Investment Accounts - Minimizing Taxes in the Long Run

[ThisIsMe]

Hi all. After reading/searching on here for the best way to minimize tax with retirement accounts I have become confused. I read about backdooring a Roth IRA and that started my search. We both are 29 and want to retire early; before 50. We could live off of$40k/year. In 2016 we grossed $175k; I don't see this dipping below $150k anytime soon. I had much overtime in 2016.

Our house will be paid off in July and we will then push our new savings to an investment account. We will have 6 months expenses in cash.

Here's our contributions:

• Wife maxes out 401k
• Both max Roth IRA
• I contribute 3% to Simple IRA (work matches 100% up to 3%)

How should we invest now to maximize our tax savings?

Should I max out my Simple IRA instead of putting the other ~$7,500 in an investment account?

Would it be better if we contributed to a traditional IRA instead of a Roth IRA?

So would it be beneficial to load up the tax differed accounts now and convert money to a Roth IRA year by year? We would be in a lower tax bracket.

P.S. I hope I am being clear, this is a little confusing to me.

 

[pjigar]

You generally want to distribute money in future tax free (Roth, HSA), tax deferred (regular IRA, 401K) and after tax accounts which will give you options for withdrawals during your "gap years" i.e. from 50 to 59.5 and 59.5 to 65/70, etc.

Some avenues you should know about:
* Lot of 401K allows after tax contribution which can later (in-service withdrawal if allowed by plan, or when changing job, or at age 59.5, whichever comes early) be converted directly to Roth IRA (contribution only, not the returns) without any tax consequences.
* Max out HSA if available and DO NOT withdraw now but rather save the medical receipts from now util withdrawal! Let the balance grow tax free as long as you want. No RMD. No tax (pre or post!).
* Max out *all* IRAs/401K you/spouse are eligible for

And yes, the tax-deffered balances can be converted to Roth during your gap years so max out everyhing.

 

[ThisIsMe]

I'll max out everything and maybe look into converting my 401k to post tax contributions.

And yes, the tax-differed balances can be converted to Roth during your gap years so max out everyhing.

Can I specify how much money is moved from a 401k to a Roth IRA, or does the whole balance have to be transferred?

 

[2017ish]

You aren't eligible to deduct contribution to a regular IRA (AGI > 118K, MFJ).

FWIW, I'd probably start loading up taxable investment account after filling the 401k/Roth IRA and Simple IRA. I'd invest the the taxable account (apart from emergency fund) in equity index fund to minimize taxes. Any bond percentage, put in the 401k/SimpleIRA. For more detail, take a look at the Boglehead wiki entry on tax-efficient fund placement.

This will put you on a path to a well-diversified portfolio from a tax standpoint (Roth/Deferred/regular), and will give you more flexibility when retiring early. You'll want the regular account to pay the taxes on future Roth conversions, as well as live on.

If it remains true that you can retire on 40K nominal a year, save the conversions for that time if it remains an option/appropriate.

E.T.A.--fixed typos.

 

[pjigar]

I'll max out everything and maybe look into converting my 401k to post tax contributions.



Can I specify how much money is moved from a 401k to a Roth IRA, or does the whole balance have to be transferred?

You can but why would you not "transfer" all post-tax dollars to Roth and let them grow tax free in Roth forever rather than end up paying tax on 401K distributions?

PS: I contribute pre-tax dollar to amount allowed ($18,000), my company matches about $6,000. So I am left with about $29,000 post-tax contributions. Total 401K contributions (pre or post) can not exceed $53,000.

 

[ThisIsMe]

When transferring post-tax dollars to Roth income tax is paid. From reading here I don't understand if the conversion amount is added to my yearly income. Say the account I convert is worth $500k, will I be taxed as if I made $500k that year?

 

[pjigar]

If you have HSA available then you can also do upto $2,000 in Flexible spending account for medical expenses as well. If you have medical expenses then you can also leverage flex spending account. Flex spending account is "use it or loose" for a given year of which $500 can be transferred to the next year.

 

[2017ish]

When transferring post-tax dollars to Roth income tax is paid. From reading here I don't understand if the conversion amount is added to my yearly income. Say the account I convert is worth $500k, will I be taxed as if I made [an additional] $500k that year?

[-]yes, the conversion amount is ordinary income. [/-]This answer may be wrong. From looking at pjigar's next post (and link), I may have misread. I was assuming conversion of pre-tax dollars, not the movement of already taxed dollars. If the latter, see that link.

 

[pjigar]

When transferring post-tax dollars to Roth income tax is paid. From reading here I don't understand if the conversion amount is added to my yearly income. Say the account I convert is worth $500k, will I be taxed as if I made $500k that year?

Not a tax event. See recent IRS ruling: New IRS Rules on After-Tax 401(k) Rollover To Roth IRA | Bankrate.com