ACA MAGI: Living off of dividends vs LTCG

[Mo Money]

I ask this question with trepidation, because I am such a financial, um, moron, but:

Right now I am living off of dividends from taxable investment accounts, and interest income from a savings account. I am always just a hair over the ACA cliff, so I pay full-freight ACA premiums with no subsidy. I am single and buy my policy on the ACA exchange.

Is there an advantage, from an ACA subsidy standpoint, if I get my annual spending money by selling my taxable-account investments, rather than living off of dividend income? That is, would my ACA MAGI perhaps be lower (and not over the cliff) if I lived off the proceeds of sold investments (LTCGs), and not dividends form taxable accounts?

If so, I assume I can just direct my broker to stop paying taxable-account dividends and reinvest them, and then sell taxable-account investments to get my annual spending money, which would be payable at applicable LTCG rates?

Yours sheepishly,

Mo Money

 

[Mo Money]

PS

PS - I am 58, so retirement account assets are not yet available for another year or so when I turn 59 1/2. (Not sure if this is relevant or not, but just in case...)

 

[Aggie1999]

I ask this question with trepidation, because I am such a financial, um, moron, but:

Right now I am living off of dividends from taxable investment accounts, and interest income from a savings account. I am always just a hair over the ACA cliff, so I pay full-freight ACA premiums with no subsidy. I am single and buy my policy on the ACA exchange.

Is there an advantage, from an ACA subsidy standpoint, if I get my annual spending money by selling my taxable-account investments, rather than living off of dividend income? That is, would my ACA MAGI perhaps be lower (and not over the cliff) if I lived off the proceeds of sold investments (LTCGs), and not dividends form taxable accounts?

If so, I assume I can just direct my broker to stop paying taxable-account dividends and reinvest them, and then sell taxable-account investments to get my annual spending money, which would be payable at applicable LTCG rates?

Yours sheepishly,

Mo Money

No. It makes no difference whether dividends are auto-reinvested or not. They are always counted as income (long or short term capitals gains).

 

[Aggie1999]

Since you are close to being able to withdraw from your retirement accounts without penalty, what you could do is reallocate where your cash is in an tIRA. Then you wouldn't be hit with the ordinary income from the cash interest unless you actively withdrew the money. Could also do cash in a rIRA but then you lose all the nice tax free growth of equities an rIRA provides.

 

[gwraigty]

This link may help you to determine the elements of income that count:

http://laborcenter.berkeley.edu/pdf/2019/magi.pdf

I'm not on the ACA, but it appears that whether the income is from capital gains, dividends, interest, or tax-exempt interest, it's included in your MAGI. Also, it doesn't matter if your dividends are paid in cash or reinvested. They're still included as income on your 1099-DIV. They would still need to be included in your MAGI.

How much are you over the limit and how much of a subsidy is it costing you?

 

[Mo Money]

gwraigty: Using 2018 tax return as a rough guide: AGI around $55000. ACA income limit for single person is $49960 in 2020. So I am approx $5K over the cliff. Going from memory, the subsidy I hoped to qualify for in 2019 was about $250/mo.

 

[RunningBum]

The responses are correct, dividends count toward MAGI whether you take them or reinvest them.

If you can, I'd suggest making your taxable account more efficient, if you can. You haven't said what investments you are holding in your taxable account other than some cash so I can't offer any specific advice, but basically it'd be selling off investments with a higher yield, and buying investments that are more geared toward growth with lower yield.

 

[scrabbler1]

As gwraigty wrote, it doesn't matter if your income is from dividends of cap gains, taken as cash or reinvested. All will count toward MAGI which is what the ACA subsidy is based on.


Like you, Mo Money, I am on the ACA living off only dividends and cap gains. My income has sometimes prevented me from getting a subsidy, sometimes not. For me, it's the cap gain distributions which pushed me over the subsidy cliff. To finally keep myself off the cliff (starting in 2020), I moved a large chunk of money from an actively managed equity-dividend stock fund into a similar index fund. The cap gain distributions are nearly non-existent, and the dividends are lower. This might be a better fit for you, too.

 

[gwraigty]

gwraigty: Using 2018 tax return as a rough guide: AGI around $55000. ACA income limit for single person is $49960 in 2020. So I am approx $5K over the cliff. Going from memory, the subsidy I hoped to qualify for in 2019 was about $250/mo.

With those numbers, you're $5040 over the cliff for a subsidy of about $3000. It looks like you came out ahead even with no subsidy. Wouldn't the subsidy have to be larger than the amount of income over the cliff for this to be a bad thing?

IOW, I wouldn't take steps to reduce my income by $5000 to pay $3000 less for health insurance.

 

[RunningBum]

With those numbers, you're $5040 over the cliff for a subsidy of about $3000. It looks like you came out ahead even with no subsidy. Wouldn't the subsidy have to be larger than the amount of income over the cliff for this to be a bad thing?

IOW, I wouldn't take steps to reduce my income by $5000 to pay $3000 less for health insurance.

Simply speaking, yes, that's true, but if you can restructure your investments to defer some dividends in favor of growth, you can get the ACA subsidy without really changing your finances. Think total return, not just dividend income.

 

[Mo Money]

gwraighty: My thinking was: If LTCGs were somehow not included in MAGI, then I could simply sell stocks for an amount approximating the money I need to live on, rather than take dividends. Under that reasoning, I could have avoided the cliff, and gotten a subsidy. But I now have learned from this thread that such a strategy is a pipe dream. So I will go subsidy-less.

The good news is that in my area, a 58 year old guy's gold-level coverage is under $700/month, with 800 deductible and 5000 OOP max. Not a bad deal.

Every time I hit a losing strategy and have my pipe dream disappear into thin air, as now, I remember to be thankful that (a) I have many first-world problems; and (b) I have a forum like this to bounce ideas off of.

Thanks so much!

 

[scrabbler1]

gwraighty: My thinking was: If LTCGs were somehow not included in MAGI, then I could simply sell stocks for an amount approximating the money I need to live on, rather than take dividends. Under that reasoning, I could have avoided the cliff, and gotten a subsidy. But I now have learned from this thread that such a strategy is a pipe dream. So I will go subsidy-less.

The good news is that in my area, a 58 year old guy's gold-level coverage is under $600/month, with 800 deductible and 5000 OOP max. Not a bad deal.

Every time I hit a losing strategy and have my pipe dream disappear into thin air, as now, I remember to be thankful that (a) I have many first-world problems; and (b) I have a forum like this to bounce ideas off of.

Thanks so much!

Remember, when you sell something, you pay LTCG taxes only on the gain, not the entire amount. So, if you sell $10k worth of shares but the profit is only $2k, only the $2k counts toward MAGI even though you have $10k in your pocket.

 

[gwraigty]

Simply speaking, yes, that's true, but if you can restructure your investments to defer some dividends in favor of growth, you can get the ACA subsidy without really changing your finances. Think total return, not just dividend income.

OP didn't specify if all the dividend income was needed for paying expenses. If it is, restructuring won't help. The question about living off of sold investments vs. dividends leads me to believe that OP may not have the wiggle room to live on less, but we really don't have enough info.

Admittedly, I'm not a total return or growth investor. I'm just looking at cash flow here. If OP could have comfortably met all the expenses with $49960, then looking at restructuring may be a better option.

 

[Mo Money]

Scrabbler1 - Thanks for the insight, which I only remember half the time...

But it seems that I'm over the cliff regardless of whether I get LTCG or not from investment sales from taxable accounts. Such investment sales would not erase the fact that 50K+ dividends are counted toward MAGI, whether paid out or reinvested.

 

[SecondCor521]

If you have any capital losses, you could realize those and reduce your MAGI.

If you qualify to make a deductible traditional IRA contribution, that would also reduce your MAGI.

 

[shotgunner]

I have been getting my insurance from the Exchange with a subsidy since 2014. There are two ways to reduce the income that is counted towards being subsidy eligible or not, a contribution to an IRA or a contribution to an HSA. All income counts towards subsidy eligibility and as far as I know only an IRA or HSA contribution reduces it for subsidy eligibility.

 

[ncbill]

Scrabbler1 - Thanks for the insight, which I only remember half the time...

But it seems that I'm over the cliff regardless of whether I get LTCG or not from investment sales from taxable accounts. Such investment sales would not erase the fact that 50K+ dividends are counted toward MAGI, whether paid out or reinvested.

With dividend-paying stocks, you're forced to realize that income whether you need it or not.

If you sell those (paying any capital gains tax) & invest instead for total return, you control when income is realized.

As long as you can live on a mAGI under the $49,960 cliff you can get ACA subsidies.

 

[RunningBum]

OP didn't specify if all the dividend income was needed for paying expenses. If it is, restructuring won't help. The question about living off of sold investments vs. dividends leads me to believe that OP may not have the wiggle room to live on less, but we really don't have enough info.

Admittedly, I'm not a total return or growth investor. I'm just looking at cash flow here. If OP could have comfortably met all the expenses with $49960, then looking at restructuring may be a better option.

No, it does help. Let me use some made up numbers for an example.

Suppose the OP has $1M, all invested in a fund that pays 5.5% dividends. This is $55,000, over the subsidy cliff.

OP sells off that investment, and invests the $1M in a fund that pays 2% dividends. The capital gain on the sale probably knocks him out of a subsidy for this year, but that's ok, we're restructuring it for the future.

The new fund generates $20,000 of dividends. Well under the subsidy cliff, but not nearly enough to live on. So he sells $35,000 of his investment. He's now got $55K to live on, and his MAGI is $20K + whatever small capital gain is realized on the sale. Should be well under the limit.

The assumption is that a fund that pays 3.5% less in dividends will hopefully grow 3.5% or more than the other fund paying more in dividends. Total return investing, and relying on some sales along with dividends to provide the same cash flow.

I doubt the OP's case is quite this simple and these are fabricated numbers, but it shows how one can reduce MAGI while keeping the same cash flow. Whether the OP can do anything like this, I don't know. I did something like this a couple years ago, selling off VTMAX (which gives unpredictable capital gains distributions) and replacing it with VTSAX, a more efficient index fund. I also kept some of it in a CD ladder to help with my cash flow

 

[Luck_Club]

With dividend-paying stocks, you're forced to realize that income whether you need it or not.

If you sell those (paying any capital gains tax) & invest instead for total return, you control when income is realized.

As long as you can live on a mAGI under the $49,960 cliff you can get ACA subsidies.

Would you feel comfortable changing your investment strategy from "dividends" to buying the market?

In other words give up your predictable $50K income on (what I assume is a very stable base of companies), and put a $million dollars into a fund that invests in everything according to market? Knowing that every year you will need to pull out $50K by reducing your principle?

Keeping in mind that companies with huge market caps like Tesla, which pays no dividend and lost 1% per share last year, make up twice as much of your ETF's as a company like Ford which earned 4.3% per share.

 

[RunningBum]

Would you feel comfortable changing your investment strategy from "dividends" to buying the market?

In other words give up your predictable $50K income on (what I assume is a very stable base of companies), and put a $million dollars into a fund that invests in everything according to market? Knowing that every year you will need to pull out $50K by reducing your principle?

Keeping in mind that companies with huge market caps like Tesla, which pays no dividend and lost 1% per share last year, make up twice as much of your ETF's as a company like Ford which earned 4.3% per share.

It's what I've been doing for my 9 years of ER, and it has worked well. I've never relied on a dividend stream to cover everything.

The OP will have to decide for himself whether he's willing to switch. He seemed willing to do that in his first post, but didn't quite understand how taxes work. Now that it's been explained, he can decide if it's worth the subsidy.

I'm the same age as the OP and have a similar unsubsidized medical premium, but my subsidy was a lot more last year. This year it's just a little more than what he has, and since I'm very likely going over because of a 2nd home sale, I'm going to take the opportunity to better position my assets to make the subsidy more easily in future years. I crept very close to the edge this year, with little I could do short of forfeiting interest on a CD or intentionally taking a loss on an out of the money option.

 

[gwraigty]

No, it does help. Let me use some made up numbers for an example.

Suppose the OP has $1M, all invested in a fund that pays 5.5% dividends. This is $55,000, over the subsidy cliff.

OP sells off that investment, and invests the $1M in a fund that pays 2% dividends. The capital gain on the sale probably knocks him out of a subsidy for this year, but that's ok, we're restructuring it for the future.

The new fund generates $20,000 of dividends. Well under the subsidy cliff, but not nearly enough to live on. So he sells $35,000 of his investment. He's now got $55K to live on, and his MAGI is $20K + whatever small capital gain is realized on the sale. Should be well under the limit.

The assumption is that a fund that pays 3.5% less in dividends will hopefully grow 3.5% or more than the other fund paying more in dividends. Total return investing, and relying on some sales along with dividends to provide the same cash flow.

I doubt the OP's case is quite this simple and these are fabricated numbers, but it shows how one can reduce MAGI while keeping the same cash flow. Whether the OP can do anything like this, I don't know. I did something like this a couple years ago, selling off VTMAX (which gives unpredictable capital gains distributions) and replacing it with VTSAX, a more efficient index fund. I also kept some of it in a CD ladder to help with my cash flow

I know how it works. You didn't need to explain for my benefit. Just because I'm not a total return investor, doesn't mean I'm ignorant of the basic concepts behind it. I didn't get into it for the OP because of his initial incorrect assumptions, considering that the part I bolded above is so integral to making the total return approach work for this purpose.

 

[24601NoMore]

FWIW, I ran the numbers both ways for our own situation - ACA subsidy with shifting away from dividends and toward total return, and no ACA subsidy with emphasis on generating dividend income to pay the bills. In our case, the focus on dividends to pay the bills wound up being the better of the two options.

That said, you really need to do a fairly in-depth spreadsheet comparison and model both scenarios out - because whether the dividends or subsidy winds up being "better" in one specific year, the impact on your portfolio and overall net worth can only be determined over the course of your planned retirement which for many of us will span decades..and for us, burning down taxable assets to live off of (instead of generating dividends) was worse to the plan OVERALL - even though we would have gotten very considerably subsidies..

 

[RunningBum]

I know how it works. You didn't need to explain for my benefit. Just because I'm not a total return investor, doesn't mean I'm ignorant of the basic concepts behind it. I didn't get into it for the OP because of his initial incorrect assumptions, considering that the part I bolded above is so integral to making the total return approach work for this purpose.

If you know how it works, why did you say restructuring won't help?

I was explaining it more for the OP's benefit than yours. When someone states something that is wrong, I feel like I should go into detail to refute it.

 

[4legsgood]

I have been getting my insurance from the Exchange with a subsidy since 2014. There are two ways to reduce the income that is counted towards being subsidy eligible or not, a contribution to an IRA or a contribution to an HSA. All income counts towards subsidy eligibility and as far as I know only an IRA or HSA contribution reduces it for subsidy eligibility.

+1

My contribution to my HSA typically gets me to a MAGI with an ACA subsidy, plus then having HSA money growing tax free.

In past years I dog sat as a gig, and could contribute to an IRA, and as a self-employed person I could deduct 50% of health premiums up to earned income. So two-fold reduction of income for ACA purposes. Sweet!

 

[gwraigty]

If you know how it works, why did you say restructuring won't help?

I was explaining it more for the OP's benefit than yours. When someone states something that is wrong, I feel like I should go into detail to refute it.

I said why in post #13. I'm not entirely wrong. It depends on factors that OP hasn't shared with us. If OP needs all of the $55K, while restructuring would still give $55K, it would whittle down the cash cow over the years. This may or may not be detrimental to the long-term health of the portfolio, especially in the event of a prolonged downturn. 24601NoMore gives a nice summation above.

My apologies if I sound impatient. I prefer not to debate things to death. I'm trying to be more succinct in my replies instead of posting novellas. You have to be careful when you're quoting someone and immediately say they're wrong, then start talking about OP in the 3rd person. It can make it appear directed at the person quoted.