Author Topic: Sell taxable to keep maxing tax advantaged?  (Read 5720 times)

FLBiker

  • Pencil Stache
  • ****
  • Posts: 953
  • Age: 42
Sell taxable to keep maxing tax advantaged?
« on: January 20, 2016, 01:37:58 PM »
Hi folks,

My wife is going to be a SAHM for the next 1.5 years (probably, 1 year at least).  I earn 75K.

I currently max out both a 457 and a 403b, taking our income down to 39K.  I also put 5.5K into an IRA (trad recently, but maybe Roth this time around) taking our income down to 33.5K.  I think that's probably close to what we need for the year, but we might be a little short.

Here's my question: we've got ~$53K in a taxable vanguard account ($39.5K in VTSAX, $14.4K in VTIAX).  Rather than reduce my retirement contributions, do you think we should (if need be) sell down our taxable account?  We've got an unrealized loss of $1500 on VTIAX (and an unrealized gain of $8500 on VTSAX) if that makes a difference.

Otherwise, my plan is to cut the IRA contribution first, then lower the 403b.  For context, we've got ~$350K in 457s/403bs/IRAs.

If there's anything else that would be helpful to know, just ask.

MDM

  • Walrus Stache
  • *******
  • Posts: 9249
Re: Sell taxable to keep maxing tax advantaged?
« Reply #1 on: January 20, 2016, 06:38:35 PM »
You have an interesting situation.  The graph below assumes $75K gross income, MFJ with 1 young child, and no pre-tax deduction other than your 457&403b (where it says 401k, read 457&403b):



You might want to put your specific numbers in the spreadsheet (downloadable at http://forum.mrmoneymustache.com/ask-a-mustachian/how-to-write-a-%27case-study%27-topic/msg274228/#msg274228) and see what you think.  Spreadsheet is currently configured for 2015 tax law, so it should be pretty good for 2016 - except the specific tax "cliffs" (e.g., saver's credit) will move and close doesn't count for those cliffs.

Psychstache

  • Pencil Stache
  • ****
  • Posts: 776
Re: Sell taxable to keep maxing tax advantaged?
« Reply #2 on: January 20, 2016, 06:45:21 PM »
I just finished doing this. I've been maxing 457s, 403bs, HSAs, and IRAs by draining a 70k taxable over the last 2 years. One year I cleared through my LTCGs, then another I used up LTCLs so they didn't cancel each other out. Very much worth it, but it was a lot of math-ing.

seattlecyclone

  • Magnum Stache
  • ******
  • Posts: 4733
  • Age: 34
  • Location: Seattle, WA
Re: Sell taxable to keep maxing tax advantaged?
« Reply #3 on: January 20, 2016, 08:11:18 PM »
In general, I say max out the retirement accounts. If that means you need to liquidate some taxable stocks (in essence transferring money from taxable to tax-advantaged), that's likely to work out nicely in the long run.

One thing to be aware of is the earned income credit. If you're married filing jointly with one kid, you can get a roughly $900 refundable tax credit if your income after traditional workplace retirement contributions is $39k. However there's a cliff in this credit where if your investment income (interest, dividends, capital gains, etc.) goes over $3,400, the credit falls to zero. So I would say the best thing is likely to contribute as much as possible to the retirement accounts without letting your investment income get above $3,400. Since the market has been down lately you should be able to pick some losing shares and not have any capital gains income.

TheOldestYoungMan

  • Pencil Stache
  • ****
  • Posts: 750
Re: Sell taxable to keep maxing tax advantaged?
« Reply #4 on: January 20, 2016, 08:48:45 PM »
I sell from my taxable accounts to fund my tax-advantaged accounts if something goes wrong/unexpected expenses break my budget too late in the year to recover.  Occasionally I will also do it to front-load my IRA contribution, but I think I'm over that particular bit of micromanagement.

Don't leave tax dollars on the table.

That said, if you can avoid being in a position to where you have to sell an asset at a loss, that will always be to your advantage.

So try to figure out the expenses/additional income such that you don't have to sell the taxable account stuff.

I don't know your exact plans/situation, but a Roth is not likely to benefit you as much as a traditional IRA.

seattlecyclone

  • Magnum Stache
  • ******
  • Posts: 4733
  • Age: 34
  • Location: Seattle, WA
Re: Sell taxable to keep maxing tax advantaged?
« Reply #5 on: January 20, 2016, 09:27:54 PM »
That said, if you can avoid being in a position to where you have to sell an asset at a loss, that will always be to your advantage.

Selling taxable investments for a loss to invest that money in a tax-advantaged account can be a great trade. You save money on your taxes this year, you prevent dividends and capital gains from accruing in a taxable account, and you still increase your overall invested assets.

MustacheAndaHalf

  • Handlebar Stache
  • *****
  • Posts: 1692
Re: Sell taxable to keep maxing tax advantaged?
« Reply #6 on: January 21, 2016, 12:02:24 AM »
As a tactic, swapping taxable and retirement sounds like a good move.

Keep in mind your approach is based on your wife returning to work within 2 years, and having no unexpected costs with a new baby.  Maybe you're right, but it seems like the riskiest part of your plan.

FLBiker

  • Pencil Stache
  • ****
  • Posts: 953
  • Age: 42
Re: Sell taxable to keep maxing tax advantaged?
« Reply #7 on: January 21, 2016, 11:44:17 AM »
Thanks so much for all of the advice!

I just finished doing this. I've been maxing 457s, 403bs, HSAs, and IRAs by draining a 70k taxable over the last 2 years. One year I cleared through my LTCGs, then another I used up LTCLs so they didn't cancel each other out. Very much worth it, but it was a lot of math-ing.

Forgive me if this is a dumb question, but why is it a lot of math?  I've got my taxable in two funds (VTSAX and VTIAX).  In selling, wouldn't I just try to keep my CG under 3400 (for the earned income credit).  What am I missing, mathwise?  Is it because it is disadvantageous to use the dollar cost average as a cost basis, so I'm better off figuring it out another way?


Again, forgive me if this is a dumb question, but am I right in reading this chart as showing that the "best" spots are where the blue line is the highest?

That said, if you can avoid being in a position to where you have to sell an asset at a loss, that will always be to your advantage.

Selling taxable investments for a loss to invest that money in a tax-advantaged account can be a great trade. You save money on your taxes this year, you prevent dividends and capital gains from accruing in a taxable account, and you still increase your overall invested assets.

I'd like to know responses to this.  To me, selling at a loss seems fine (if only to balance out other things sold at a gain).

As a tactic, swapping taxable and retirement sounds like a good move.

Keep in mind your approach is based on your wife returning to work within 2 years, and having no unexpected costs with a new baby.  Maybe you're right, but it seems like the riskiest part of your plan.

True.  But she is required to return to work for a year (in exchange for the maternity leave) and that will either begin in January or August 2017.  And we could have unexpected costs, but we also have an emergency fund and could easily get a HELOC.  And I could change my retirement contributions at any time to "add" ~$1400 per pay period.

Thanks again for all of the information!  I thought I was on the right track, but it's helpful to have these perspectives.

MDM

  • Walrus Stache
  • *******
  • Posts: 9249
Re: Sell taxable to keep maxing tax advantaged?
« Reply #8 on: January 21, 2016, 12:32:12 PM »
Again, forgive me if this is a dumb question, but am I right in reading this chart as showing that the "best" spots are where the blue line is the highest?

Good question.  The chart tells only part of the story.

First some housekeeping: the gray and blue lines are plotted using the left axis, while the orange and yellow are plotted using the right axis.  The percentages are negative because taxes go down as pre-tax contributions go up.

One could look at the actual spreadsheet for the specific numbers and credits but I don't have it open now so comments below are based on eyeballing, poor memory, etc.:
 - the first $14K saves tax at a 15% marginal rate.  Not surprising, as that is the "tax bracket" for this income
 - there is a one-time savings at that point where the saver's(?) credit kicks in
 - the next $16K saves tax at a 15% marginal rate.  Not surprising, as that is the "tax bracket" for this income
 - at $30K contribution, the Earned Income(?) credit kicks in
 - just above $35K another level of saver's(?) credit give another one-time savings

The chart thus tells you the "at what rate will I save on contributions?" part of the story.  You then need to add your own estimate of the "at what marginal rate will I be taxed on withdrawal?" part to complete the picture and decide whether traditional or Roth contributions are better.

This situation is less clear cut than, for example, when one is slightly into the 25% bracket.  In that case one could make traditional contributions at a 25% savings, then switch to Roth once the savings are only 15%.  Here you have to slog through a bunch of 15% savings to reach some one-time credits and some 25%-30% savings rates.

FLBiker

  • Pencil Stache
  • ****
  • Posts: 953
  • Age: 42
Re: Sell taxable to keep maxing tax advantaged?
« Reply #9 on: January 21, 2016, 12:57:00 PM »
Again, forgive me if this is a dumb question, but am I right in reading this chart as showing that the "best" spots are where the blue line is the highest?

Good question.  The chart tells only part of the story.

First some housekeeping: the gray and blue lines are plotted using the left axis, while the orange and yellow are plotted using the right axis.  The percentages are negative because taxes go down as pre-tax contributions go up.

One could look at the actual spreadsheet for the specific numbers and credits but I don't have it open now so comments below are based on eyeballing, poor memory, etc.:
 - the first $14K saves tax at a 15% marginal rate.  Not surprising, as that is the "tax bracket" for this income
 - there is a one-time savings at that point where the saver's(?) credit kicks in
 - the next $16K saves tax at a 15% marginal rate.  Not surprising, as that is the "tax bracket" for this income
 - at $30K contribution, the Earned Income(?) credit kicks in
 - just above $35K another level of saver's(?) credit give another one-time savings

The chart thus tells you the "at what rate will I save on contributions?" part of the story.  You then need to add your own estimate of the "at what marginal rate will I be taxed on withdrawal?" part to complete the picture and decide whether traditional or Roth contributions are better.

This situation is less clear cut than, for example, when one is slightly into the 25% bracket.  In that case one could make traditional contributions at a 25% savings, then switch to Roth once the savings are only 15%.  Here you have to slog through a bunch of 15% savings to reach some one-time credits and some 25%-30% savings rates.

Thanks for the response!  I'm still a bit hazy on these credits, but when I do our 2015 taxes I'll read up on them.  And I'll certainly pay attention to any capital gains earning limit on them.

Thanks again!

Jack

  • Magnum Stache
  • ******
  • Posts: 4734
  • Location: Atlanta, GA
Re: Sell taxable to keep maxing tax advantaged?
« Reply #10 on: January 21, 2016, 12:59:26 PM »
Again, forgive me if this is a dumb question, but am I right in reading this chart as showing that the "best" spots are where the blue line is the highest?

Good question.  The chart tells only part of the story.

First some housekeeping: the gray and blue lines are plotted using the left axis, while the orange and yellow are plotted using the right axis.  The percentages are negative because taxes go down as pre-tax contributions go up.

One could look at the actual spreadsheet for the specific numbers and credits but I don't have it open now so comments below are based on eyeballing, poor memory, etc.:
 - the first $14K saves tax at a 15% marginal rate.  Not surprising, as that is the "tax bracket" for this income
 - there is a one-time savings at that point where the saver's(?) credit kicks in
 - the next $16K saves tax at a 15% marginal rate.  Not surprising, as that is the "tax bracket" for this income
 - at $30K contribution, the Earned Income(?) credit kicks in
 - just above $35K another level of saver's(?) credit give another one-time savings

The chart thus tells you the "at what rate will I save on contributions?" part of the story.  You then need to add your own estimate of the "at what marginal rate will I be taxed on withdrawal?" part to complete the picture and decide whether traditional or Roth contributions are better.

This situation is less clear cut than, for example, when one is slightly into the 25% bracket.  In that case one could make traditional contributions at a 25% savings, then switch to Roth once the savings are only 15%.  Here you have to slog through a bunch of 15% savings to reach some one-time credits and some 25%-30% savings rates.

There might be a flaw in your spreadsheet, then: It shows an already-negative tax owed going more negative when the second tier of the saver's credit kicks in at $35K, but the saver's credit is not refundable.

MDM

  • Walrus Stache
  • *******
  • Posts: 9249
Re: Sell taxable to keep maxing tax advantaged?
« Reply #11 on: January 21, 2016, 01:12:41 PM »
There might be a flaw in your spreadsheet, then:
Always a possibility!

Quote
It shows an already-negative tax owed going more negative when the second tier of the saver's credit kicks in at $35K, but the saver's credit is not refundable.

Details for $36K of 457 & 403b contributions are below.  If you see an error there, please advise.  It isn't the saver's credit that provides a refund, it's the CTC (spreadsheet assumes eligibility for the refundable portion) and EIC.

Filing Status21=S, 2=MFJ, 3=HOH
# Exempt.3
# Children <171
# Children for EIC1
Earner #1
Ages25
# of earners1
Total Income$39,000
Std. Deduct.$12,600
Act. Deduct.$12,600
Exemption$12,000
AGI$39,000
MAGI$39,000
Taxable$14,400
1040 Tax$1,440
Saver's credit$800
Tax after n-r credit$640
Child Tax Cred.$1,000
EIC$903
Net Tax-$1,263
VersionV7.06
« Last Edit: January 21, 2016, 02:02:00 PM by MDM »

Gone Fishing

  • Magnum Stache
  • ******
  • Posts: 2741
  • So Close went fishing on April 1, 2016
    • Journal
Re: Sell taxable to keep maxing tax advantaged?
« Reply #12 on: January 21, 2016, 01:27:30 PM »
I plan on doing this once FIRED.  My wife plans on keeping her part time job which will give us the earned income we need to be eligible to fund our ROTHs.

Psychstache

  • Pencil Stache
  • ****
  • Posts: 776
Re: Sell taxable to keep maxing tax advantaged?
« Reply #13 on: January 21, 2016, 01:46:46 PM »
Thanks so much for all of the advice!

I just finished doing this. I've been maxing 457s, 403bs, HSAs, and IRAs by draining a 70k taxable over the last 2 years. One year I cleared through my LTCGs, then another I used up LTCLs so they didn't cancel each other out. Very much worth it, but it was a lot of math-ing.

Forgive me if this is a dumb question, but why is it a lot of math?  I've got my taxable in two funds (VTSAX and VTIAX).  In selling, wouldn't I just try to keep my CG under 3400 (for the earned income credit).  What am I missing, mathwise?  Is it because it is disadvantageous to use the dollar cost average as a cost basis, so I'm better off figuring it out another way?


I think it is a very reasonable question.

I guess most of the work had to do with the fact wasn't selling all the shares at once and sitting in cash. I have some variable income and several reasons for wanting to have a very targeted AGI (student loan repayment calculation, the Saver's credit tax cliff) that made me paranoid and kept running and rerunning numbers.

I was probably overcomplicating it.

TheOldestYoungMan

  • Pencil Stache
  • ****
  • Posts: 750
Re: Sell taxable to keep maxing tax advantaged?
« Reply #14 on: January 21, 2016, 02:05:30 PM »
That said, if you can avoid being in a position to where you have to sell an asset at a loss, that will always be to your advantage.

Selling taxable investments for a loss to invest that money in a tax-advantaged account can be a great trade. You save money on your taxes this year, you prevent dividends and capital gains from accruing in a taxable account, and you still increase your overall invested assets.

You had $8,500 last year which you put into a taxable account.

This year it has declined to $5,500 (a $3,000 loss).  You sell that 5,500 and put into your IRA.  Assuming it was coming out of the 25% bracket (though for this poster I'm thinking it more likely it is coming out of the 15%) you end up with a check from the government for $1,375.00.  Moreover, you can deduct the $3,000 loss from your income, again, netting you a check for $750.

3,000-1375-750 = $875.00 loss you have locked in.  You can then reinvest the $2125 in tax savings in the taxable account.

So the end result is that without putting any extra cash in, you end up with:

$5,500 in IRA.
$2,125 in taxable.

$7,625 total.

Not bad at all.  But it also isn't the whole story.  Money is fungible, so that $1,375 you get from the IRA contribution could have been got from any earned income you contributed.  And the $750 you got from deducting the loss you only got by realizing the loss.  You'll potentially have to pay it back in the future in the form of decreasing your current basis, so it isn't a 100% gain.

At the end of the day, intentionally incuring a loss for the purposes of harvesting the tax savings is nonsense.  If you have to sell the asset then by all means take advantage of the tax deductible event, but better still is to just invest new money.  If you were going to be moving fungible assets around anyway, then of course you keep an eye on this strategy to see if you can take advantage of harvesting a loss for tax purposes.

In other words, it's a strategy to optimize a thing you were going to do anyway, not a reason to do a thing you would otherwise not do.  The original $3,000 loss is just a paper loss until you actually sell.  That you get the consolation prize of $750.00 (potentially more if you weren't going to be able to contribute $5,500 of new money) is poor consolation in the face of the three thousand dollars you just left on the table plus decreasing your cost basis and getting into the habit of solving problems (not enough to contribute to the IRA) by selling assets rather than increasing saving/decreasing expenses.

This is assuming you still value the underlying asset as worth having.



seattlecyclone

  • Magnum Stache
  • ******
  • Posts: 4733
  • Age: 34
  • Location: Seattle, WA
Re: Sell taxable to keep maxing tax advantaged?
« Reply #15 on: January 21, 2016, 02:38:16 PM »
Money is fungible, so that $1,375 you get from the IRA contribution could have been got from any earned income you contributed.

Sure, but that's irrelevant to the question. The OP said they would try to max out their retirement contributions through this year's income alone, but might not quite be able to do it. Supposing they fall short, is it better to sell stock for a loss in a taxable account to finish their IRA contribution, or keep the stock and fail to max out the IRA? I say that selling the taxable stock is a no-brainer in this situation, especially since they don't expect their income to be this low indefinitely.

Quote
And the $750 you got from deducting the loss you only got by realizing the loss.  You'll potentially have to pay it back in the future in the form of decreasing your current basis, so it isn't a 100% gain.

If you sell stock at a loss to invest in an IRA, there is no more "basis" to speak of. You're booking a loss on this year's taxes and taking those funds out of your taxable account forever. You'll have to pay tax on the money when it comes out of the IRA, but no differently than if you contributed money out of your checking account.

Quote
At the end of the day, intentionally incuring a loss for the purposes of harvesting the tax savings is nonsense.

It really isn't. Tax loss harvesting does make sense even if you assume your tax rates when realizing the eventual gain will be the same as your tax rate when realizing the loss. See my post here and my reply three posts down from there for an example.

But again, this is irrelevant to this thread. We're talking about whether it's better to sell taxable assets to max out an IRA or keep taxable assets and not max out the IRA.

Quote
If you have to sell the asset then by all means take advantage of the tax deductible event, but better still is to just invest new money.  If you were going to be moving fungible assets around anyway, then of course you keep an eye on this strategy to see if you can take advantage of harvesting a loss for tax purposes.

I agree investing new money is even better. Good thing they're already planning to max out two workplace retirement accounts and maybe an IRA with new money!

Quote
In other words, it's a strategy to optimize a thing you were going to do anyway, not a reason to do a thing you would otherwise not do.  The original $3,000 loss is just a paper loss until you actually sell.  That you get the consolation prize of $750.00 (potentially more if you weren't going to be able to contribute $5,500 of new money) is poor consolation in the face of the three thousand dollars you just left on the table plus decreasing your cost basis and getting into the habit of solving problems (not enough to contribute to the IRA) by selling assets rather than increasing saving/decreasing expenses.

This is assuming you still value the underlying asset as worth having.

No, three thousand dollars are not being "left on the table" in any sense. They are simply optimizing their portfolio by transferring assets from a taxable bucket to a tax-advantaged bucket. In the process they get two tax deductions this year (from selling stock at a loss, and from contributing to an IRA), the benefits of this tax deferral can compound over time, and their investments will now grow in a tax-advantaged account rather than a taxable account. Where's the downside here?

Assuming that they truly can't get their budget low enough to max out all of their retirement accounts out of paychecks alone, this is the next best thing. No "bad habits" are being formed here either; their income is lower than usual for a year or two and they expect it to go back up after that; why not take advantage of all the tax-advantaged space that is available to them this year, and let the taxable account balance build back up when the mother goes back to work?

TheOldestYoungMan

  • Pencil Stache
  • ****
  • Posts: 750
Re: Sell taxable to keep maxing tax advantaged?
« Reply #16 on: January 21, 2016, 03:55:58 PM »
I want to be clear, it is OK, if you find yourself on March 15, having tried everything else, to pursue this ::sell at a loss to not miss IRA contribution opportunity:: strategy.

But.

Would you be willing to spend $8,500.00 this year for an extra $5,500 of tax advantaged contribution next year?  Would that be OK?  Would that be a rational thing to do?

Cuz that's what we're talking about.  This isn't why Past You invested that money in an after tax account.  It's fine to do it.  It's the "right" thing to do given the available options once you've passed the point where all of the better choices were available.  But going forward make better choices.

seattlecyclone

  • Magnum Stache
  • ******
  • Posts: 4733
  • Age: 34
  • Location: Seattle, WA
Re: Sell taxable to keep maxing tax advantaged?
« Reply #17 on: January 21, 2016, 07:38:11 PM »
Sure, spending $8,500 this year for an extra $5,500 of tax advantaged contribution next year is fine if the market went down anyway. Buying high and selling low is generally a bad idea. Good thing that's not what we're talking about here! We're talking about buying high, selling low, immediately buying the same number of shares low again in a more tax-efficient account, and hopefully selling high at a future date.

FLBiker

  • Pencil Stache
  • ****
  • Posts: 953
  • Age: 42
Re: Sell taxable to keep maxing tax advantaged?
« Reply #18 on: January 22, 2016, 07:44:13 AM »
Thanks!  It's helpful to see these different POVs.  I've learned so much about tax advantages on this forum and it's made a tremendous difference!

Jack

  • Magnum Stache
  • ******
  • Posts: 4734
  • Location: Atlanta, GA
Re: Sell taxable to keep maxing tax advantaged?
« Reply #19 on: January 22, 2016, 08:33:49 AM »
Sure, spending $8,500 this year for an extra $5,500 of tax advantaged contribution next year is fine if the market went down anyway. Buying high and selling low is generally a bad idea. Good thing that's not what we're talking about here! We're talking about buying high, selling low, immediately buying the same number of shares low again in a more tax-efficient account, and hopefully selling high at a future date.

Yep. Selling at a loss is entirely irrelevant if you're immediately buying the same thing back anyway. Might want to read up on the "wash sale rule," though. (I have no idea whether it applies to this taxable -> IRA situation.)

seattlecyclone

  • Magnum Stache
  • ******
  • Posts: 4733
  • Age: 34
  • Location: Seattle, WA
Re: Sell taxable to keep maxing tax advantaged?
« Reply #20 on: January 22, 2016, 09:00:55 AM »
Yes, you can trigger a wash sale by purchasing substantially identical securities in an IRA within 30 days. If you sell for a loss in your taxable account to do this transfer, buy something a little bit different than your current investment for the first 30 days and feel free to switch back afterward.

FLBiker

  • Pencil Stache
  • ****
  • Posts: 953
  • Age: 42
Re: Sell taxable to keep maxing tax advantaged?
« Reply #21 on: January 22, 2016, 09:01:36 AM »
Good points on the wash sale, thanks!