Early Retirement Austerity Year

[ochotona]

If you purposefully "lived small" during your first year of retirement, and stayed in the 15% tax bracket, you could realize all of your long term capital gains, and pay 0% Federal tax. Just as good as a Roth IRA.

In ten years, if I have large cap gains, I might use this tactic. The tax savings might even compensate for the income austerity for that year. So I'd be "living small" in the eyes of the IRS, but living normally otherwise, because the Federal government would be "subsidizing" me, from a certain point of view.

[WiseOne]

Neat idea.  And you wouldn't even have to "live small", just live off cash savings.  Several people here, though, are already in that bracket and I bet they "tax-gain harvest" every year - right dualstow??

For many people the bigger problem is likely the fat wad of money in tax-deferred accounts that has to eventually be claimed as ordinary income.  Delaying taking Social Security in order to get as much out as possible in the 15% bracket would definitely be worthwhile.  Having to pay 28% on it (plus state taxes) would suck.

[ochotona]

Looks like for 2016 the top of the 15% bracket for filing jointly is $75k taxable income. That gives frugal people some latitude. If you take your long term cap gains, convert to Roth but stay within the 15% bracket, and live off savings for a year... or, better, as long as you can but not beyond age 70 when you have to do RMDs (at 70.5) and Social Security at age 70... you will be doing yourself a big favor. 

[barrett]

Understanding RMDs and "tax-gain harvesting" are two of the best takeaways from this forum for me. Thank you ocho & WiseOne! For anyone who is close to 35 years of taxable earnings, I would also recommend spending a couple of hours digging into how your SS benefits are calculated. Here is a great starting place:

https://www.ssa.gov/cgi-bin/awiFactors.cgi

As of 2015 I am right at 35 years and understanding the indexing factors, AIME and bend points was a real eye opener for me. Plus, it's made me much more fascinating at social functions!

[Xan]

Time out, ocho...  I don't think that 0% rate works the way you think it does.

Let's say the threshold for 0% capital gains rate is $75,000 of income, and I do the austerity you're proposing and only "earned" $30,000.  I can't then realize ALL of my gains tax-free, only the first $40,000 of them.

[ochotona]

Time out, ocho...  I don't think that 0% rate works the way you think it does.

Let's say the threshold for 0% capital gains rate is $75,000 of income, and I do the austerity you're proposing and only "earned" $30,000.  I can't then realize ALL of my gains tax-free, only the first $40,000 of them.

I'm searching for a $ limit on a LT capital gain on Schedule D, and I'm not seeing it... please enlighten me.

[Xan]

Your capital gains are considered part of your income for purposes of determining your capital gains rate.  I tried this once (or at least ran it through the tax forms) and it didn't work out.

[Mark Leavy]

I concur with Xan.  I had the brilliant idea that I could keep all of my interest and dividend income low - and then live entirely by harvesting capital gains and never pay a cent in taxes.

It doesn't work that way.

[ochotona]

Your capital gains are considered part of your income for purposes of determining your capital gains rate.  I tried this once (or at least ran it through the tax forms) and it didn't work out.

OK, line 3 of Form 1040. But you could still harvest some LT gains at 0% tax rate. You could put a dent in your tax problem.

[Tyler]

Xan is right.  But $75k (for a couple) still leaves a lot of tax-free room to work with as an early retiree with low expenses.  Just don't realize all of your capital gains at once.

With expenses well below the $75k line and a PP that provides a lot of cash and tax-loss-harvesting opportunities, I'm in a good position to essentially pay no taxes most years.  Granted, that requires a sustainable frugal lifestyle rather than a single austerity year.  Interestingly, the larger challenge I have is not minimizing taxes, but realizing enough reportable income to qualify for ACA subsidies. 

[Fred]

Xan is right.  But $75k (for a couple) still leaves a lot of tax-free room to work with as an early retiree with low expenses.  Just don't realize all of your capital gains at once.

I've been hearing that $75k figure for taxable capital gains for the past few years so I'm starting to think that number isn't indexed for inflation. Anybody know if that is true?

[Xan]

Fred, that number is the top end of the 15% tax bracket.  It does change a bit from year to year.  I don't know whether that's automatic (based on inflation) or not.  But $75K isn't a magic number; it's just that there are no capital gains taxes if you're in the 15% tax bracket or lower.

[ochotona]

What's inflation?

[Fred]

Fred, that number is the top end of the 15% tax bracket.  It does change a bit from year to year.  I don't know whether that's automatic (based on inflation) or not.  But $75K isn't a magic number; it's just that there are no capital gains taxes if you're in the 15% tax bracket or lower.

That's good to know. I was thinking it might be like the non-indexed figure for SS taxable income.

I do believe the tax brackets are adjusted for inflation every year, though they weren't always.

[Libertarian666]

Fred, that number is the top end of the 15% tax bracket.  It does change a bit from year to year.  I don't know whether that's automatic (based on inflation) or not.  But $75K isn't a magic number; it's just that there are no capital gains taxes if you're in the 15% tax bracket or lower.

That's good to know. I was thinking it might be like the non-indexed figure for SS taxable income.

I do believe the tax brackets are adjusted for inflation every year, though they weren't always.

Yes, they are automatically adjusted for official inflation. The relationship that may have to actual inflation is another matter, of course...