Author Topic: Taxable vs. Tax-advantaged accounts...how to split?  (Read 3021 times)

AnnaD

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Taxable vs. Tax-advantaged accounts...how to split?
« on: July 30, 2012, 12:55:54 PM »
So, I've run the numbers and we could retire in 5 years.  Yay, right?  However, I realized with our current plan we would have the majority of our money tied up in retirement accounts and not much in liquid or taxable investment accounts.

I made certain assumptions such as me maxing out my 401k contributions for the tax benefits, continuing our respective IRA contributions, and continuing max contribution to my HSA but this leaves us with the bulk of our money in these accounts.  Should I shift more into taxable investing and miss out on the tax savings?  Should we rely on the 72(t) rule (a subject that I have researched very little thus far)?  Should we count on withdrawing principal from our Roth's?
As of right now our only passive income would be from rental property, but that is only part of the income equation once we are retired.  Also, DH and I have a significant age difference so eligibility time horizons are quite different for both of us.

What is your plan for splitting between taxable and tax-advantaged accounts?

JohnGalt

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Re: Taxable vs. Tax-advantaged accounts...how to split?
« Reply #1 on: July 30, 2012, 01:08:10 PM »
I put everything I can into tax advantaged accounts as I plan on being a much lower tax bracket upon retiring.  The plan to access retirement account funds is to convert what I expect to need to withdraw from 401k/IRA funds to Roth IRA 5 years before needing to hit those funds.  So, if I need to withdraw $10,000 / yr from my IRA, each year I'll convert $10,000, pay the taxes on them, and be able to withdraw them 5 years down the line, penalty and tax free.  The only part to really worry about then becomes the first 5 years - but that will easily be covered by taxable accounts and current roth contributions that can be withdrawn at any time, tax and penalty free. 

grantmeaname

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Re: Taxable vs. Tax-advantaged accounts...how to split?
« Reply #2 on: July 30, 2012, 01:10:35 PM »
Rule 72(t) allows you to take substantially equal periodic payments from your account based on a rate called the applicable federal mid-term rate (in fact, at a rate equal to 120% of that rate). After you start the payments, you can't stop them or modify them for 5 years or until you're 59.5, whichever comes later. That rate is affected by the same economic forces that allow 3% mortgages and keep savings accounts and CDs paying .2% interest. Right now, the 120%AFR is a peensy 1.06%, so you need absolutely incredible sums of money to support even a modest lifestyle (try this calculator: $800k in the account yields a pair of 45-year-olds $20k-25k/year). In summary, Rule 72(t) and SEPPs aren't going to be a feasible way to get money out of the account for a while yet.

What you can do is roll money from traditional 401(k)s and IRAs into Roth IRAs. You have to pay income tax on any money converted that way, but then after it sits in the account for five years you can withdraw any portion of the money that was principal (not earnings) without penalty or tax. The year you retired, you could roll over enough money to survive your sixth year of requirement; the next year, the seventh, and so on. Then, all you'd need to do is figure out how to survive the first five years of your retirement. (You could use money already in your Roth IRA, money in brokerage accounts, consulting income, or real estate proceeds, for example.) That method seems to be a bit more practical, as well as very tax-efficient.

AnnaD

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Re: Taxable vs. Tax-advantaged accounts...how to split?
« Reply #3 on: July 30, 2012, 02:23:49 PM »
Aha!
Thank you both.
I think we can handle the 1st five years plus we'll have some other types of income to support us such as the rental income, various contract type jobs, etc.
I'm going to modify my spreadsheet based on this.

Thanks again :)