Case study: two teachers

[jpap]

Hello,
This is my first post here.  My wife and I are both 48 years old; we have 3 children ages 7, 12, and 14.  Our current gross income is $160,000.  No debts except recently refinanced mortgage (30 years at 2.5% - our mortgage payment is $355 per month).  We have been teaching in public schools for 23 (me) and 24 (wife) years.  I purchased 4 years of service last fall, making me eligible for retirement at any time.  Wife can retire after one more school year.  Current assets are:
Stocks and ETFs in taxable accounts = $380,000
Stocks, ETFs and mutual funds in Roth IRAs = $434,000
ETFs and mutual funds in 403b accounts = $288,000
Cash in HSAs = $44,000
Cash in savings = $55,000
Cash value in single premium life insurance policy (purchased for me by my father in 1987ish) = $70,000
Total = $1,271,000 approximately
If I retire at the end of this school year, my pension will be $50,388 with a COLA that gives an increase once the cumulative CPI reaches 2% (so if this doesn't happen during a single year, you don't get an increase until it does).  The lifetime COLA cap is 1.9 times your original benefit.
If wife retires at the end of next school year, her pension will be approximately $33,000 (although we could purchase service to increase this).
So our pension income would begin at about $83,000 per year.  I have an excellent part time gig where I work from a computer on my couch (I make about $40 per hour and total about $20,000 in an average year).
We do not intend to spend down our portfolio, but we may use some of it for college expenses and travel.  Our expenses are very low; required spending is about $40,000 per year (and this is debatable - we could reduce expenditures).  Here are some questions:
1.  Can we retire?
2.  Is it worth visiting a tax planning professional to advise us on how to realize income after retirement?  We have way too much in unrealized capital gains in taxable accounts that we would like to gradually realize (perhaps used to contribute to roth IRAs in retirement - yes, I can still produce earned income) without paying capital gains taxes, which means keeping our income low.  Also, we would like to keep income low enough for ACA subsidies (we can stay on employer insurance until age 65, but it is currently about $1600 per month for family).
3.  Our oldest child will be leaving 8th grade (my wife's grade) and entering the high school and would be in my math class next year.  I don't know if any of you have been in this situation, but is it worth it to stay around to teach your own child?
I appreciate any advice anyone offers, and let me know if more information would be helpful.  Thanks in advance.

[MDM]

1.  Yes
2.  Depends on how much effort you are willing to expend on this yourself.  Even a little time analyzing options would likely identify most benefits.  Probably your biggest lever would be deferring your pension start dates, if by doing so you get higher pension payments when you do receive them.  That would allow you to realize a good chunk of long term capital gains free of federal tax.  If you get no benefit from deferring the pensions, however, it makes no sense to do so.

You can evaluate various tax "what if...?" questions for a given year relatively easily using commercial tax software, or estimation tools such as the case study spreadsheet. 

Tools such as Retiree Portfolio Model and I-ORP can also be worthwhile but take more effort.

The Roth IRA conversion wiki article is a good overview of that topic.

[hikertrash]

1. Assuming your estimation of expenses are accurate, then obviously you could retire on just your pension.
2. I have never been super impressed with tax/financial professionals, you might run into one that is great and well worth your time. Something to consider would be look at converting your 403b into your Roth IRA's.  Once your retired and have the time, run different scenarios and see which gives you the best outcome (harvesting capital gains vs roth conversions).
3. I can't speak from your perspective, but my father was a teacher in my grade and it was not a source of joy from my perspective.

[reeshau]

You have not mentioned it at all, but what are your intentions toward paying for your children's college?  It seems that you are on the cusp of really engaging in this, so I would have thought it would be top of mind, and play a significant role in your thinking.  Beyond considerations for claims on your stache, it also complicates your tax / ACA planning with FAFSA planning.

Outside of that, I do like @MDM 's suggestion to look at deferred pension.  The downside of the pension, of course, is that it doesn't leave you with any assets either as a legacy, or to deal with a major outflow, like a catastrophic disaster.  But you have a lot of assets outside your taxable account, and were already looking to harvest them.  Of course, you also can already cover your expenses as-is.  But it could be an alternative to buying seniority.  If you do look into it, also understand the delay or disqualification of any other retirement benefits you are counting on.

[zolotiyeruki]

Wow, you guys have nailed it.  Let me see if I have this straight:
Expenses: $40k
Pension income: $83k
Other savings: $1,271k

Even without the pensions, you have enough to retire on.  In fact, with the pension, you have three times as much as you need to retire on.  Honestly, it'd be easier to plan your tax-minimization strategy without the pension, because you're practically swimming in money.  You have no need to earn any more money, nor to pad your Roth IRAs.

In terms of minimizing your taxes, here's one approach you might consider:
(I'm ignoring the whole ACA income/subsidy thing for simplicity)
--Take $83k of pension income
--Realize long-term capital gains so that your total income is $105k or so
--Take the standard deduction ($25k)
--(taxable income is now roughly $80k)
--Pay 12 marginal rate on the pension income, and 0% on your capital gains
--Once you've realized the LTCGs, start gradually converting your 403b funds to Roth

The key is to maximize your income, but stay within the 12% marginal bracket.

If you have enough deductions that it makes sense to itemize, that will allow you to realize even more capital gains.  All that said, the massive pension  you two will receive will heavily limit how much LTCG you can realize.  And that's even before you consider your 403b savings.

MDM's suggestion about deferring the pension and realizing more capital gains in the meantime is also a good one, with that very important caveat about increased future payments.  How much of your taxable balance is unrealized gains?  Here's one way you could approach it--basically a modified Roth Pipeline, assuming you have $190k in unrealized gains:
Years 1-5:
--harvest $40k of gains
--live off the $80k you withdrew (reinvest some)
--convert $65k of 403b to Roth
--taxable income after standard deduction is $80k
--pay 12% marginal rate on the conversion, 0% on the LTCG
Years 6-forever:
--take pension ($83k/year)
--convert remaining 403b funds to Roth (make sure to keep taxable income within the 12% bracket!)
--if there's still room in the 12% bracket, continue to harvest LTCG

[jpap]

Thank you for the ideas.  One thing we are considering is for me to work another year and switch to traditional 403b contributions rather than Roth 403b contributions.  We could max those and also max 457 contributions.  By doing that, retiring from extra duties at school, and starting to make donations with appreciated shares of stock, we could make a dent in harvesting capital gains at 0 percent.  14.5 percent of our total compensation, including health insurance, is withheld for teacher retirement, and our taxable income is already not too far above the cutoff.  We have the wrong investments in the wrong accounts.  For example, 80 shares of Amazon purchased over time for under 30,000 total, all in a taxable account. Roth IRAs full of vanguard index funds.  My thinking was always to put the less volatile, safer holdings in accounts meant for retirement.  The taxable accounts were just for dabbling in trading.  Another thought I've had is to pick a number, say 1 million, and just try to keep the total value of all investments at or above that number.  In good years there could be a lot of money for travel and fun.  In bad years, you live only on pension income.  Does that make any logical sense at all?

[zolotiyeruki]

Making in-kind donations with the appreciated stock is a great way to avoid the taxes on those.

Personally, I think you're overthinking it.  Your pension alone is easily 1.5x what you need to cover your retirement expenses, including health insurance.  Even just on pension income, you could spend $20k on travel every year, given your current expenses.  Your approach of "keep $1M in investments each year" isn't a bad approach, but absent some serious lifestyle inflation, you'll never get that low.