Should I fund Roth IRA by selling stocks from taxable account?

[buddhapeace1]

Hi, I know there are smarty pants in this forum that can answer this question for me. I have been maxing out me and my husband's Roths every year, as well as our 401k and 403b. Right now we have about $180,000 in our Roths and $950,000 in our tax-deferred retirement accounts. Additionally, we have about $400,000 in a taxable account. Our financial situation has changed this year, and I don't think I'll be able to max out our Roths in 2024. I'm wondering if it makes sense to sell off some stocks in our taxable account in order to max them out. It seems like there could be a tax benefit from doing this long-term, since it would be growing tax-free for another 15 years before we tap into those funds. What am I missing? Any advice from all you people smarter than me? Thanks!

[secondcor521]

Yes, there could be.  You'd probably end up paying some amount of taxes today to avoid some amount of taxes later.

It's what those two numbers (taxes now vs taxes later) that you would have to pencil out to see if it makes sense.

Taxes now will depend on whether you realize a gain or loss, what kind of gains they are (ST or LT) if gains, what cap gains bracket you're in, what other capital gains and losses you have realized this year, how your state taxes capital gains (most treat it as ordinary income), and whether realizing any gains pushes you past any sort of income tax cliff or bracket (such as ACA subsidy repayment level, IRMAA, EITC, Saver's Credit, phantom 27% bracket).  For all of these issues, I think the best way to figure the situation out is to use the Case Study Spreadsheet, which is supported by @MDM here on the forum.  There's a thread on the CSS where you can find the latest version which already supports 2023 taxes.

Taxes later depends on your tax situation later.  Your filing status could change if one of you is widowed.  TCJA expires in 2026.  Other things are always changing in the tax law.  You might have additional income later, like SS or RMDs or inherited traditional IRAs or pensions.  You might move in the future to a lower- or no-income-tax state.

Also, in general, the longer and more the money grows in the Roth tax free, the more appealing the idea would be because you're avoiding more taxes.  So if you were going to invest in stocks and the money sits there for 20 years, I think the idea would have great appeal.  If you're investing in a money market fund for two years, not so much.

One other idea is to see if you have other assets or income streams that you can pull the Roth contributions from instead of realizing gains in your taxable account.  I'm not sure what those might be, but there could be some options.  One idea which sort of gets at this would be to sell some combination of assets from taxable which are a mix of gains and losses to end up with no gain or a slight loss.  If you had an HSA or savings account you wanted to drain, those would be other ideas.

[buddhapeace1]

Yes, there could be.  You'd probably end up paying some amount of taxes today to avoid some amount of taxes later.

It's what those two numbers (taxes now vs taxes later) that you would have to pencil out to see if it makes sense.

Taxes now will depend on whether you realize a gain or loss, what kind of gains they are (ST or LT) if gains, what cap gains bracket you're in, what other capital gains and losses you have realized this year, how your state taxes capital gains (most treat it as ordinary income), and whether realizing any gains pushes you past any sort of income tax cliff or bracket (such as ACA subsidy repayment level, IRMAA, EITC, Saver's Credit, phantom 27% bracket).  For all of these issues, I think the best way to figure the situation out is to use the Case Study Spreadsheet, which is supported by @MDM here on the forum.  There's a thread on the CSS where you can find the latest version which already supports 2023 taxes.

Taxes later depends on your tax situation later.  Your filing status could change if one of you is widowed.  TCJA expires in 2026.  Other things are always changing in the tax law.  You might have additional income later, like SS or RMDs or inherited traditional IRAs or pensions.  You might move in the future to a lower- or no-income-tax state.

Also, in general, the longer and more the money grows in the Roth tax free, the more appealing the idea would be because you're avoiding more taxes.  So if you were going to invest in stocks and the money sits there for 20 years, I think the idea would have great appeal.  If you're investing in a money market fund for two years, not so much.

One other idea is to see if you have other assets or income streams that you can pull the Roth contributions from instead of realizing gains in your taxable account.  I'm not sure what those might be, but there could be some options.  One idea which sort of gets at this would be to sell some combination of assets from taxable which are a mix of gains and losses to end up with no gain or a slight loss.  If you had an HSA or savings account you wanted to drain, those would be other ideas.

Thank you! I so appreciate your very thorough thinking and reply. You've given me a lot of information to help me puzzle this out. I do love the puzzle aspect of investing--figuring out how to make every dollar work best for me. It's fun! You indeed know more than me, but I understand all you're saying, so I'll do some calculations. Thanks again!