the limit.

 

[Winemaker]

NUA allows you to be taxed at lower capital gain tax rates than at ordinary income tax rates. And IIRC, you don't have to sell the stock, you pay regular income tax on your basis for your company stock, and hang on to the stock in a taxable brokerage account.

 

[SevenUp]

Assuming:
- Your rainy day fund is held in some online savings account, earning 3.5%/yr.
- When SS starts, it will be at least $30K/yr

Doing ~$10K Roth conversion this year at a 12% marginal rate is probably a "go do it" item: once SS starts, even under the current tax code, you will likely be paying at least 22% on non-NUA 401k withdrawals.

If you pay the conversion tax from the rainy day fund, converting ~$55K this year (to keep you just under the first IRMAA tier) is well worth considering. That would take you into a 22% marginal rate but in your case "tie goes to the Roth" due to the way “Traditional plus taxable” vs. Roth math works.

Any money you convert into Roth immediately adds to your rainy day fund, because you are older than 59.5 and can withdraw that amount immediately without tax or penalty.

E.g., if you convert $55K this year (and given the assumptions above), your federal income tax would be ~$14K.

Taking $14K from the current rainy day fund might drop that to ($100K - $14K) * 1.035 = $89K at year end, but adding the $55K in the Roth IRA puts your total rainy day fund at $89K + $55K = $144K.

 

[obsessed]

I think we need to know what the current total value of the NAU stock is in your 401K and what the basis of that stock is (i.e. what the NAU rules say you need to pay tax on). Round numbers would be fine.

If the unrealized gain is relatively high it might be worth looking into. If the basis is high and the gain no significant, you might not get much benefit and would end up paying taxes at possibly a higher rate than you would otherwise pay on future distributions.

Also, I would think of your assets wholistically. Part of your emergency fund could be in the 401k (or IRA if you rollover after you address the NUA). For example, say you pay $20k in taxes on an NAU conversion, you could sell $20k in assets in your 401K to replenish the emergency fund.

 

[Sunset]

I would say it's pretty sad to have saved a rainy day fund by depriving yourself of vacations. They can be cheap and cost maybe $1K per week.

Beyond that, your company pension pays $45,600 per year, and you could easily take another $40,000 out of 401K per year.
So no need to scrimp and deprive yourself.

And a 100K rainy day fund is really too high.. A roof costs $10K, furnace $8K, A/C $5K, what rainy day events would cost $100K ??

I have credit cards to access emergency expenses up to around $20K -> $30K, time enough to think about selling bonds/stock/use HELOC , to pay off the CC in 30 days.

You don't say what State you live in, nor if married. Things that affect some financial choices.

 

[Texas Proud]

I think we need to know what the current total value of the NAU stock is in your 401K and what the basis of that stock is (i.e. what the NAU rules say you need to pay tax on). Round numbers would be fine.

If the unrealized gain is relatively high it might be worth looking into. If the basis is high and the gain no significant, you might not get much benefit and would end up paying taxes at possibly a higher rate than you would otherwise pay on future distributions.

Also, I would think of your assets wholistically. Part of your emergency fund could be in the 401k (or IRA if you rollover after you address the NUA). For example, say you pay $20k in taxes on an NAU conversion, you could sell $20k in assets in your 401K to replenish the emergency fund.

+1 on this...


I am in the process of doing this on my company stock and my basis is between 25% to 30% of the current value... my advisor said that if it were more than 50% that it might not be an advantage... especially if it is a large number...


A question to ask is can you pick and choose the stock to move? IOW, are there specific shares with specific costs in the plan? On mine there is not so I have an average cost per share... if I did not I would not move any shares I have received (or in your case bought) the past few years as the cost is not much more than the value...



You also do not have to move 100%... you can do any percent of your holdings you want...

 

[Cameraman1280]

Thanks to all who have responded with your suggestions. 40% of my 401K is company stock. From what I have read, to do a NUA, my entire 401K assets are rolled out into an IRA and brokerage acct. The 401K no longer exists. The percentage of company stock that goes through the NUA process goes into an IRA. The other 60% of my 401K assets go into a brokerage acct.(they are a mix of S&P 500, Index and fixed income funds). I know that, if I want to cash out some of my assets in the IRA, it will be taxed as capitol gains (15%) and not income; which is suppose to be better. What’s driving me nuts is I’m still paying tax on this money after doing the NUA. If I withdrew money from my Rainy Day Fund, I would not have to pay taxes or Fidelity Fees to get the money. Does it make sense to sell off some assets in my 401K to fund the NUA % of company stock, instead of using my rainy day fund? Look forward to your replies.

 

[pb4uski]

Well, just to start with, by having 40% of your retirement fund in a single stock results in a huge concentration risk. Stuff happens. There are all sorts of formerly great companies that for one reason or another have fallen from grace. I personally think it is foolich to bet your financial future on a single company, even a company that you know well.

 

[Dtail]

What percentage of assets are you paying the Fidelity consultant?

 

[SevenUp]

I know that, if I want to cash out some of my assets in the IRA, it will be taxed as capitol gains (15%) and not income; which is suppose to be better.

Any never-been-taxed money withdrawn from a traditional IRA is treated as ordinary income, not capital gains. I.e., it goes on line 4 of https://www.irs.gov/pub/irs-pdf/f1040.pdf, not line 7.

 

[Golden sunsets]

Thanks to all who have responded with your suggestions. 40% of my 401K is company stock. From what I have read, to do a NUA, my entire 401K assets are rolled out into an IRA and brokerage acct. The 401K no longer exists. The percentage of company stock that goes through the NUA process goes into an IRA.

Well, you've broken Rule #1 of basic tenets, vis a vis concentration of risk, so I'd agree you are walking a tightrope, a situation you don't need at this point. Did your investment advisor not point this out to you? He'd be shirking his duty, if he didn't so I'll assume he did. What you need is a thoughtful plan to divest over a few years to a reasonable risk, whether through converting your company stock to your taxable brokerage account and then selling if that makes sense tax wise, or selling in your 401K and reinvesting in other asset categories and through tax planning taking distributions over the next 5 years, paying the taxes(without triggering IRMAA) and reducing your RMD's(and taxes) once you hit age 72 or whatever the RMD age is for your birthdate.

 

[Winemaker]

I would pay the tax out of rainy day fund.

 

[Sunset]

..... 40% of my 401K is company stock. From what I have read, to do a NUA, my entire 401K assets are rolled out into an IRA and brokerage acct. The 401K no longer exists. The percentage of company stock that goes through the NUA process goes into an IRA. The other 60% of my 401K assets go into a brokerage acct......

That sounds backwards to me, if the 60% of your 401K that is not company stock goes into an brokerage account , you would be taxed very highly.

Are you sure its not: company stock goes into brokerage account ,and the 60% of 401K goes into an IRA

Also, some 401K's allow partial conversion/withdrawal so could you just do the NUA company stock and leave the rest in the 401K

 

[levindb]

I would strongly recommend you research the Frank Duke Method to learn more about how to handle the NUA distribution. Also, share this method with your Fidelity advisor.

This method allows you to do the distribution/rollover without paying any taxes in the current year. Not all advisors are familiar with the method, and some advisors are not allowed to handle your NUA this way.

Also, you need to understand if you have any Preferred Shares of you company stock that is at a significantly lower cost basis. You do not have to execute the NUA on all of your company shares. You can do it on just a portion of the shares, and use those shares to get your $20K/year. Then you would only be paying Capital Gains taxes on those shares, which may be 0%, 10%, or 20% depending on your other income.

 

[MarieIG]

Welcome Camerman.

Firstly, your pension is nothing to sneeze at. Secondly, you have a nice nest egg in your 401k. Thirdly, you are fiscally disciplined.

With regard to your company stock, your financial adviser has risk concerns - think Enron. But - significantly, you don't have to rush to rearrange your finances. And don't let your advisor rush you. If you need time to think over your plan, tell him that. Small steps can get you to your destination. You don't want to lose sleep over your decision.

With regard to your company stock, you can take "small" distributions (within your comfort zone) which would reduce the concentration risk, while allowing for some additional income. I would do some research on the "tax torpedo" which kicks in with required minimum distributions on top of social security. I would also consider making Roth conversions.

Please take a look at https://www.early-retirement.org/fo...-trigger-income-levels-for-2023-a-115879.html.

If it makes you more comfortable you can "split" your tax burden, some from the pension, some from the 40k, and some from the rainy-day fund. You can adjust (toggle back and forth) between what you take from the 401k and the rainy-day fund. You can also limit the amount you are taking from the rainy day fund to a certain percentage per year, so that you are not made too uncomfortable, by seeing a quick depletion. You should be able to replenish the rainy day fund once you start taking social security.

 

[target2019]

You're 65 and this is first full year of retirement? Taxwise, what happens is that you might have W-2 income in this year, and when you do this year's taxes that will give you a good idea of following years where there is no W-2 income.

$45,600 yearly pension with taxes will leave you $42,000. So you're not too short of the 48K yearly expenses.

You should look closely at threads here which speak to Roth Conversion. I would read extensively and then analyze whether a RC fits your future. Most agree that converting up to the top of 12% bracket seems to make sense. For example, you pay 12% now, instead of higher rate in the future.

Of course you must find a way to pay the additional tax. If you can't find that extra tax to be paid from already-taxed investments, then you deplete the investment by tax paid.

I would keep spreadsheeting ideas, and watch the monthly cash flow situation closely.

If you have longevity, then waiting until 70 for SSA is a reasonable guess. But I've read posts where some take the FRA amount at whatever age, and move forward with life.

 

[folivier]

My simple thought on this is you're now past the point of asset accumulation and going into the preservation phase. Yes, dump 1/2 of your company stock.
And yes it's not easy to make this change. That is where a FA is helpful since they take the emotions out of it.

 

[MRG]

Nothing to add other than another vote to get rid of 50%+ of your company stock. I had a similar problem and slowly got rid of all but 1000 shares of "play money." A few years later, Megacorp was acquired for cash.

 

[38Chevy454]

I agree that the high concentration of company stock is a risk. You don;t necessarily have to reduce that to 10-15% in one year. You could do it over several years, and paying attention to the IRMAA limits and tax rates. I guess I don't understand enough or am confused why you can't just use some of the NUA conversions to provide the money for the tax due on the conversion? If the conversions have favorable tax rates, it seems to make sense using that as a source of additional budget money. BTW, loosen up the spending and start doing more fun "blow the dough" stuff as we say on the forum here. Do some travel and vacations, maybe buy new(er) vehicle, do some house upgrades, or whatever. Sounds like you lived quite frugal and my advice is to don't be the guy lying in a hospital bed with regret not doing things you could have done.

You have a great start on retirement between your pension, your 401k and your rainy day fund. Go have some fun, it's an emotional change going from accumulation to withdrawing. You did well saving, now enjoy it. If you happen to pay some taxes, well that is part of the cost of the enjoyment of your savings.

 

[pacergal]

Welcome to the forum!
It sounds like you are hoping/trying to live very frugally on your pension, which gives you $38000, and minimal withdrawals on your 401 for the next 5 years, until you hit 70 and start Social Security.

Are you married, have kids?
What are you saving the $1.2 million for?
A safe 4% WD would give you $48000/year for 30 years, an even safer WD of 3% would give you 36K. Plus your pension, and soon SS.

You have saved well, and have the golden 3 legged stool: pension, savings, ss.
You can relax and spend some--traveling or doing whatever you envisioned your retirement to be! You don't have to spend it just because it is there, but you can live a bit less frugally.
I get that it is hard to move from a savings mode to a spending mode, I had a difficult time also. I am now 6 years in, and not as worried as I was.

I have taped up on my desk, a quote from someone on this forum:
"You are no longer in a savings mode, you are now in a slow spend down mode"

It has helped me relax a bit and realize we are doing OK with our budget.

 

[Texas Proud]

Thanks to all who have responded with your suggestions. 40% of my 401K is company stock. From what I have read, to do a NUA, my entire 401K assets are rolled out into an IRA and brokerage acct. The 401K no longer exists. The percentage of company stock that goes through the NUA process goes into an IRA. The other 60% of my 401K assets go into a brokerage acct.(they are a mix of S&P 500, Index and fixed income funds). I know that, if I want to cash out some of my assets in the IRA, it will be taxed as capitol gains (15%) and not income; which is suppose to be better. What’s driving me nuts is I’m still paying tax on this money after doing the NUA. If I withdrew money from my Rainy Day Fund, I would not have to pay taxes or Fidelity Fees to get the money. Does it make sense to sell off some assets in my 401K to fund the NUA % of company stock, instead of using my rainy day fund? Look forward to your replies.

As mentioned by someone else this is backwards...


the STOCK goes into a regular brokerage account... the rest goes into a traditional IRA rollover...


Taking anything out of the IRA is regular income...



Selling stock in the brokerage will result in long term capital gain based on your selling price and your basis in your stock


I would use your rainy day fund to pay taxes and next year (hopefully with lower taxes) sell stock to replenish it...