Sources of Cash, and Tax Status of These

[haha]

After reading the several threads lately about controlling taxable income to get subsidies, or at least to avoid paying surcharges I have been thinking about where I get my cash, whether these sources are compulsory or elective and how they figure into the tax that I will pay. Right now, my basic categories are (taxable) interest, qualified and unqualified dividends, royalty trust distributions, MLP distributions, SS, and RMDs. In most years I will also have net long term capital gains, and a short term gain or loss from option trading. However, these are essentially elective. I don't have to buy options, and I don't have to sell stocks.

But the rest is pushed to me, so I am stuck with the cash flows as they come, and these are more than adequate for my current frugal lifestyle. Many of these sources such as qualified dividends, royalty trust and MLP distributions are tax advantaged in the current year, though the latter two only in a deferral sense. If I had foreseen the tax picture we have now, I might have just stuck with qualified dividend payers instead of these other structures, but I don't like to make frequent changes as these always cost a lot, if only in taxes, and it is all difficult to foresee the effects. Two big sources of taxable cash on which I can't avoid or defer current taxes are RMDs and SS.

So far, I have always had to pay tax on 85% of SS. It may be that if I made avoiding this my primary goal I could occasionally slip through more cheaply. I has always seemed that some other goal was more important.

Right now my tax planning is around the twin goals of getting more cash out of my TIRA and into my Roth by making conversions, and selling fully priced stock for the smallest overall tax hit possible. These two goals are usually at odds with each other, kind of like if I do one, I really cannot do the other, unless I lower amounts. The last few years I have a temporarily abandoned the Roth conversion project, and just concentrated on selling some appreciated stock to favor stock sales. I think we will look back on current ltcg rates with awe, and wonder how we were ever so lucky. The rising tide of populism doesn't seem real hopeful to me when I consider taxation of capital. I think 15% will look very good to us sometime. If interest rates were to increase rapidly, pushing down quotes on my fixed income in my TIRA, I would stop selling stock(it would likely be hurt too) and convert more of the now cheaper fixed income to my Roth.

I don't stop at 0 tax on ltcgs, but I stop before triggering surcharges on Medicare. I blundered into that a few years back and was not happy. Nevertheless, I don't think I would sell something I felt was still well priced or undervalued just to increase my basis.

So anyway, this is how I currently look at my income and tax posture.

Any suggestions on improvements, or criticism or other comments?

Ha

 

[daylatedollarshort]

The reason our taxable income is flexible for 2014, at least within a certain range, is that a portion is business income and another portion is 401K withdrawals, which are not mandatory for us at our ages.

Taxwise, we don't have to do any former employer 401K draw downs and our business income can vary considerably based on our business expenses and retirement contributions. Plus, since we are married and business owners, our retirement contribution maximums are double those of a single business owner. Since we are over 55 we can do catch up contributions, each.

If much of your income is "pushed" to you, and you have minimal deductions, then personally I wouldn't know a lot you could change, unless you started a business or started buying rental properties for increased tax deductions.

In this example on how to pay zero income taxes from the Wall Street Journal, a majority of the deductions come from self employment related deductions, having dependents in college, an HSA account, mortgage interest, etc. - all of which my household will have in 2014 -

ROI: How to Avoid Paying Income Taxes - WSJ.com

 

[W2R]

I can't imagine how I could get my income down low enough to not pay tax on 85% of my SS. Kudos to those who are making that attempt.

I am going to get really hit with taxes in four years, when I turn 70, due to SS and required distributions from the TSP at 70 1/2. On the other hand, any additional income means that my spending money will be more than it presently is, so I suppose that I will have plenty of cash with which to pay those increased taxes.

I am concerned about the "tax tail wagging the dog", I suppose. So, I am not looking for lower taxes so much as for higher after-tax money to spend. Right now I am satisfied with what I have, so the motivation to spend a lot of time and effort looking into this more deeply just isn't there. I know, that isn't very admirable but it is what it is.

 

[pb4uski]

Ha,

I'm in a similar position of prioritizing 0% LTCG or Roth conversions. Until this year, I was prioritizing 0% LTCG over Roth conversions because 0% was so appealing (even though I still had state income tax on those LTCG).

More recently (just last week in fact), I did a more robust analysis (prodded by one of MidPack's threads) and concluded that Roth conversions were more important for me in the long run than 0% LTCG, so I have changed course.

I'm taking whatever LTCG I need to in order to rebalance and replenish my cash position for the following year but then turning to Roth conversions to reduce the tax bite once I turn 70 and start SS and RMDs.

The analysis suggested that my NW at age 100 would be about 10% higher by prioritizing Roth conversions now rather than LTCG. I suspect the conclusion varies based on individual facts and circumstances so YMMV.

 

[Chuckanut]

Same problem here. I decided that diversification of Personal/TIRA/Roth-IRA income sources would be best. Right now I am much heavier in TIRA than Roth. I also can't duplicate my current medical coverage with any plans of the exchange, so I will do a Roth conversion over the next few years to get my TIRA/Roth ratio closer to 1:1.

Since I can't read mind, my crystal ball is still broken, and I can't yet get the parts I need to fix my time machine (I have to wait a while until it is invented), that seems like a good way to guard against future uncertainty.

 

[anethum]

I think we will look back on current ltcg rates with awe, and wonder how we were ever so lucky.

I'm in a similar position of prioritizing 0% LTCG or Roth conversions. Until this year, I was prioritizing 0% LTCG over Roth conversions because 0% was so appealing (even though I still had state income tax on those LTCG.

More recently (just last week in fact), I did a more robust analysis (prodded by one of MidPack's threads) and concluded that Roth conversions were more important for me in the long run than 0% LTCG, so I have changed course.

I'm taking whatever LTCG I need to in order to rebalance and replenish my cash position for the following year but then turning to Roth conversions to reduce the tax bite once I turn 70 and start SS and RMDs.

I'm in a similar situation to pb4uski regarding LTCG & Roth conversions. I also read the Midpack thread he referred to.

This is my first full year of ER, and therefore my first full year without earned income. I tend to agree with haha that these LTCG rates will, at some point in the future, seem amazing. Thanks to my lack of earned income this year, as well as the fact that I itemize deductions thanks to my excessive property tax, I can harvest a very large amount of LTCG and pay 0% federal income tax (but state income tax will be owed).

I have decided that my LTCG rate is likely to increase more in the future than my Roth conversion tax rate. That's why I'm going to go ahead and harvest capital gains this month.

I asked a CPA friend early this year the question of which to favor, LTCG harvesting or Roth conversions. He thought about it a few days and made a suggestion which I think has merit. He said that if stock markets seem high at the end of the year, I should favor LTCG, and if stock markets seem undervalued, that would be a good time to do Roth conversions. Rebalancing enters into the equation as well.

In the long run, however, I suspect that it won't make a huge difference.

 

[sanfanciscotreat]

I am in a situation that gives me sufficient income and have not taken SS or IRA distributions at age 67. SS will be taxed at 85 percent because of other income. Have purchased a retirement home in NC mountains to enjoy summer temps that are 10 degrees F less than I have now. Plan to sell our home near the Gulf Coast even though we could afford both. Just do not want the hassle.

As an old CPA told me many years ago when I did not have the income or assets we have now: "Would you rather have less income so you can pay less taxes"
The answer was obvious then as now, I am lucky and blessed to have enough to pay taxes.

 

[Lsbcal]

I don't have any great tax avoidance advice. I've made some errors in how I've handled things in the past but maybe on balance have done OK.

For the next 4 years we will pay very low taxes. Never been like this before but that's what happens when you have only SS taxable income + a bit of other stuff + a good set of deductions.

Then we'll be in the higher tax state of SS + RMD's. If you look at the absolute cost of paying 85% on SS, it's not really that bad. Just have to do your patriotic duty and then complain like any red blooded American.

 

[pb4uski]

+1 While I'm trying my best to avoid 25% tax rate on RMDs, if Mr. Market is generous over the next 12 years and drives me into the 25% bracket despite my best efforts, then I expect I'll just think it is a nice problem to have.

 

[haha]

Very helpful comments from everyone, thanks. It is not an easy problem with so many moving parts.

Ha

 

[Animorph]

I think part of the 0% LTCG versus Roth conversion optimization depends on how much you need to or can Roth convert. 0% LTCG taxes are limited to what you can fit into the 15% tax bracket. But if your RMD's will be coming out at 25% and you need to Roth convert quite a bit you can convert to the top of the 25% bracket. So you get a larger percentage tax benefit on a smaller amount or a smaller tax percentage benefit (plus Roth growth) on a larger amount. Probably investment growth and retirement length dependent as well.

 

[kaneohe]

Then we'll be in the higher tax state of SS + RMD's. If you look at the absolute cost of paying 85% on SS, it's not really that bad.

Just to prevent innocent folks from getting a heart attack........I think you mean
paying (e.g. 15 or 25%) tax on 85% of SS..............not paying 85% on SS

 

[Lsbcal]

Just to prevent innocent folks from getting a heart attack........I think you mean
paying (e.g. 15 or 25%) tax on 85% of SS..............not paying 85% on SS

Yes, better stated.

 

[Live And Learn]

Just to prevent innocent folks from getting a heart attack........I think you mean
paying (e.g. 15 or 25%) tax on 85% of SS..............not paying 85% on SS

Thank you - I did nearly have a heart attack and thought I was missing a very big expense in my retirement plan !

 

[SteveL]

This is only indirectly related, but if your Roth and TIRA are with the same firm, say Schwab, you may be able transfer shares to the Roth without having to sell them and pay the commission on the transactions. This works best with shares that have few ltcg involved. I know Schwab allows this.

 

[aja8888]

Just to prevent innocent folks from getting a heart attack........I think you mean
paying (e.g. 15 or 25%) tax on 85% of SS..............not paying 85% on SS

Let's see:

Current SS: (wife and I) is $44,000

0.85% of that is $37,400

@ 25% tax bracket, tax would be $9,350.

Nice...

 

[NW-Bound]

This is only indirectly related, but if your Roth and TIRA are with the same firm, say Schwab, you may be able transfer shares to the Roth without having to sell them and pay the commission on the transactions. This works best with shares that have few ltcg involved. I know Schwab allows this.

Yes. I have both tIRA and Roth accounts with Schwab. A Roth conversion is done painlessly online, and instantaneous.

Similarly, the transfer is also painless and instantaneous between my BofA checking and brokerage accounts.

 

[haha]

Whoops!

I finally got around to entering the data from my spreadsheet into TurboTax 2013, and I obviously have some fairly big logic errors in the sheet. I will owe more tax than I figured, so I am glad I did not top up my realized LTCGs. I already had understood that making a Roth conversion this year would have been counterproductive.

I'll try to fix the spreadsheet for next year.

Ha

 

[Animorph]

I finally got around to entering the data from my spreadsheet into TurboTax 2013, and I obviously have some fairly big logic errors in the sheet. I will owe more tax than I figured, glad I did not top up my realized LTCGs. I already had realized that making a Roth conversion this year would have been be counterproductive.

I'll try to fix the spreadsheet for next year.

Ha

Spreadsheets win again!

 

[kaneohe]

This is only indirectly related, but if your Roth and TIRA are with the same firm, say Schwab, you may be able transfer shares to the Roth without having to sell them and pay the commission on the transactions. This works best with shares that have few ltcg involved. I know Schwab allows this.

How does the LTCG affect things?

 

[pb4uski]

How does the LTCG affect things?

Shouldn't in tax-deferred/tax-free accounts.

 

[haha]

How does the LTCG affect things?

I don't want to break the $85k hard limit for adjusted AGI to keep Medicare Pts B and D at their base levels.

Ha

 

[Options]

I finally got around to entering the data from my spreadsheet into TurboTax 2013, and I obviously have some fairly big logic errors in the sheet. I will owe more tax than I figured, so I am glad I did not top up my realized LTCGs. I already had understood that making a Roth conversion this year would have been counterproductive.

I'll try to fix the spreadsheet for next year.

Ha

There are some very smart people on this board. If they can't get the spreadsheet thing right there is no hope for me.

I don't want to break the $85k hard limit for adjusted AGI to keep Medicare Pts B and D at their base levels.

Ha

Isn't that $85K limit only limited to the two years before taking Medicare? Do I understand you to mean that income > $85K post-Medicare will increase premiums as well?

 

[REWahoo]

Do I understand you to mean that income > $85K post-Medicare will increase premiums as well?

Yes it will. From Medicare 2013 & 2014 costs at a glance | Medicare.gov

 

[Hermit]

Looks like RMDs will bump me into higher brackets for Part B. The problems are a pension and starting my SS at 70. Don't think I can juggle things to get away from it.