I have an interesting situation - input requested

[Orin!]

My salary is 6k a year. I work full time doing charity work. My food, accommodations, transport, utilities, - all expenses - are covered. I have no debt. I have a motorcycle if I want to travel somewhere other than for work (which I pay for).

I am a little over 30 years old.

I recently started stashing some money and have 9k. I have put most of this now into Vabguard VTSMX.

I have no income tax as my income level is low.

I plan to keep making 6k a year salary. I plan to make some money on the side - 6k more a year from selling tradelines, bank bonuses and credit card bonuses.

So that would be a combined 12k a year.

I plan to invest 8k of that a year into Vanguard Total Stock Index Mutual Fund. I did some quick math and figured if I invest 8k a year, with an average 8% return, I will have 675k in 30 years.

But then I also realized that in about five years from now, the Capitol gains and dividends from my Vanguard investment will push my income up to a taxable level. How can I prevent this? I also don’t want to have all my money in a fund I can’t touch until I am 59.5 years old in case after I hit a level like 500k and I want to splurge a bit :)

If I had started earlier in my life, I could have been a novelty of “becoming a millionaire while having poverty level income.” Having started a decade late, that may be beyond me. But a 500k stash will be fine for me at my level of expense!

Please give me any input or something I may be missing.

[MoseyingAlong]

That's an easy one.
Read up on Roth IRAs. If you max it each year, most of your investment gains will be tax-free.

And yes, you can access some of it before you are 59.5. Read about withdrawing contributions.

Even if you don't do the Roth IRA, under current tax rules, you probably wouldn't hit taxable income on long term capital gains and qualifies dividends. Unless you cashed most out in a single year.

Hope that helps.
Best wishes.

[Andy R]

You know how to buy something today costs twice as much as it did 20 years ago?
That is due to inflation, which in simple terms, is where there is more money created by the government each year and circulating around being used, making each "dollar" actually worth less than it was the year before, and continues to devalue indefinitely.

Taking the average of 2-3% which is the targeted inflation rate by the government in modern times, in 30 years 675k will be worth 315k in terms of buying power in today's money.

Take this into consideration when deciding how much you will need in retirement, so that you can set your course now to achieve whatever it is you decide you will need to achieve for your retirement. If you make a mistake and realise this in 20 years, it will be virtually impossible to correct.

[wordnerd]

The 4 percent rule accounts for inflation.

[sokoloff]

Avoid cap gains by periodically selling (some of) your VTSAX with gains and then buying it again. If you sell at a gain, capital gains tax are due in that tax year. For you, that will be zero, but it still counts as “taxed”.

Note that the same is not true if you sell at what would be a loss and then re-buy. That’s a “wash sale”, which you will avoid because your intent is to realize and pay (zero) taxes on your gains as you go.

You may eventually get to the point where you have more gains than you can harvest tax-free in a year. In that case, either pay the (still low) taxes or only harvest enough to be tax-free in year 1, then harvest the most you can in year 2, etc until you get it all harvested at a no/very low rate.

Roth IRA is also a good partial solution. Consider maybe 40/60 Roth/taxable to start and then adjust as you need.

[terran]

The 4 percent rule accounts for inflation.

Only on the withdrawal side. It doesn't consider inflation during accumulation. If you estimate a future balance using non-inflation adjusted returns you'd also have to inflate your projected spending. Better to use inflation adjusted return estimates and consider everything in todays dollars since that has more "meaning" to people -- that is, people have a better intuitive sense of the value of a dollar today than the value of a dollar in the future. The average historical inflation adjusted return of the stock market is about 7%. I use 5% in my projections. Some people are even more conservative.

[boarder42]

captial gains only effect you if you sell the shares so the dividends is all you should care about - but you should be filling a ROTH IRA first as indicated above then taxable. that has a limit of 5500 right now.

[Orin!]

Thank you for the input so far.

I am tracking there will be inflation and my 675k will have half the buying power it does now.

In terms of staying tax free, thank you for the data that the capitol gains tax apply to the year I sell VTSAX. So if I am going to be putting 8k a year into VTSAX, then I should open an ROTH IRA VTSAX and max that out each year with 5.5 k. Put the other 2.5k into a taxable VTSAX. Then annually sell and rebuy VTSAX from my taxable account and declare that gains from that year on my taxes (but don’t do that if it is running down that year as that is pointless.) By doing it annually it will keep my income under taxable level. If there is a really big bull market one year, I can hold off on selling and rebuying part of taxable VTSAX until the year after.

This splitting the input 5.5k/2.5k also helps me keep a separate fund I can access earlier if I want to splurge a bit when I hit a milestone. Not major splurge, but something there.

Two other questions:
1) If I have the dividends set to auto invest in the ROTH does that reinvestment counts toward the 5.5k cap?
2) if for some reason in the future someone comes after me with a lawsuit to seek financial awards (I don’t expect one) is my ROTH IRA protected? And if it is protected, is my taxable VTSAX exposed? I’ve heard something about 401k being somewhat protected and was wondering how ROTH IRA compares.

[Financial.Velociraptor]

After years of being full time at a non-profit, at some point you become a strong candidate to be the Executive Director of a larger non-profit.  Salary can be over 100k a year.  Don't sell yourself short and keep your eyes peeled.

Also see: https://forum.mrmoneymustache.com/investor-alley/how-to-withdraw-funds-from-your-ira-and-401k-without-penalty-before-age-59-5/ for help on how to withdraw from tax advantaged accounts without paying the 10% penalty.

[sokoloff]

Two other questions:
1) If I have the dividends set to auto invest in the ROTH does that reinvestment counts toward the 5.5k cap?
2) if for some reason in the future someone comes after me with a lawsuit to seek financial awards (I don’t expect one) is my ROTH IRA protected? And if it is protected, is my taxable VTSAX exposed? I’ve heard something about 401k being somewhat protected and was wondering how ROTH IRA compares.

1. No, those don't count.
2. I believe IRAs are protected at least to $1MM in bankruptcy, but don't take that as gospel. Your taxable accounts are exposed of course (somewhat obviously, probably).

[PDXTabs]

I believe IRAs are protected at least to $1MM in bankruptcy, but don't take that as gospel.

It's up to at least $1.2M, and indexed for inflation. https://www.investopedia.com/ask/answers/081915/my-ira-protected-bankruptcy.asp

[terran]

I believe IRAs are protected at least to $1MM in bankruptcy, but don't take that as gospel.

It's up to at least $1.2M, and indexed for inflation. https://www.investopedia.com/ask/answers/081915/my-ira-protected-bankruptcy.asp

Looks like that article is a bit dated as it says the next inflation adjustment "will be" in 2016. The current limit, as of April 1 2016 is $1,283,025 according to https://www.irahelp.com/slottreport/your-ira-protected-creditors-you-may-be-surprised and will presumably increase again April 1, 2019 as the article PDXTabs posted says it adjusts every 3 years.

Edit: note also that, according to the article I posted, this applies only to bankruptcy, while you aren't protected from "general creditors" (like someone who sues you for injuring them in a car accident) at the federal level, so you'd have to look up your state laws for that.

[merula]

FYI, with income that low you probably also qualify for the low income Retirement Savings Contributions Credit: https://www.irs.gov/retirement-plans/plan-participant-employee/retirement-savings-contributions-savers-credit

[Orin!]

Thank you for the input.

I checked into my state laws and they protect my IRA from general creditors so that is good.

Thank you for the pointer about saving tax credit. I can use that to still be tax free when my taxable vanguard account where I put my extra 2.5k into grows and income from that bumps my income eventually into a taxable bracket. I can stay tax free up to 19k annually of income capitol gains, salary and dividends.)

Maybe 15-20 years down the road I may have to refugee how to stay tax free with this set-up, but for now it looks like I am good.

Is it simple to open up a ROTH IRA Vanguard account under the same username that I already have so both are tracked on same area? I already opened up a taxable Vanguard account a couple of months ago (and put initial investment into VTSMX) when I didn’t understand all of this and figured my income is low so whatever and I have no taxes, let’s get started. But now I am planning for the future and do want to have both types of brockerage accounts.

[sokoloff]

Yes, it’s simple to open a Roth with them.

Remember that staying tax-free is only a means to an end: having enough money after all taxes are paid is the end. Don’t avoid making more money over the years just to avoid taxes.

[secondcor521]

Remember too that the tax brackets themselves are increased by inflation every year.  So if the first $X of earned income is tax free today, next year approximately 1.03 x $X will be tax free.  It won't likely keep you tax free forever, but it'll help somewhat.

[Orin!]

@sokoloff
Thank you - I see where I can open a second account that is a Roth IRA.

I am also impressed by the inferences that I could potentially make more than poverty level income... whatever could cause one to consider that as a possibility? :p

@secondcor521
Thank you for the pointer on the growth of cap. Good point. Between that and most of my investment going into a Roth IRA and the Savers Tax Credit I should be good to go here to avoid Big Sam from taking a bite into my investment earnings.

[terran]

Make sure you understand that the savers tax credit is a non refundable credit, meaning it can reduce your tax due to $0, but won't result in paying you back more than you pay in taxes. If your income is within the standard deduction you won't owe any taxes, so the savers credit won't do you any good.

The earned income tax credit might help you though. It takes a pretty low income to qualify without dependents, but you might be low enough and that one is refundable.