Reinvesting vs. collecting the income

[Kimo]

Even though I posted that I have dividends and capital gains distributions posted to my bank account, I'm still trying to get my head around this.

Assuming that both equal the amount I would need to withdraw from my taxable portfolio each year:

Reality of not reinvesting those proceeds:

1. I have to pay taxes on them whether they are reinvested or not
2. It's roughly the same $$ amount of shares I would have to sell anyway, so I've preserved the number of shares I have in my portfolio.
3. The number of shares in my portfolio never increases

Reality of reinvesting those proceeds:

1. I have to pay taxes on them whether they are reinvested or not
2. I incur small gains (or losses) on those reinvested proceeds
3. I increase the number of shares in my portfolio but ultimately have to sell shares in order to withdraw for the year.

Now I'm not sure which is best.

When I posted this subject I had nearly the exact same thoughts. After reading them all I am going to do a combination of the two ideas, reinvest CG's and take everything else as income...

 

[marko]

Even though I posted that I have dividends and capital gains distributions posted to my bank account, I'm still trying to get my head around this.

Assuming that both equal the amount I would need to withdraw from my taxable portfolio each year:

Reality of not reinvesting those proceeds:

1. I have to pay taxes on them whether they are reinvested or not
2. It's roughly the same $$ amount of shares I would have to sell anyway, so I've preserved the number of shares I have in my portfolio.
3. The number of shares in my portfolio never increases

Reality of reinvesting those proceeds:

1. I have to pay taxes on them whether they are reinvested or not
2. I incur small gains (or losses) on those reinvested proceeds
3. I increase the number of shares in my portfolio but ultimately have to sell shares in order to withdraw for the year.

Now I'm not sure which is best.

It really is a 'six of one...' issue!
For me, there is an advantage in not having to make a decision on what shares and when to sell. Having he money already set aside just makes the withdrawal easier without the stress of wondering "is this a good time to sell?"

 

[Kimo]

Excellent point!

 

[scrabbler1]

When I posted this subject I had nearly the exact same thoughts. After reading them all I am going to do a combination of the two ideas, reinvest CG's and take everything else as income...

From what I wrote in my posts in this tread, this is basically what I do, too. I do, however, reinvest monthly dividends from my smaller bond funds because I there is no chance I would need them as cash to cover my monthly expenses. A few years ago, I did take some of them as cash but now because I am taking my larger, quarterly stock dividends as cash, that extra boost more than covers any monthly bumps in my budget. I then figure out how much from that quarterly cash inflow I can reinvest.

For a short time a few years ago, I did a dividend "sweep" by which I used the dividends (and CGs) from one fund within the same account to buy shares in another fund. Similarly, this can be used as a mild rebalancing move if the two funds involved are of different asset types.

 

[Greg V]

I am currently retired and reinvest in all my IRAs. Taxable accounts are not significant enough to matter for this issue. I generate the cash I need for withdrawal during annual rebalancing and set that money aside.

I don't promote this as better than taking the dividends/gains as cash during the year. My rationale: for me it is a straightforward method of extracting income in an equitable fashion from across my entire portfolio and maintaining my desired asset allocation in a single (though potentially large) step.

Half of my retirement portfolio is in TSP where you cannot take any dividends/gains as cash. Because of the limited options available in that program, I take a constant dollar amount each month. I rebalance TSP at the same time as I do my IRAs.

Interesting to see all the various approaches to this decision.

 

[Gotadimple]

I think it depends.

It depends on your asset allocation and whether it needs to change.
It depends on what you need from your portfolio each year to meet your budget.
It depends on how you want to do the withdrawals from accounts.

For me personally, I have all dividends, capital gains paid out and saved within each account. If large enough during the year, I may invest them in a short-term bond fund.

Once I determine my budget, I know how much as to come from my investments (tax-free, pre-tax, and post-tax).

Annually, I do an asset re-allocation that generates the cash I need. Using the cash in the various accounts helps in reallocating, AND in the final disbursement.

I will caution that re-allocating among several accounts can be a bit of a puzzle. Having cash in those accounts helps to solve the allocation/disbursement puzzle.

Rita

 

[jerome len]

I make it nice and simple.......I have all my taxable dividends and interest deposited into an interest bearing checking account. Every six months I look at the money in my account, if there is an excess and there usually is I rebalance my investment portfolio. And, I keep enough money in the checking account to pay taxes.

So, my Roth IRA remains untouched, I don't sell either bonds or stock, I rebalance every six months and I don't worry about taxes. Is this the smartest way to go? I don't know but I know it's the easiest, at least for me.

 

[Focus]

FWIW, the first financial planner I spoke to at Vanguard liked my idea of having everything paid to me (a few years ago). The VG planner I spoke to a few days ago suggested I just put what I need for the year in my bucket #1 and reinvest everything.

Funny enough, the Vanguard planner I spoke to recently suggested I switch from reinvesting dividend/CG distributions in my taxable account to having them paid out, now that I've RE and entered the distribution phase. Just goes to show that everyone's situation is different.

 

[Cobra9777]

We take dividends and CGs in cash. DW is still working OMY (or two). Our expenses are covered by her pay, my pension, rental income, and dividends from our taxable account (we reinvest in tax-deferred accounts). Yes, it's simple and easy. However, I have been thinking about reinvesting and doing less-frequent "opportunistic" withdrawals.

I'm also thinking about reducing our 5% cash allocation for same basic reason... to keep all money as productive as possible. With the large cash reserve, we don't need the dividends every month/quarter. We can just consume some of the reserve. Under our current method of taking dividends, the cash reserve never changes much. So again, I'm considering reinvesting and withdrawing less frequently, perhaps when technicals indicate a medium-term peak.

My gut says there's got to be an advantage to reinvesting. Taking dividends in cash is really just periodic/regular selling at whatever the price happens to be on the date of distribution. This strikes me as rather arbitrary, although maybe not so bad... a bit like like dollar-cost-averaging in reverse.

In any case, I haven't analyzed this question enough to even know what my rules might be for "opportunistic" withdrawals. I'd love to hear from others who have a system. I know that many people harvest cash as part of annual rebalancing. I've always thought of those as two separate processes. In addition, our taxable account is virtually 100% equities. So rebalancing is usually accomplished entirely in the tax-deferred accounts where there's a mix of stocks and bonds. But I'm still pretty new at this and keeping an open mind.

Anyway, for now, simple and easy wins.

 

[Kimo]

FWIW, I used to keep a 5% cash allocation also and at the beginning of this year I lowered it to 2.5% and, like you, it is just about the same today as it was in January....

 

[Focus]

Taking dividends in cash is really just periodic/regular selling at whatever the price happens to be on the date of distribution. This strikes me as rather arbitrary, although maybe not so bad... a bit like like dollar-cost-averaging in reverse.

Is this accurate? My understanding is you're taxed on the dividend/CG distributions in any case. The other selling (and tax impact) is optional.

 

[eta2020]

I make it nice and simple.......I have all my taxable dividends and interest deposited into an interest bearing checking account. Every six months I look at the money in my account, if there is an excess and there usually is I rebalance my investment portfolio. And, I keep enough money in the checking account to pay taxes.

So, my Roth IRA remains untouched, I don't sell either bonds or stock, I rebalance every six months and I don't worry about taxes. Is this the smartest way to go? I don't know but I know it's the easiest, at least for me.

+1
I set up my taxable brokerage accounts for automatic monthly transfers of X dollars into checking account.

It is simple and I have predictable monthly check which I view same way I view pay check.

 

[Animorph]

Is this accurate? My understanding is you're taxed on the dividend/CG distributions in any case. The other selling (and tax impact) is optional.

Tax-wise you're right. Portfolio withdrawal-wise, I agree with Cobra9777. I have had funds return nearly a third of their share price in capital gains. You have no control over that, and it is not consistent year to year. Yeah, you have to pay some taxes on them. But it's not income like dividends. It's part of your principal. I don't think an income investor should be spending capital gains distributions.

On the other hand, if you're raising cash for expenses it doesn't matter how you do it as long as you keep your portfolio balanced and withdrawals within your planned limits. I take all distributions as cash and reinvest manually if they unbalance my portfolio. Mainly that avoids wash sale problems if I sell some shares at a loss near distribution time.

 

[Cobra9777]

Is this accurate? My understanding is you're taxed on the dividend/CG distributions in any case. The other selling (and tax impact) is optional.

My comment was entirely related to portfolio withdrawal timing, not taxes.

 

[RunningBum]

I think it's basically a wash for those of us who need at least as much money as is generated by dividends and cap gains, except for 4 possible situations I can think of:

1) You may want to sell shares of funds for cash at a specific time rather than when the funds happen to generate divs and cap gains. Or as some has said, you may want to take a specific amount rather than however much is thrown in divs and CGs.

2) If you want to do some tax harvesting it may be better to select other funds or shares to sell.

3) To get your portfolio in balance with your AA goal you may want to sell from other funds, though a transfer between funds seems it would amount to the same thing. Instead of reinvesting fund A div/CGs and selling from fund B for cash, take fund A div/CGs as cash and sell fund B and buy into fund A. Same basic thing except for a bit of timing

4) If you are in a closed fund you may want to reinvest to let the fund grow, since you can't buy back in (or may be limited in how much you buy)

There may be other tangible reasons I can't think of. And if one or the other "feels" right, there's no reason not to do it that way unless one of the above reasons applies and is counter to how you feel.

 

[Focus]

My comment was entirely related to portfolio withdrawal timing, not taxes.

Sorry if I muddied the waters. The fact that dividend/CG distributions are taxed no matter what played into my decision to switch in ER from reinvesting to paying out.

 

[mathjak107]

it really does not matter how you do it. if you reinvest the dividends and pull from a cash buffer then the equities compound over time.

but if yoo pull from a cash buffer so you can do that then the cash acts as a weight that isn't invested and it is a question of taking it from the left pocket or the right one.

personally i rather use the cash buffer. as 2008-2009 showed us dividends get slashed or cut just at the worst times. i want a smooth flow of income so i prefer the cash buffer to counting on dividends directly.

 

[pb4uski]

The 8% doesn't change according to the IRS office I was at.

8% is only from FRA to age 70 and it is simple, not compounded. IOW,, if your FRA is 66 and you wait until 70 then your benefit is 132% of your FRA benefit.

From 62 to FRA there is a less generous and more complicated formula.