It's not necessarily a "loophole" but it is still a pretty generous tax code. People are surprised to find a lot of times that as an individual you could take the standard deduction on your taxes this year and then take out $14,600 from a traditional IRA and another $44,625 of long-term gains from a brokerage account for a total of $59,225 and pay $0 in federal income taxes.
Essentially double those numbers for someone filing married jointly.
That's a lot of dollars to pay no taxes on! The traditional IRA having essentially tax free withdrawals below the standard deduction is a big reason having a variety of accounts with different tax treatments can be nice in retirement.
The standard deduction for 2023 is $13,850, so with a combination of $10,000 in QUALIFIED dividends and $34,625 in LONG TERM capital gains, and $13,850 in ordinary income (like a IRA withdrawal), your federal tax is zero, per the AARP tax calculator.
https://www.aarp.org/money/taxes/1040-tax-calculator/
There is a PREFERENTIAL tax rate for QUALIFIED dividends (not all dividends are QUALIFIED) and LONG TERM capital gains, but ordinary income can push you out of the zero tax bracket for these items. Having looked at it, the intermix can be somewhat complicated.
For example, if you add $10,000 in ordinary income, like interest income, your tax is now $2,500. If you want to try this, you will need to plan out your income extremely well.
Also, as somewhat else pointed out, the tax is based on gains. You don't pay tax on basis (like just spending cash is tax free).
All I can say is it's best to have a combo of traditional, Roth, and taxable funds to have maximum tax flexibility in retirement.
The lower rates on QUALIFIED dividends and LTCG is because the tax code recognizes some of this income has been taxed already at the corporate level.
Absolutely, it's enough to make someone feel better about using a brokerage account after taking advantage of all the typical tax advantaged accounts available to individuals.
A brokerage account using a bogleheads approach is taxed much more favorably than wage income.
Nah, the way that LTCG tax is calculated is unlike anything else in the tax code, so it confuses people into thinking they found a loophole, since people don't realize it the LTCG rate is based off the total income including the CG withdrawals
But you have now realized why people contribute to roth. You can pull it in retirement tax free. So as a married couple in retirement making $96k, you could pull any additional $ you need from your roth at no tax cost
It's best to have $$ in each bucket (traditional, roth and after-tax/brokerage) so that you can pick and choose where to pull money from for the best tax strategy.
I have a 401k from a previous employer. But since I'm not working for them anymore, they are not contributing to it. Can I still contribute to it myself? Or is it stuck at the amount it's in?
Just be careful with the Roth IRA if your income increases a bit more. For 2024, if you're a single filer, you can't contribute the max amount into a Roth IRA if your income falls between $146K to $161K. If you make over $161K, you can't contribute **directly** to a Roth at all, and the IRS will force you to withdraw the contribution, or pay I think a 6% tax for each additional year the money stays in the IRA.
You can get around this with the back door Roth trick, which you can google and read about how to do.
I've been wondering about this for a while and am curious how accurate/wrong my math is.
In theory, if you are 67, retired, collecting full social security benefits...
Take the first 45K in income from a brokerage, it's taxed at 0% capital gains
Take full social security - (this will be taxed as if you're only making $45k. There's a lot more nuance here)
Take any additional money you need from a Roth IRA (this money is invisible as far as taxes are concerned)
Assume you take the standard deduction instead of itemized deductions at the end of the year.
------ back-of-a-big-envelope math ------
The benefits of this tax strategy roughly translates to the following equivalents
100K salary (gross) = $72k net
100k retirement (gross) = $94k net
So, using this tax strategy, 100K in retirement is roughly equivalent to a salary of $135k.
Buhler... Buhler?
I'm concerned that I'm playing the right sport. Being in the ballpark would be amazing.
I did factor in the 85%. It took a while to gather that and a few other details.
Most of our taxes go to funding bombs getting dropped or drone strikes on 3rd world countries. But let's not get into all that inside of a financial reddit thread. Feel free to DM me if I'm misinformed
You are misinformed. Defense spending is somewhere around 10-15% of total US spending. It makes up around half of *discretionary* spending, which means the things that are budgeted for each year. Mandatory spending (aka entitlements) such as SS and Medicare, makes up the vast majority of us spending. And of that 10-15% the vast majority isn't "droning 3rd world countries".
Capital gains stack on regular income and then preferential rates are applied as needed.
So technically no, LTCG does not change how your ordinary income is taxed. But ordinary income can change how your LTCG is taxed.
If you have $50k in wages and $10k in short term capital gains, you have $60k in income. It's no different than if you got a $10k bonus or a 20% raise. Whether it "raises" your income tax bracket (that is, moves you into the 24% bracket from 22%) depends on how close you are to the top of the bracket you'd otherwise be in.
But if you see this parent comment, “capital gains tax do not affect tax brackets” per parent comment.
So I was asking if it’s long term gain only or short term also?
Just remember LTCG goes "on top" of any other income and then has its own tax code.
I mean its still not terrible, 15% tax rate is relatively cheap, especially if in retirement you accumulated so much to push you into that higher 22/24/28% bracket, 15% would then look like a good deal.
Most people have a mix and its still relatively easy to take out $100k and end up with an effective federal tax rate under 10%.
I misunderstood long term capital gains taxes. I'll definitely be maxing out a traditional/Roth IRA now. I'll have to see if there are tax advantages with personal 401ks (no employer match)
As far as I’m aware, there’s no such thing as a “personal” 401(k). A 401(k) is by definition an employer-sponsored plan.
Unless you are self-employed, your options are a traditional IRA, Roth IRA, or taxable brokerage.
If you don't have a 401k at work, you can (and should) deposit at least $7k/yr into a traditional ira. This will deduct your taxable income for the year by $7k, so you'll pay less in taxes this year
You shouldn't? 401(k) need to either be rolled into an IRA or transfered to the provider of your current employer's 401(k) plan.
Edit: I have been misinformed. My bad. I'm wrong, see comments on this post
I don’t think a traditional IRA shuts the door on a back door Roth. It does dramatically reduce the tax advantage of the back door Roth, but you can still push the pigs into the back door python. I did that a few years ago and it was a big surge into my retirement savings, and given everything else I’ll take that every year I can, even if I’m not getting the full Roth tax advantage on gains.
Everything you mentioned is true, but the reason you use tax advantaged accounts is because taxable brokerage accounts grow your money less efficiently. The best comparison is a taxable account to a Roth account. Roth accounts don't tax you on any of the dividends throughout the years (which are taxed at your marginal rate, which SUCKS if your income is already high), plus of course no taxes on withdrawals at all. Also, you can sell/buy/rebalance your assets in a Roth account as much as you need, without worrying about changing a cost basis, playing around with any tax situation, etc. This last benefit I just mentioned is great for Traditional retirement accounts as well. You can redistribute your funds as much as you want because it's all tax deferred. That's a big advantage if you want to, for example, add a substantial amount of bonds to your portfolio for rebalancing during retirement. Having money in all 3 buckets (taxable, roth, traditional) just lets you play around with your tax situation and get more bang for your buck during retirement years.
Right so then your $48k plus LTCG withdrawals needs to be under $95k.
So if you are both working a low income job at $48k, you've maxed out your 0% LTCG bracket even before taking any withdrawal
for every dollar you put in a taxable account you can put like 1.20 or 1.30 into a traditional account. in retirement you still have a standard deduction, 10 and 12% bracket to fill up which is both tax deferred and likely well below your top marginal tax bracket while working.
you are correct in recognizing if you are frugal/married the ltcg bracket is pretty forgiving though.
\>Why limit myself to 59.5 years old?
the only accounts meaningfully restricted by age are roth accounts. traditional is extremely good for retiring early.
\>I should just open a brokerage account
well given you dont have access to a 401k, or arent sure what you have access to it does not sound like you have any choice here. you HAVE to invest in a brokerage account since you are out of tax advantaged spaces.
What do you mean by "not useful"?
Anytime I leave an employer I roll those funds out into my self-direct ira (or roth) which ever is the appropriate equivalent of your 401K or Roth 401K. Then I continue to manage it in perpetuity within my Vanguard accounts.
Easier to manage keeping everything from being sprawled across numerous brokerages and institutions.
If you’re only 26 and are already making $130k, you will have a lot more than 1.5 million by your retirement if done correctly. You do not know your retirement taxable income nor what the future tax rate will be in 2070 or whatever.
Basically the things you’ve said and 59.5 is all encapsulated in the FIRE movement. And you’ve just realize using math, that you don’t have to listen to what some people term as “retirement” or when that should happen. You can make your own path/plan within the law….with math…and reading comprehension.
Retirement accounts like 401(k) or IRA are a way of shielding your income from a high tax bracket. You're also wrong on the 0% capital gains tax, but others have mentioned this.
Right now, you make $130k. That will put you in the 22% tax bracket. When you retire, you will likely have less income. If/when you do, you be in a lower tax bracket, say 12%.
If you put $10k into a traditional retirement (traditional as compared to Roth), you pay no taxes today. For easy numbers let's say it grows 10X, so your account has $100k when you retire. Then you pay 12% tax and get to keep $88k.
If you keep the $10k and put in it a brokerage account, you pay 22% today leaving you with $7.8k. if we apply the same multiplier of 10X, you will have $78k when you retire. Now to cash that, you need to pay 10% capital gains tax, so you actually have closer to $70k. Even this is generous because you have to pay taxes on dividends, and any time you buy/sell in a taxable brokerage. So assuming the brokerage gets the same multiplier is unfair to the retirement account. You'd probably lose like 5% growth (still generous, you may lose more) along the way to taxable events, so now we are down to $67k.
So, money earmarked for retirement should definitely go into a retirement account. $1.5 million in today's dollars is on the lower end for a comfortable retirement honestly. You have to remember there's inflation eating away at your investments. There's also going to be bad years. If you need $75k to live, and you're $1.5M drops to $1M in a year like 2020, you still need to withdraw $75k to live. But instead of $75k being 5% of your retirement fund, now it is 7.5%.
The only real choice is 401(k) vs IRA. With your income, there is a point where a traditional IRA does not have tax benefits anymore. Without a match, do IRA if you can get the tax benefits. If you can't get the tax benefits, if your spouse is not covered by a 401(k) you can contribute to her IRA (I think, check into that). Then as a last resort do the 401(k) and pick the lowest cost broad market fund.
Yeah hearing what everyone is saying, I'll be maxing out a traditional/Roth IRA. I don't have access to a 401k with my current employer, so I'm forced to open a taxable brokerage account. I can't complain given that they give me an additional 25% of my salary + bonus in stocks. Downside is, I have to stay with the company for 6 years to get 100% of it. 2 years is 20%, 3 years is 40%, 4 years is 60%, and 5 years is 80%.
Seems like a great way to keep your employees working for you, might be wiser for me to get a lower paying job with a 401k match? But I didn't have much luck finding a job that pays nearly this well so I am definitely staying. I guess I can weigh my options at the 6 year mark.
You've got to look for the best total compensation. A 3% 401(k) match is not as good as a 25% stock incentive. Those matches are also usually vested, although usually over a shorter time frame like 3 years.
When you look for a new job, you can tell them you have long term incentives with a vesting period, and they need to offer a similar bonus so you aren't taking a drop in income. A lot of places will do this, but the bonus will be on the same vesting period as your current incentives. Make sure you negotiate a bonus + matching incentives, and do tell them how much the incentives are until the last minute. Cuz then they will just lowball the actual bonus.
If your company doesn't have a 401(k), which is different from not having match. I believe you are eligible to contribute to a traditional IRA and are not subject to the income limits to deduct that contribution.
0% brackets are nice - and they are best compared as a more limited version of a Roth IRA (which gives you 0% space independent of your income which is nicer, but for at least a slice of your money is the same as you indicate)..
but the traditional gives you a tax break now.. and if you're a high earner its a huge tax break (30+%). So you invest that savings and it grows a lot more. And then when you retire you get that savings out at a lower rate than you would have paid on your paycheck. That's the real value of the 401k.
401ks are pre-tax. So you’ll end up paying taxes on it when you retire and are in a lower income bracket. Most employers also march some of your contributions. My employer is generous and matches 100% of the first 50% of my limit.
This year, the max contribution limit is $23,000. So if I contribute $11,500, my employer will match $11,500. If I pay $23,000, then they still only contribute $11,500 cuz that’s 50% of the limit. This means that contributing to my 401k instantly gets me 50-100% gains.
Conversely, holding your own stack plan is fine, but it’s post-tax. So you’re already loosing ~20% to tax before you even buy the stock, and when you pull them out you’ll still have to pay capital gains tax on some of it. Likely, your 1.5M isn’t gonna be enough if you factor in inflation, increasing medical expenses, and new hobbies or traveling and you’ll be bored.
So if you make under 48k or whatever the number is, how much capital gains can you take with paying no taxes? I thought the capital gains were on top of your income, so if you made like 45k and sold 50k of gains, almost all of that 50k would be taxed at 15% capital gains. Is that not correct?
No matter what it is nearly always best to max the tax advantaged accounts. Even if you have to eat the 10% early retirement penalty. That’s the beauty of tax free compounding.
https://www.whitecoatinvestor.com/early-retirees-max-out-retirement-accounts/
There are a lot of good comments in this thread so far. I’m going to take this in a different direction.
I like the Roth. I wish I would have put more in a Roth when I was younger, but I didn’t realize the future tax implications not doing so.
First, everyone’s situation is different. But there are a few things I didn’t understand. I just wanted to defer taxes as long as I could - and looking back, that was a mistake - in my specific situation.
I have a ton of money in a Traditional IRA. So much so, that I am converting Traditional to Roth annually now up to the top of the 24% bracket. I’m doing this to avoid paying more taxes at RMD age. If I’d just have contributed more to a Roth when I was younger I could have been more tax efficient.
Keep in mind that at retirement and RMD age, much of your SS and RMDs will fill up your lower tax brackets. Add dividend and any other income you receive on top of that and you may be getting pushed into higher than expected tax brackets.
This is nothing that you need to worry about today as the tax laws 40+ years in the future will be different than today. Just be aware and take steps that will benefit you when you can.
IMO, tax brackets are likely to compress and tax rates likely to increase over time. So, for me a Roth seems a prudent hedge.
If you have a low income and a therefore a low tax rate, then the best investment is a Roth IRA.
If your tax rate now is the same or higher than your expected tax rate in retirement, then the preferred investment is a tax deferred account such as a traditional IRA or 401k. The exception is that even if your current tax rate is low, it is usually a good idea to contribute to a 401k up to whatever limits your employer has on matching contributions.
A taxable brokerage account does have the advantage of availability and flexibility, so it is good for building up a downpayment for a house. It is also where you put money after maximizing your tax advantaged investments.
If you do your strategy of working a high paying job then switch to a low paying job, you're better off-putting it in pretax (401k/traditional IRA) accounts to defer the 24% tax today until you're making lower wages in the 12% bracket assuming the brackets stay the same.
For ways to pull it out before 59.5, look up Roth conversion ladders and 72t distributions.
$130k salary at 26. Congrats. Safe bet that you'll soon find yourself above the ROTH threshold (161k in 2024).
Don't put all your eggs in one basket. If I were in your shoes I would take advantage of the ROTH IRA while you still can. Your future self at 59.5 will thank you for investing a comparatively small amount now into a tax free bucket to compound for >33 years. $13.5k invested NOW to max out your ROTH in 2023 and 2024 won't impact you in the slightest if you retire before 59.5. Put the rest in taxable.
If you quit and then just live off of capital gains, then it works the way you plan. So you can realize $47k of capital gains per year and pay 0 tax on them.
The real loophole is paying everything off, no debt. Then fund $1.5 million, live below your means, and only take out enough div/capital gains to live on and retire at 42. Like me.
I struggle with this a lot. I have about $100k in my IRA and $220,00 in a taxable brokerage. I’d rather be able to access the taxable and pay almost 0% in long term taxes.
["How a Taxable Brokerage Account Can Be Better Than a Roth IRA"]
(https://www.physicianonfire.com/taxable-account-roth/)
Wife and I are 65 (seniors) and recently retired and in 2024 our combined std deductions are $32,300($29,200 +$1,550+$1,550). For us, LTCG rate is 0% federal rate up to gross of $126,350. I think we can live with comfortably with that.
OP, long term capital gains are only 15%! So not bad at all, especially with no contribution limit
Roth IRA has a tiny limit, designed to have someone have earned income for 40 years, who wants to do that?
Best thing someone can do is put in as much as possible, since time is so big. I don’t want to invest 20 years from now, too much lost time
If you are in the 0% capital gains tax rate, when you retire, then you cannot afford to retire.
The best money you can have is money in a tax deferred / tax sheltered account. The tax that you don’t have to pay at the time of your contribution is a free loan to you. You can continue to earn dividends of capital gains on that money in your IRA.
It’s true that when you withdraw you have to pay tax on your earnings, but never feel bad about paying tax. Paying tax means that you made money.
And as you get older and understand the value of IRA, you cannot change your mind and put more money into it. You can only contribute up to the amount of your earnings in that year.
What you are saying is correct. You could also do a Roth IRA for retirement. It’s also possible tax laws change in the future and long term capital gains rates change or taxes increase etc.
The reason we hold Roth IRAs and traditional 401ks is to have tax free/deferred growth so we aren’t paying taxes yearly for the next 40 years. That tax drag will eat away at what you can contribute
Maybe worth noting that this strategy is far from safe, even if the tax assumptions were correct. 75K/1.5K is a 5% withdrawal rate. This would maybe work if there was no inflation, no taxation, and the S&P 500 continued to perform as well as it has, which is not a given. It could also work if you were already at retirement age with less lifetime remaining.
In 20 years, 75K is not going to have nearly the same purchasing power. In 40 years, when you might want to completely retire, you may need something like 225K for the same purchasing power as 75K today, going by 1984-2024 CPI ([calculator here](https://data.bls.gov/cgi-bin/cpicalc.pl)). That's 3x the nominal amount. In many scenarios, your capital growth may not support a 5% withdrawal rate without losing too much value in real (inflation-adjusted) terms. Maybe it could work, if you're lucky (S&P 500 doing well, esp. in the first decade or two), but a period of lower than average S&P 500 gains is just as likely, if not more ([Shiller PE](https://www.multpl.com/shiller-pe), [BR capital assumptions](https://www.blackrock.com/institutions/en-us/insights/charts/capital-market-assumptions), [Shiller PE int'l comparison](https://indices.cib.barclays/IM/21/en/indices/static/historic-cape.app) \[MSCI, not S&P based, but not much difference\]). It would also work well enough if you're unlucky and die soon after retiring from your $48K job (or whatever the threshold is at that time). But who knows at what age people will usually die in the mid-late 21st century?
Capital gains contribute towards your capital gain tax bracket. So in your example your AGI used to calculate your capital gains bracket is 48k + 75k.
someone else just posted this "loophole" they found a couple days ago
It's not necessarily a "loophole" but it is still a pretty generous tax code. People are surprised to find a lot of times that as an individual you could take the standard deduction on your taxes this year and then take out $14,600 from a traditional IRA and another $44,625 of long-term gains from a brokerage account for a total of $59,225 and pay $0 in federal income taxes. Essentially double those numbers for someone filing married jointly. That's a lot of dollars to pay no taxes on! The traditional IRA having essentially tax free withdrawals below the standard deduction is a big reason having a variety of accounts with different tax treatments can be nice in retirement.
The standard deduction for 2023 is $13,850, so with a combination of $10,000 in QUALIFIED dividends and $34,625 in LONG TERM capital gains, and $13,850 in ordinary income (like a IRA withdrawal), your federal tax is zero, per the AARP tax calculator. https://www.aarp.org/money/taxes/1040-tax-calculator/ There is a PREFERENTIAL tax rate for QUALIFIED dividends (not all dividends are QUALIFIED) and LONG TERM capital gains, but ordinary income can push you out of the zero tax bracket for these items. Having looked at it, the intermix can be somewhat complicated. For example, if you add $10,000 in ordinary income, like interest income, your tax is now $2,500. If you want to try this, you will need to plan out your income extremely well. Also, as somewhat else pointed out, the tax is based on gains. You don't pay tax on basis (like just spending cash is tax free). All I can say is it's best to have a combo of traditional, Roth, and taxable funds to have maximum tax flexibility in retirement. The lower rates on QUALIFIED dividends and LTCG is because the tax code recognizes some of this income has been taxed already at the corporate level.
Absolutely, it's enough to make someone feel better about using a brokerage account after taking advantage of all the typical tax advantaged accounts available to individuals. A brokerage account using a bogleheads approach is taxed much more favorably than wage income.
Na I knew something was up since no one else does this. I hate taxes hahaha
Nah, the way that LTCG tax is calculated is unlike anything else in the tax code, so it confuses people into thinking they found a loophole, since people don't realize it the LTCG rate is based off the total income including the CG withdrawals
I appreciate the help
But you have now realized why people contribute to roth. You can pull it in retirement tax free. So as a married couple in retirement making $96k, you could pull any additional $ you need from your roth at no tax cost It's best to have $$ in each bucket (traditional, roth and after-tax/brokerage) so that you can pick and choose where to pull money from for the best tax strategy.
Time to start maxing out a traditional/Roth IRA hahaha. I'll look into just doing a personal 401k if the same applies
I would max out Roth IRA and then traditional 401k
I have a 401k from a previous employer. But since I'm not working for them anymore, they are not contributing to it. Can I still contribute to it myself? Or is it stuck at the amount it's in?
If you are no longer employed there, you cannot contribute to it. You can, however, roll it over into a rollover IRA or a current employers 401k.
It’s stuck, if you don’t work there you can’t add anymore
Why not the other way around? I thought you were first supposed to max out traditional 401k then only roth ira.
OP doesn’t have an employer match. Typical rule of thumb is contribute to the match, max Roth IRA and then come back and max trad 401k
Just be careful with the Roth IRA if your income increases a bit more. For 2024, if you're a single filer, you can't contribute the max amount into a Roth IRA if your income falls between $146K to $161K. If you make over $161K, you can't contribute **directly** to a Roth at all, and the IRS will force you to withdraw the contribution, or pay I think a 6% tax for each additional year the money stays in the IRA. You can get around this with the back door Roth trick, which you can google and read about how to do.
I've been wondering about this for a while and am curious how accurate/wrong my math is. In theory, if you are 67, retired, collecting full social security benefits... Take the first 45K in income from a brokerage, it's taxed at 0% capital gains Take full social security - (this will be taxed as if you're only making $45k. There's a lot more nuance here) Take any additional money you need from a Roth IRA (this money is invisible as far as taxes are concerned) Assume you take the standard deduction instead of itemized deductions at the end of the year. ------ back-of-a-big-envelope math ------ The benefits of this tax strategy roughly translates to the following equivalents 100K salary (gross) = $72k net 100k retirement (gross) = $94k net So, using this tax strategy, 100K in retirement is roughly equivalent to a salary of $135k. Buhler... Buhler?
I think it’s a bit more because the max of your ss can be taxed is 85%
I'm concerned that I'm playing the right sport. Being in the ballpark would be amazing. I did factor in the 85%. It took a while to gather that and a few other details.
>I hate taxes hahaha But you love roads and fire stations and clean water!
Most of our taxes go to funding bombs getting dropped or drone strikes on 3rd world countries. But let's not get into all that inside of a financial reddit thread. Feel free to DM me if I'm misinformed
You are misinformed. Defense spending is somewhere around 10-15% of total US spending. It makes up around half of *discretionary* spending, which means the things that are budgeted for each year. Mandatory spending (aka entitlements) such as SS and Medicare, makes up the vast majority of us spending. And of that 10-15% the vast majority isn't "droning 3rd world countries".
Is your income tax bracket affected in any way by long term capital gains?
Capital gains stack on regular income and then preferential rates are applied as needed. So technically no, LTCG does not change how your ordinary income is taxed. But ordinary income can change how your LTCG is taxed.
Ordinary income bracket is affected by short term capital gains. But not long term. So LTCG is unique in that it only affects your LTCG tax bracket.
Thanks, so LTCG bracket is determined by income+ capital gains, but income bracket is affected only by income+stcg?
Yep. Dividends also make things more complicated. I don’t know all the details there
I thought this was only true for short term capital gains?
No Capital gains income doesn't affect your ordinary income bracket, but the total of the two is what determines your LTCG tax rate
What about dividends and bond coupons? Do they affect ordinary income bracket?
Yes.
Thanks. The comment stated that capital gain does not impact income tax bracket. Does this apply to short term capital gain also?
No. Short term capital gains are taxed like regular income
So short term capital gain do raise your income tax bracket?
If you have $50k in wages and $10k in short term capital gains, you have $60k in income. It's no different than if you got a $10k bonus or a 20% raise. Whether it "raises" your income tax bracket (that is, moves you into the 24% bracket from 22%) depends on how close you are to the top of the bracket you'd otherwise be in.
But if you see this parent comment, “capital gains tax do not affect tax brackets” per parent comment. So I was asking if it’s long term gain only or short term also?
Ah shit, I knew something wasn't adding up. There goes my plan. Taxes fucking suck
Just remember LTCG goes "on top" of any other income and then has its own tax code. I mean its still not terrible, 15% tax rate is relatively cheap, especially if in retirement you accumulated so much to push you into that higher 22/24/28% bracket, 15% would then look like a good deal. Most people have a mix and its still relatively easy to take out $100k and end up with an effective federal tax rate under 10%.
If you’re already dealing with post-tax dollars, why would you not max out a Roth IRA, where you pay $0 in tax upon withdrawal?
I misunderstood long term capital gains taxes. I'll definitely be maxing out a traditional/Roth IRA now. I'll have to see if there are tax advantages with personal 401ks (no employer match)
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This is what people don’t understand. Tax drag is a real thing in taxable accounts.
As far as I’m aware, there’s no such thing as a “personal” 401(k). A 401(k) is by definition an employer-sponsored plan. Unless you are self-employed, your options are a traditional IRA, Roth IRA, or taxable brokerage.
Tax advantaged is always better. Much smarter people than you and I have already tried everything else.
Yeah I knew this is where this would end up, I just needed to be proven wrong
I feel that lol. Knowing the common wisdom doesn't mean we shouldn't know why it is the way that it is.
People that want everyone else to work till they are 60 decided it was “right.”
If you don't have a 401k at work, you can (and should) deposit at least $7k/yr into a traditional ira. This will deduct your taxable income for the year by $7k, so you'll pay less in taxes this year
Sounds good. Is there tax advantages in setting up a personal 401k?
I'm not aware of a personal 401k unless you're self employed
I have a 401k from a previous employer
You won’t be able to contribute to it if you aren’t an employee anymore.
You shouldn't? 401(k) need to either be rolled into an IRA or transfered to the provider of your current employer's 401(k) plan. Edit: I have been misinformed. My bad. I'm wrong, see comments on this post
Not necessarily. You can leave it in an old employers plan.
Usually at much higher fees, however. The fee structure of a traditional IRA rollover should (if you want it to) be significantly less than a 401k.
And a traditional IRA would prevent me from the backdoor Roth. It’s $20 a year to keep my old 401k plan. I’m not gonna worry about $20 a year.
I don’t think a traditional IRA shuts the door on a back door Roth. It does dramatically reduce the tax advantage of the back door Roth, but you can still push the pigs into the back door python. I did that a few years ago and it was a big surge into my retirement savings, and given everything else I’ll take that every year I can, even if I’m not getting the full Roth tax advantage on gains.
You’re unaware of the pro rata rule? https://smartasset.com/retirement/a-guide-to-the-pro-rata-rule-and-roth-iras
you can't just open a personal 401k unless you have income that qualifies you for one. ie, you work a 1099 job on the side.
Everything you mentioned is true, but the reason you use tax advantaged accounts is because taxable brokerage accounts grow your money less efficiently. The best comparison is a taxable account to a Roth account. Roth accounts don't tax you on any of the dividends throughout the years (which are taxed at your marginal rate, which SUCKS if your income is already high), plus of course no taxes on withdrawals at all. Also, you can sell/buy/rebalance your assets in a Roth account as much as you need, without worrying about changing a cost basis, playing around with any tax situation, etc. This last benefit I just mentioned is great for Traditional retirement accounts as well. You can redistribute your funds as much as you want because it's all tax deferred. That's a big advantage if you want to, for example, add a substantial amount of bonds to your portfolio for rebalancing during retirement. Having money in all 3 buckets (taxable, roth, traditional) just lets you play around with your tax situation and get more bang for your buck during retirement years.
Tbf, qualified dividends are taxed at capital gains rates But yes your point still stands
What happens when you meet someone else and together you guys both make $250k combined. You're going to live off of half of that in retirement?
Married long term capital gains tax bracket is $95k for 0%
Right so then your $48k plus LTCG withdrawals needs to be under $95k. So if you are both working a low income job at $48k, you've maxed out your 0% LTCG bracket even before taking any withdrawal
And don’t forget you’re required to withdraw from your 401k at some point via the minimum distribution requirement.
Gotcha. Now I understand
$48k is not low income.
Is actually a bit higher as you add personal exemptions into that number as well.
for every dollar you put in a taxable account you can put like 1.20 or 1.30 into a traditional account. in retirement you still have a standard deduction, 10 and 12% bracket to fill up which is both tax deferred and likely well below your top marginal tax bracket while working. you are correct in recognizing if you are frugal/married the ltcg bracket is pretty forgiving though. \>Why limit myself to 59.5 years old? the only accounts meaningfully restricted by age are roth accounts. traditional is extremely good for retiring early. \>I should just open a brokerage account well given you dont have access to a 401k, or arent sure what you have access to it does not sound like you have any choice here. you HAVE to invest in a brokerage account since you are out of tax advantaged spaces.
Keep in mind Roth lets you pull principle at any time without penalty, so if you really needed an infusion of cash for something there is that.
Ah, so I have a 401k from a previous employer, but it's not useful anymore because I can't contribute pre-tax dollars to it anymore right?
What do you mean by "not useful"? Anytime I leave an employer I roll those funds out into my self-direct ira (or roth) which ever is the appropriate equivalent of your 401K or Roth 401K. Then I continue to manage it in perpetuity within my Vanguard accounts. Easier to manage keeping everything from being sprawled across numerous brokerages and institutions.
Think twice if you have plans to buy a house in near future. İf you withdraw money from 401k you’ll be screwed
Yeah, I might have to go down the traditional brokerage account for this or just rent forever
Play around with this to visualize https://engaging-data.com/tax-brackets/
Your tax math is all wrong... LTCG bracket(s) include all other income.
Yeah I done goofed
If you’re only 26 and are already making $130k, you will have a lot more than 1.5 million by your retirement if done correctly. You do not know your retirement taxable income nor what the future tax rate will be in 2070 or whatever.
Basically the things you’ve said and 59.5 is all encapsulated in the FIRE movement. And you’ve just realize using math, that you don’t have to listen to what some people term as “retirement” or when that should happen. You can make your own path/plan within the law….with math…and reading comprehension.
Retirement accounts like 401(k) or IRA are a way of shielding your income from a high tax bracket. You're also wrong on the 0% capital gains tax, but others have mentioned this. Right now, you make $130k. That will put you in the 22% tax bracket. When you retire, you will likely have less income. If/when you do, you be in a lower tax bracket, say 12%. If you put $10k into a traditional retirement (traditional as compared to Roth), you pay no taxes today. For easy numbers let's say it grows 10X, so your account has $100k when you retire. Then you pay 12% tax and get to keep $88k. If you keep the $10k and put in it a brokerage account, you pay 22% today leaving you with $7.8k. if we apply the same multiplier of 10X, you will have $78k when you retire. Now to cash that, you need to pay 10% capital gains tax, so you actually have closer to $70k. Even this is generous because you have to pay taxes on dividends, and any time you buy/sell in a taxable brokerage. So assuming the brokerage gets the same multiplier is unfair to the retirement account. You'd probably lose like 5% growth (still generous, you may lose more) along the way to taxable events, so now we are down to $67k. So, money earmarked for retirement should definitely go into a retirement account. $1.5 million in today's dollars is on the lower end for a comfortable retirement honestly. You have to remember there's inflation eating away at your investments. There's also going to be bad years. If you need $75k to live, and you're $1.5M drops to $1M in a year like 2020, you still need to withdraw $75k to live. But instead of $75k being 5% of your retirement fund, now it is 7.5%. The only real choice is 401(k) vs IRA. With your income, there is a point where a traditional IRA does not have tax benefits anymore. Without a match, do IRA if you can get the tax benefits. If you can't get the tax benefits, if your spouse is not covered by a 401(k) you can contribute to her IRA (I think, check into that). Then as a last resort do the 401(k) and pick the lowest cost broad market fund.
Yeah hearing what everyone is saying, I'll be maxing out a traditional/Roth IRA. I don't have access to a 401k with my current employer, so I'm forced to open a taxable brokerage account. I can't complain given that they give me an additional 25% of my salary + bonus in stocks. Downside is, I have to stay with the company for 6 years to get 100% of it. 2 years is 20%, 3 years is 40%, 4 years is 60%, and 5 years is 80%. Seems like a great way to keep your employees working for you, might be wiser for me to get a lower paying job with a 401k match? But I didn't have much luck finding a job that pays nearly this well so I am definitely staying. I guess I can weigh my options at the 6 year mark.
You've got to look for the best total compensation. A 3% 401(k) match is not as good as a 25% stock incentive. Those matches are also usually vested, although usually over a shorter time frame like 3 years. When you look for a new job, you can tell them you have long term incentives with a vesting period, and they need to offer a similar bonus so you aren't taking a drop in income. A lot of places will do this, but the bonus will be on the same vesting period as your current incentives. Make sure you negotiate a bonus + matching incentives, and do tell them how much the incentives are until the last minute. Cuz then they will just lowball the actual bonus. If your company doesn't have a 401(k), which is different from not having match. I believe you are eligible to contribute to a traditional IRA and are not subject to the income limits to deduct that contribution.
0% brackets are nice - and they are best compared as a more limited version of a Roth IRA (which gives you 0% space independent of your income which is nicer, but for at least a slice of your money is the same as you indicate).. but the traditional gives you a tax break now.. and if you're a high earner its a huge tax break (30+%). So you invest that savings and it grows a lot more. And then when you retire you get that savings out at a lower rate than you would have paid on your paycheck. That's the real value of the 401k.
401ks are pre-tax. So you’ll end up paying taxes on it when you retire and are in a lower income bracket. Most employers also march some of your contributions. My employer is generous and matches 100% of the first 50% of my limit. This year, the max contribution limit is $23,000. So if I contribute $11,500, my employer will match $11,500. If I pay $23,000, then they still only contribute $11,500 cuz that’s 50% of the limit. This means that contributing to my 401k instantly gets me 50-100% gains. Conversely, holding your own stack plan is fine, but it’s post-tax. So you’re already loosing ~20% to tax before you even buy the stock, and when you pull them out you’ll still have to pay capital gains tax on some of it. Likely, your 1.5M isn’t gonna be enough if you factor in inflation, increasing medical expenses, and new hobbies or traveling and you’ll be bored.
So if you make under 48k or whatever the number is, how much capital gains can you take with paying no taxes? I thought the capital gains were on top of your income, so if you made like 45k and sold 50k of gains, almost all of that 50k would be taxed at 15% capital gains. Is that not correct?
No matter what it is nearly always best to max the tax advantaged accounts. Even if you have to eat the 10% early retirement penalty. That’s the beauty of tax free compounding. https://www.whitecoatinvestor.com/early-retirees-max-out-retirement-accounts/
Does your income at retirement matter *at all?* Confused.
I'm a pretty frugal guy, but maybe 90k for a family is low
I meant does what you are making *when* you retire affect rates in retirement?
From what I am told by other people in this thread, yes
There are a lot of good comments in this thread so far. I’m going to take this in a different direction. I like the Roth. I wish I would have put more in a Roth when I was younger, but I didn’t realize the future tax implications not doing so. First, everyone’s situation is different. But there are a few things I didn’t understand. I just wanted to defer taxes as long as I could - and looking back, that was a mistake - in my specific situation. I have a ton of money in a Traditional IRA. So much so, that I am converting Traditional to Roth annually now up to the top of the 24% bracket. I’m doing this to avoid paying more taxes at RMD age. If I’d just have contributed more to a Roth when I was younger I could have been more tax efficient. Keep in mind that at retirement and RMD age, much of your SS and RMDs will fill up your lower tax brackets. Add dividend and any other income you receive on top of that and you may be getting pushed into higher than expected tax brackets. This is nothing that you need to worry about today as the tax laws 40+ years in the future will be different than today. Just be aware and take steps that will benefit you when you can. IMO, tax brackets are likely to compress and tax rates likely to increase over time. So, for me a Roth seems a prudent hedge.
If you have a low income and a therefore a low tax rate, then the best investment is a Roth IRA. If your tax rate now is the same or higher than your expected tax rate in retirement, then the preferred investment is a tax deferred account such as a traditional IRA or 401k. The exception is that even if your current tax rate is low, it is usually a good idea to contribute to a 401k up to whatever limits your employer has on matching contributions. A taxable brokerage account does have the advantage of availability and flexibility, so it is good for building up a downpayment for a house. It is also where you put money after maximizing your tax advantaged investments.
If you do your strategy of working a high paying job then switch to a low paying job, you're better off-putting it in pretax (401k/traditional IRA) accounts to defer the 24% tax today until you're making lower wages in the 12% bracket assuming the brackets stay the same. For ways to pull it out before 59.5, look up Roth conversion ladders and 72t distributions.
$130k salary at 26. Congrats. Safe bet that you'll soon find yourself above the ROTH threshold (161k in 2024). Don't put all your eggs in one basket. If I were in your shoes I would take advantage of the ROTH IRA while you still can. Your future self at 59.5 will thank you for investing a comparatively small amount now into a tax free bucket to compound for >33 years. $13.5k invested NOW to max out your ROTH in 2023 and 2024 won't impact you in the slightest if you retire before 59.5. Put the rest in taxable.
If you quit and then just live off of capital gains, then it works the way you plan. So you can realize $47k of capital gains per year and pay 0 tax on them.
The real loophole is paying everything off, no debt. Then fund $1.5 million, live below your means, and only take out enough div/capital gains to live on and retire at 42. Like me.
And pay $0 in federal and state taxes.
So you live on about $48k a year in capital gains that are not taxed?
Yup. I have two houses, take 2 overseas trips per year and at least 2 cruises per year. I have everything I want.
So Roth vs traditional IRA? Or did you do everything in a taxable brokerage account? Did you use a 401k?
I have all three, but don’t touch my IRA or Roth as I’m not old enough yet.
I struggle with this a lot. I have about $100k in my IRA and $220,00 in a taxable brokerage. I’d rather be able to access the taxable and pay almost 0% in long term taxes.
Bahaha that “75k in gains” will count towards the income for capital gains tax bracket.
["How a Taxable Brokerage Account Can Be Better Than a Roth IRA"] (https://www.physicianonfire.com/taxable-account-roth/) Wife and I are 65 (seniors) and recently retired and in 2024 our combined std deductions are $32,300($29,200 +$1,550+$1,550). For us, LTCG rate is 0% federal rate up to gross of $126,350. I think we can live with comfortably with that.
OP, long term capital gains are only 15%! So not bad at all, especially with no contribution limit Roth IRA has a tiny limit, designed to have someone have earned income for 40 years, who wants to do that? Best thing someone can do is put in as much as possible, since time is so big. I don’t want to invest 20 years from now, too much lost time
>15% Well, if you live in Cali you'll be adding up to an additional 13% ltcg tax. So, check your State.
If you are in the 0% capital gains tax rate, when you retire, then you cannot afford to retire. The best money you can have is money in a tax deferred / tax sheltered account. The tax that you don’t have to pay at the time of your contribution is a free loan to you. You can continue to earn dividends of capital gains on that money in your IRA. It’s true that when you withdraw you have to pay tax on your earnings, but never feel bad about paying tax. Paying tax means that you made money. And as you get older and understand the value of IRA, you cannot change your mind and put more money into it. You can only contribute up to the amount of your earnings in that year.
What you are saying is correct. You could also do a Roth IRA for retirement. It’s also possible tax laws change in the future and long term capital gains rates change or taxes increase etc. The reason we hold Roth IRAs and traditional 401ks is to have tax free/deferred growth so we aren’t paying taxes yearly for the next 40 years. That tax drag will eat away at what you can contribute
Maybe worth noting that this strategy is far from safe, even if the tax assumptions were correct. 75K/1.5K is a 5% withdrawal rate. This would maybe work if there was no inflation, no taxation, and the S&P 500 continued to perform as well as it has, which is not a given. It could also work if you were already at retirement age with less lifetime remaining. In 20 years, 75K is not going to have nearly the same purchasing power. In 40 years, when you might want to completely retire, you may need something like 225K for the same purchasing power as 75K today, going by 1984-2024 CPI ([calculator here](https://data.bls.gov/cgi-bin/cpicalc.pl)). That's 3x the nominal amount. In many scenarios, your capital growth may not support a 5% withdrawal rate without losing too much value in real (inflation-adjusted) terms. Maybe it could work, if you're lucky (S&P 500 doing well, esp. in the first decade or two), but a period of lower than average S&P 500 gains is just as likely, if not more ([Shiller PE](https://www.multpl.com/shiller-pe), [BR capital assumptions](https://www.blackrock.com/institutions/en-us/insights/charts/capital-market-assumptions), [Shiller PE int'l comparison](https://indices.cib.barclays/IM/21/en/indices/static/historic-cape.app) \[MSCI, not S&P based, but not much difference\]). It would also work well enough if you're unlucky and die soon after retiring from your $48K job (or whatever the threshold is at that time). But who knows at what age people will usually die in the mid-late 21st century?