Tax Question

[mikelish]

Lets say I quit my job and lived off $40k per year.

And the way I got that $40k every year is from cashing out index funds that are in a taxable account. So I would have to pay capital gains taxes.

How much federal income taxes would I pay every year?

10% ?

 

[2017ish]

$0, as long as 40,000 is the only income.

https://www.kitces.com/blog/underst...st-capital-gains-for-a-free-step-up-in-basis/

E.T.A.--and remember that even if your income is higher, that most/much of the index fund proceeds would be nontaxable return of original investment.

 

[H2ODude]

Yeah, but depending on how much dividends/interest the funds are spinning off they could alter the equation, no?

 

[2017ish]

qualified dividends are treated the same as cap gains; they too are not taxed until you hit the 25% bracket. Interest would be subject to ordinary rates. Here is a more approachable overview than the Kitces discussion: Taxes on Income and Capital Gains for 2015

 

[mikelish]

so as long as I had no other income, I could cash out any amount of index funds and not pay any capital gains taxes?

 

[2017ish]

No, not "any amount." But you'll be fine at 40K.

Hypothetically, if you had 1,000,000 of index funds in a taxable account, 50% of which was LTCG, you would have serious tax obligations if you were to cash them all out in a single year. Remember that the 0-taxed LTCG/Divs increase your AGI/TI. So you can have solely preferred income and still lose the 0 rate.

 

[RunningBum]

so as long as I had no other income, I could cash out any amount of index funds and not pay any capital gains taxes?

No. Use TurboTax/Tax Cut/etc to fill out a sample tax form, and pay attention to the Capital Gains and Qualified Divs worksheet to see how those get taxed once you hit a certain limit.

 

[ERD50]

so as long as I had no other income, I could cash out any amount of index funds and not pay any capital gains taxes?

Actually, you could - if there were no gains in the funds.

Which might not be as unlikely as it seems. If you bought/sold and paid tax along the way, your cost may be close to the current value.

My main taxable account has a cost basis of ~ 88% of value. So I could cash out $100,000 in a year, and the LTCG would be $12,000.

-ERD50

 

[RunningBum]

Actually, you could - if there were no gains in the funds.

Which might not be as unlikely as it seems. If you bought/sold and paid tax along the way, your cost may be close to the current value.

My main taxable account has a cost basis of ~ 88% of value. So I could cash out $100,000 in a year, and the LTCG would be $12,000.

-ERD50

Good point!

This is why I do my own taxes. Saving the professional prep fees is only part of it. Understanding how taxes work and how I can optimize my situation, and know how to model "what-if" situations is a bigger benefit. I could hire that out too, but then I'd still have to make sure I conveyed all the necessary info to the pro, and also make sure they didn't do a half-assed job on it and missed something.

 

[mikelish]

So if I go to HR Block's income tax calculator: Free Income Tax Calculators, W-4 Calculators & Health Care Calculators | H&R Block®


I left everything blank except for Capital gain (held more than one year) and I put $40,000 for that.

It said my taxable income is $29,850


But I don't see anything about how much I owe on that

 

[RunningBum]

Certainly there must be a "tax owed" field there, right? It's almost certainly going to be 0 for that case.

Now put $400,000 for that and you'll see that it's not 0. It might also not be 0 if you have SS benefits, or a pension, or dividend income as well.

But remember ERD's point that selling $40K worth of stock is not a $40K capital gain, unless you somehow got the stock for free.

 

[mikelish]

once I get to about $49,000 it says I start to owe money.





At that amount it says my taxable income is $38850 and I will owe $292 in taxes


But yeah only about $5,000 of that would be capital gains. Not the entire $49,000.


So..... point being... I wouldn't have to pay any taxes if I can survive on that amount per year. Wow sounds to good to be true.

 

[Marketwatcher]

But you've already paid taxes on the money if it was earned income you invested.

Sent from my Z10 using Tapatalk 2

 

[mathjak107]

remember though , states do not recognize zero taxable capital gains and do charge taxes on that income.

just because the federal tax is zero does not mean you do not owe state taxes.

 

[2017ish]

remember though , states do not recognize zero taxable capital gains and do charge taxes on that income.

just because the federal tax is zero does not mean you do not owe state taxes.

Good pickup. (I've gotten used to living in TN--in prior decades, I would have noticed this as well!)