Retiring in 2015, sell 2016 calls now for zero tax income?

[Fermion]

I have a few dozen stocks that have done really well, and since we are retiring in 2015 (with an estimated MAGI that year of $250,000), I was thinking of selling pretty far out of the money covered calls on these stocks for Jan 2016 expiration.

An example is Apple. We have 200 shares with a cost basis of $400. I can sell Jan 2016 $800 covered calls on Apple for around $21. This one transaction would give us $4200 of short term capital gains reported in 2016 that we would pay taxes on in 2017. Our 2016 income other than investments will be zero. We will have a lump sum of cash during 2015 from the sale of our home that we can use for living expenses over the next years instead of selling stocks. Thus dividends would be our only other income source.

The downside, if you can really call it a downside, is that Apple goes over $800 before 2016 and our shares get called away early. In that case we would owe significant tax but this would be offset by having made over 100% gain in less than 2 years.

I know covered call selling is generally not quite as good as buy and hold, but if you can pay no tax on the gains....maybe it is a decent idea?

 

[KiraC]

Time decay will take a long time to realize any profits for a 2016 call. Why not sell covered calls a couple months out? If you sold the delta 10 or delta 15 strike prices, then you'd have 85-90% probability of the call expiring worthless and you'd collect premium earlier while minimizing risk of crazy price fluctuations. This also gives you the opportunity to sell different strike prices every couple months depending on the underlying price action.

 

[clifp]

I think his point was that his income in 2016 would be a lot less. Selling short term calls this year would mean he'd have to pay a lot in tax. It sounds like his 2014 income is sufficient to even hit the Obamacare 3.8% tax on investment income.

Ignoring issue like long term vs short term covered calls.
Personally, I like the concept of writing covered calls for retirees. As long as the expected returns of covered calls is close to that off the overall market I think it makes sense because it reduces volatility and provides income. It ain't free money, but I do think more or less free volatility reduction in most situations.

I am also a fan of selling Jan options in taxable account, it gives you a ton of flexibility in Dec to manage your income.

There is the question of psychology which is important. If Apple hits 1000 by Jan 2016 it certainly ain't impossible based on fundamentals,will you be pissed that your give up $40,000 in profits for $4,200 or will you be happy on your ~27% annualized return?

In Dec my Apple stock was called away at 500. At the time Apple was trading around 550 and even with the pull back to 533 and the $17 call premium I collected I still would have been better off not writing the option. My timing was awful Apple took off within a week of writing the call. This was in an IRA

On the other hand including dividends, I made 25% on a annualized basis. (Again for Apple in 2013 this was a hardly a great trade.) Now in the past I've been pissed about this. But I was happy since 8% or 1/3 of 25% is more than I need to have a very comfortable retirement.

 

[Fermion]

Yes, Clifp is correct, I would like to minimize short term gains for 2014, 2015, and realize some gains in 2016 for income.

In my IRA I definitely do what you suggest KiraC and sell nearer term calls a few months out to capture high premiums. I have done pretty well with that strategy, and it is actually less risk than straight buy and hold since you still profit some in a downturn. Of course in this market where almost every stock seems to double every 3 years, covered calls look poor. Wait till we get a flat market for 5 years, then they will shine.