Author Topic: Lazy Investor here, should I move it all to vanguard?  (Read 6184 times)

CheapskateWife

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Lazy Investor here, should I move it all to vanguard?
« on: December 12, 2014, 08:32:54 AM »
We have 1/3 of our Net Worth in "aggressive" TSP investing, he has a military pension coming, and the remaining 2/3rds and the kids 529's are frankly just malingering with USAA mutual funds which are not really growing.   This year, I just started sending any spare change I could to Vanguard, and have 3K each in VFSTX and VFMTX which have performed nicely (and I love the low fees)  I am seriously considering moving the 2/3rds all to Vanguard and setting up new Roth's, 529's, and taxable accounts with them.  One thing that has been bothering me is that I don't know if when you move your 529 and ROTH money from one company to another and change funds, do you get taxed on that transaction?

I'm skeered to make changes, but want to see better results.  Thoughts?


Michread

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Re: Lazy Investor here, should I move it all to vanguard?
« Reply #1 on: December 12, 2014, 08:59:44 AM »
Yes, call Vanguard and they will talk you through it all and then do it for you. 

hodedofome

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Re: Lazy Investor here, should I move it all to vanguard?
« Reply #2 on: December 12, 2014, 09:36:32 AM »
If done correctly it won't be a taxable event to you.

pigpen

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Re: Lazy Investor here, should I move it all to vanguard?
« Reply #3 on: December 12, 2014, 12:01:16 PM »
I just got off the phone with them myself from doing the paperwork to move ROTHs from two other mutual fund companies over to Vanguard. It's a minor pain because I have to go to a bank now to get a Medallion signature guarantee (fancy version of having it notarized) and then mail the forms in, but no big deal otherwise. They'll tell you exactly what you need to do so that it doesn't become a taxable transaction.

CheapskateWife

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Re: Lazy Investor here, should I move it all to vanguard?
« Reply #4 on: December 12, 2014, 12:38:04 PM »
Excellent!  I'll call them this afternoon and get that transfer moving!

Nords

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Re: Lazy Investor here, should I move it all to vanguard?
« Reply #5 on: December 13, 2014, 07:25:39 PM »
One thing that has been bothering me is that I don't know if when you move your 529 and ROTH money from one company to another and change funds, do you get taxed on that transaction?
The key phrase is "transfer in kind" without cashing in the shares.

The Roth and the 529 are rollover transfers from one custodian (USAA) to another custodian (Vanguard).  You never touch the money, so it's not taxable.  Vanguard does all the paperwork with USAA so you don't even have to talk to USAA.

For the taxable account, you'll end up with shares of USAA mutual funds being held by Vanguard.  Most fund companies do not charge for holding another company's shares, but they might charge you for buying more or for reinvesting-- so you'll want to take your USAA distributions in cash.

Once your USAA shares are with Vanguard then you can sell them when the time is right for you to harvest capital gains (or, if there's a drop in the market, a capital loss).  Then you could buy shares of an equivalent Vanguard fund, although they'd probably be at a much lower expense ratio.  Depending on your income tax bracket and the size of the capital gain, you could spend from a few months to a few years selling out of USAA and buying Vanguard. 

If you're holding individual stocks or exchange-traded funds then any financial institution will hold those for you in a brokerage account.  No fees unless you buy or sell, and even then your fees may be minimal.

forummm

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Re: Lazy Investor here, should I move it all to vanguard?
« Reply #6 on: December 14, 2014, 07:29:24 AM »
One consideration is that TSP funds have a lower cost (expense ratio) than the Vanguard funds. It's the only investment holding organization that I've seen that beats Vanguard. If you're going to hold your TSP assets in C, vs Vanguard VFIAX, it's only a 0.02% difference, but still a difference.

https://www.tsp.gov/investmentfunds/fundsoverview/expenseRatio.shtml
https://personal.vanguard.com/us/funds/snapshot?FundId=0540&FundIntExt=INT#tab=3

Nords

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Re: Lazy Investor here, should I move it all to vanguard?
« Reply #7 on: December 14, 2014, 10:40:18 AM »
One consideration is that TSP funds have a lower cost (expense ratio) than the Vanguard funds. It's the only investment holding organization that I've seen that beats Vanguard. If you're going to hold your TSP assets in C, vs Vanguard VFIAX, it's only a 0.02% difference, but still a difference.
Sadly, this question almost never comes up on the blog.  It's hard enough to get people to sign up for the TSP, let alone maximize their contributions.  Analyzing asset allocation vs expense ratios?  Unheard of.

One interesting analysis is the difference in expense ratios between the TSP's I fund and all the international funds, as well as the ER delta between the TSP's S fund and the small-cap funds.  It might be worth sticking to the TSP's I, S, & G funds and putting every other type of asset into other accounts like IRAs and taxables.  Between 2002-08 we ended up putting all of our TSP allocation in the S fund because that was the biggest savings of expense ratios for our asset allocation.  Since our last TSP contribution (2008) we've added more international funds to our asset allocation, and I've debated switching our TSP over to the I fund. 

I've been retired for 12 years, and during that time I've finally finished converting our old conventional IRAs to Roths at the 15% income-tax bracket.  Next month I'm rolling over our TSP funds to conventional IRAs and (over the next six years) converting them to Roth IRAs.  My spouse's Reserve pension starts in 2022, and that will put our income into the 25% tax bracket, so we have a limited window to finish Roth IRA conversion at the 15% income-tax rate. 

We'll roll them over (in cash) and start buying a near-equivalent small-cap value index ETF (IJS).  But the way that international funds have been on sale this year, we might put a big chunk of those rollover assets into an international value index ETF (EFV) too.

CheapskateWife

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Re: Lazy Investor here, should I move it all to vanguard?
« Reply #8 on: December 17, 2014, 11:20:03 AM »
I've been retired for 12 years, and during that time I've finally finished converting our old conventional IRAs to Roths at the 15% income-tax bracket.  Next month I'm rolling over our TSP funds to conventional IRAs and (over the next six years) converting them to Roth IRAs.  My spouse's Reserve pension starts in 2022, and that will put our income into the 25% tax bracket, so we have a limited window to finish Roth IRA conversion at the 15% income-tax rate. 

We'll roll them over (in cash) and start buying a near-equivalent small-cap value index ETF (IJS).  But the way that international funds have been on sale this year, we might put a big chunk of those rollover assets into an international value index ETF (EFV) too.

Oh goodness Nords, you just helped me identify the fact that I have so much more to learn.  Where do I go to get smart on this conversion of Conventional IRA's to ROTH?  I tried to read the IRS page about it but I couldn't grasp the "why" part of the exercise.

Please tell me if I understand this right...I have 100K in my TSP, and 100K in Roth IRA's...Dear husband, who is 7 years older than I, has a similar spread.  When he retires and before my pension kicks in, we are hoping to be in e 15% tax bracket, and could begin converting his TSP's into Roth IRA's in 5K increments (as dictated by law).  I could start mine 7 years later.

So if I execute as many of these conversions as I can while we are still in the 15% bracket, we pay our taxes while they are cheap, and give ourselves lots of tax free money's to play with down the road, as long as we wait until 59-1/2 to start using any funds in the Roth IRA...and by then, we will likely be back up into the 25% tax bracket, so limiting our taxable income is key.  Do I have that right?

What if our income stays solidly in the 25% bracket regardless of conversions...is there any benefit to conversions at that point (other than paying taxes now so you dont pay them later?)

Nords

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Re: Lazy Investor here, should I move it all to vanguard?
« Reply #9 on: December 18, 2014, 10:22:03 PM »
Oh goodness Nords, you just helped me identify the fact that I have so much more to learn.  Where do I go to get smart on this conversion of Conventional IRA's to ROTH?  I tried to read the IRS page about it but I couldn't grasp the "why" part of the exercise.

Please tell me if I understand this right...I have 100K in my TSP, and 100K in Roth IRA's...Dear husband, who is 7 years older than I, has a similar spread.  When he retires and before my pension kicks in, we are hoping to be in e 15% tax bracket, and could begin converting his TSP's into Roth IRA's in 5K increments (as dictated by law).  I could start mine 7 years later.
I'll describe the logic and the mechanics, but first let me talk about the risks when you do not convert.  Maybe that'll help answer the "Why".

One risk is higher taxes.  In the case of myself and my spouse, our current income is well into the 15% income tax bracket.  When her pension starts in 2022, we'll be into the 25% income tax bracket.  If we have a conventional IRA or a traditional TSP, then at age 70.5 (2032) we're required to take RMDs.  This is taxable income (taxed at your income tax bracket) and the amount of the annual RMD is determined from tables provided by the IRS.  If we had to take RMDs then we'd end up paying income taxes on our IRA or TSP withdrawals at the 25% rate.  One way to avoid that fate is to convert those accounts now into a Roth IRA.  By converting now, a little every year, we can pay taxes at the 15% rate today instead of at the 25% rate later. 

Another risk is taxes on your Social Security distributions.  RMDs add more taxable income to your tax return, and that quickly subjects your Social Security to taxation.  Converting a conventional IRA (or a traditional TSP/401(k)) to a Roth IRA avoids RMDs, which reduces your taxable income, and reduces the amount of SS that might be subject to tax.

Those are the risks if you do not do a conversion.  Now I'll describe a few risks that could happen even if you do a conversion.

The biggest risk of converting is political risk.  For example, last year Congress proposed adding RMDs to Roth IRAs.  Even though a Roth IRA withdrawal is not taxed after age 59.5, they still want people to spend them down.  The "concern" is that retirees are holding on to Roth IRAs and not spending them, then letting their heirs spend them tax-free.  Congress wants to "stimulate the economy" by forcing people to take RMDs from their Roth IRAs and either put the money back into taxable accounts or spend it on the economy. 

Another political risk is that Congress might someday change the tax code to make Roth IRAs subject to tax after all.  Ideally we'd all be grandfathered if we'd already paid taxes to convert to a Roth IRA, but the whole concept of political risk is that you can't predict how bad it will be. 

Another (political) risk is that tax rates might actually go down.  What if Congress changed the tax law so that conventional IRA withdrawals (and traditional TSP/401(k) withdrawals) are only taxed at 10% or even not taxed at all?  Us conversion zealots would look pretty stupid for paying taxes before we had to.

I'm going to deal with the risks that I can predict, and I'm ignoring the unpredictable political risks.

Now here's the logic behind the conversions.  If any of this is confusing, then see a fee-only CFP or a tax CPA to walk through the process with your own numbers.

Annual Roth IRA conversions have to be done before 31 December (You have a few more business days...)  Around November you'll predict your total income for the year (salary, interest, dividends, mutual fund distributions, rental property, self-employment income) and then subtract your deductions and exemptions.  (Most capital gains are taxed separately and not included in this rough estimate.)  Ideally your taxable income will be below the top of the 15% income tax bracket.  You'll convert an amount of your traditional IRA to a Roth IRA to bring you to the top of the 15% tax bracket.  For myself and my spouse that usually results in a conversion of about $10K-$15K of conventional IRA principal which is taxed as regular income. 

TSPs are a little tougher, and I'm only familiar with the rules for a military TSP (not a civil-service TSP).  After leaving the military, veterans can make one partial TSP withdrawal (or rollover) before making their final TSP decision (like a second rollover, or RMDs, or buying an annuity).  The idea is that you leave your investments in the TSP to compound for as long as possible with the low expense ratios.  So next year I'm going to roll over part of our traditional TSP to a conventional IRA and then start converting that conventional IRA to a Roth IRA.  If we do a little every year then we'll still pay taxes in the 15% bracket.

I'm not sure when you could start rolling over your traditional TSP accounts.  You might have to be out of the civil service to do so (and you'd definitely have to be out of the military).  I'm not sure about the $5K increments, either, but I'm not familiar with the civil-service TSP.  Once you've rolled a traditional TSP over to a conventional IRA then you can convert any amount of your conventional IRA that you want to a Roth IRA.

So if I execute as many of these conversions as I can while we are still in the 15% bracket, we pay our taxes while they are cheap, and give ourselves lots of tax free money's to play with down the road, as long as we wait until 59-1/2 to start using any funds in the Roth IRA...and by then, we will likely be back up into the 25% tax bracket, so limiting our taxable income is key.  Do I have that right?
Yes.

Just so you know, you can withdraw your Roth IRA contributions anytime for any reason, tax-free and penalty-free, and before age 59.5. 

In addition, five tax years after you convert an amount to a Roth IRA, then you can also withdraw that amount (but not its gains, just the original principal) tax-free and penalty-free before age 59.5.  It's referred to as a Roth IRA conversion ladder (because you have to wait five tax years after conversion).  Here's the best description I've ever read:  from CFP Michael Kitces, complete with links to the actual tax code:
https://www.kitces.com/blog/understanding-the-two-5-year-rules-for-roth-ira-contributions-and-conversions/
Again, if anything in this article is confusing then show it to your CFP or CPA.

What if our income stays solidly in the 25% bracket regardless of conversions...is there any benefit to conversions at that point (other than paying taxes now so you dont pay them later?)
You have that right-- there's no benefit to conversions if you stay in the 25% tax bracket. 

Unless you're worried that years down the road, your RMDs might subject your SS to taxation or even push you into the 28% income-tax bracket.

Good problems to have.

PathtoFIRE

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Re: Lazy Investor here, should I move it all to vanguard?
« Reply #10 on: December 19, 2014, 08:01:12 AM »
<snip>
So next year I'm going to roll over part of our traditional TSP to a conventional IRA and then start converting that conventional IRA to a Roth IRA.
<snip>

Nords, are you doing the partial TSP rollover rather than all at once simply to leave some money in the low-ER TSP funds for a little longer, or is there any additional reason to split the TSP rollover? BTW, awesome summary!

CheapskateWife

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Re: Lazy Investor here, should I move it all to vanguard?
« Reply #11 on: December 19, 2014, 08:02:19 AM »
This was incredible!  Thanks Nords!

Nords

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Re: Lazy Investor here, should I move it all to vanguard?
« Reply #12 on: December 19, 2014, 09:27:17 AM »
<snip>
So next year I'm going to roll over part of our traditional TSP to a conventional IRA and then start converting that conventional IRA to a Roth IRA.
<snip>
Nords, are you doing the partial TSP rollover rather than all at once simply to leave some money in the low-ER TSP funds for a little longer, or is there any additional reason to split the TSP rollover? BTW, awesome summary!
That's right, just for the lower expense ratios.  It's all in the "S" fund, and the ETF we'll be moving it to (iShares S&P600 Small-cap Value, IJS) has a much higher expense ratio by comparison-- all the way up to 0.25%. 

It's also a convenient way to learn how to do the transfer with a smaller amount of money.  We've only contributed to the TSP, and this will be our first rollover from it.

This was incredible!  Thanks Nords!
You're welcome!