Author Topic: Confused about GCC's never pay tax/roth sucks articles (tax planning)  (Read 2115 times)

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I posted this on MMM (being that I didn't know GCC had a forum until this morning...) but it was a question based on GCC's articles so I'll post question here in hopes that he might answer question.

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About myself: Fed employee, plan to work until I hit FIRE on my terms, won't be for another decade. Would have small deferred pension say $10,000/year, no clue what my high three would be so using current salary, but the amount is beside the point outside of having a small pension at 60.

I'm planning to do a roth TSP because from what I have read, between RMD, social security and pension; the roth route seems to be better? I realize that pension and social security would be lower due to shorter working career but if they total around $20,000/year, it already puts me into the next tax bracket so I wouldnt have the option of the 0% tax strategy that seems to be favored on FIRE blogs.

I know I could delay social security to 70, but hopefully I would have $1 million between taxable/tsp by then or my entire FIRE plan is out the window so lets say I have that much at 60 with it being evenly split between taxable/tsp. So between 60 to 70, I would have to drain $500,000 as much as I can to avoid RMD and social security at 70 but still have a pension income. How can someone do this without a large tax hit?

If I FIRE at 50 to give myself an additional decade to drain TSP, I would still have to do it at 4% swr rate and to keep taxes low, I still couldn't do a large conversion ladder each year, meaning I might have to work a few months a year to make up difference (may not have enough at 50 for a full FIRE)

So my current plan is to do a roth TSP and if I FIRE at 50, I can pull out $18,000/year from the roth TSP without any ladder since it would be considered contributions from the past years of working. This made sense in my mind because if the TSP at 4% was $18,000 anyways, I would rather take it tax free instead of a conversion ladder from traditional tap for the same $18,000 and pay taxes on it. this lets me use the other half in taxable account for long term capital gains.

Sorry for a long winded question, is there a better way to get $40,000/year as a single person at a lower tax bracket? A lot of the FIRE bloggers writing about minimizing taxes are based off deductions for a couple. If $18,000 of it were tax free from roth tsp, that would be my nonexistent "spouse's" portion, if I later marry, I will have even more play room. None of the FIRE articles I found take into account a pension, small as it might be, but it would still put me into the next tax bracket.

PS: I know roth tsp has RMD at 70 as well, but it would be tax free so I am not too concerned about it for tax planning, at least it would be less than a straight traditional tsp.

PPS: Assume I can't fire earlier than 50, what would be the best way to get my $40,000 if my egg was split evenly between tsp/taxable while avoiding a large tax penalty when social security/pension/rmd hits.
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My two options:
Traditional TSP
20% tax while working > FIRE for 20 years and pay 0% tax until age 70, go back to paying 20% when rmd/ss/pension kick in

Roth TSP
25% tax while working > FIRE and pay 0% tax to age 70 > 15% tax accounting for pension and rmd/ss

is saving 5-10% on taxes while working worth it if someone is planning to FIRE and only work half of a normal career length? It is kind of like taking a 30 year mortgage with a higher interest rate, but paying off the house in 15 years. The small interest rate savings from a 15 year mortgage isn't worth the flexibility of  30 year mortgage and paying it off early.

The tax savings from a traditional vs roth is the same way right? Because people aiming for FIRE have fewer tax paying years, does saving 5-10% now negate the retirement years where you spend more time in than you did during the working years?

the GoCurryCracker article I found saying why Roth sucks... did not seem to account for fewer working years, is this important to factor in? I can see why roth sucks if someone worked 30-40 years because it adds up, but given FIRE, does it still play as big of a difference? His last dollar in and first dollar out argument didn't work for me because RMD/SS/pension is first dollar in retirement.
https://www.gocurrycracker.com/roth-sucks/

Those two quotes are from my MMM post. But my question to GCC that I had asked in the second quote. Did he account for the shorter working career when he said traditional 401k/ira is better? My thinking was that if I stayed in the same tax bracket, the same tax amount would be paid, now or later. The reason traditional 401k works better is a combination of being able to lower tax rate to 0% using long term gains. But what if this second part doesn't hold true? If a pension/RMD/social security would push tax rate back up to the same as during your working years, does his advice that roth accounts suck hold true?

I would rather pay 25% taxes for the 20 years I am working, than pay a little less now but have to pay taxes for a lot longer 30+ years retirement. Is the trade off worth it for the "quick" savings now if you have to keep paying taxes after 70? Part of my confusion is does the last dollar in and first dollar out for traditional 401k hold true if pension/ss/rmd are "first" dollar? Because then the 401k dollar becomes "second" out by my reasoning.
« Last Edit: November 22, 2018, 07:15:08 AM by eyem »

gocurrycracker

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Re: Confused about GCC's never pay tax/roth sucks articles (tax planning)
« Reply #1 on: November 23, 2018, 03:18:02 AM »
Welcome. I'm sure you will get great input on the MMM forum.

It doesn't matter how many years you work or how many years you pay tax. What matters is the rate you pay. Paying tax at 10% for 100 years is better than paying tax at 25% for one.

For single filers you can just divide by 2 in all examples.

In the Roth controversy post you linked, there is a section that specifically addresses pension and SS.


You don't save 5-10% on contributions, you save at your marginal rate. Assuming 22% you save ~$4k on an $18k contribution. Put that $4k in a Roth IRA if you like.

During the years when you pull $18k out pre-pension pre-SS you pay $600. During the years with pension pre-RMD you pay ~$2k.
(Federal only)
« Last Edit: November 23, 2018, 03:55:58 AM by gocurrycracker »

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Re: Confused about GCC's never pay tax/roth sucks articles (tax planning)
« Reply #2 on: November 23, 2018, 06:35:25 AM »
Thanks for the reply,

your recent articles "Is your 401k too big", I interpreted the chart from to mean if my account is $1.25million at age 70, my RMD would be taxed at 22%. (Using half the value because I am a single filer, not MFJ)
https://www.gocurrycracker.com/is-your-401k-too-big-part-2/

In the part one of the series, you mentioned I could account for additional income (pension) by comparing it to the standard deduction and reducing the IRA by that much.
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The math is deliciously simple in this regard, and we can just reference the Standard Deduction. Earn income equal to 1/4 of the Standard Deduction? ($500 per month.) Reduce the target IRA sizes by 1/4.
So a $10,000/year pension for a single deduction ($12,000, half of the MFJ). It is near 100%... if I were to reduce my account by that much, it would be nearly half in value.  Going back above, so I would have to keep value below $625,000 in order to stay below the 22% tax bracket. I got $625,000 by using half of $1.25M (for single person).

I mentioned I would have $500,000 in IRA somewhere between age 50-60. In my mind, it is very likely that this value would grow to be at least $625,000 by age 70 which would put me into the 22% tax bracket. This is before I even account for taking social security at age 70. I would still have my other half in taxable account kicking out income too.

My views/thoughts was if I would be in the 22% tax bracket after age 70, does it matter if I did roth today at the 25% tax bracket. This was where I got the 5-10% tax savings that you said I did incorrectly. I forgot taxes were marginal.

Using your numbers from the post above
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During the years when you pull $18k out pre-pension pre-SS you pay $600. During the years with pension pre-RMD you pay ~$2k.
If I FIRE at age 50, I would pay $600 for 10 years to age 60, then $2000 for 10 years until age 70. Then after age 70, I would be back at 22% marginal tax rate and be paying $4000/year until I die.

When I mentioned I would have fewer working years than retired years, I was thinking along the lines that if I went with a roth tsp. I would pay a total tax of $80,000 ($4,000/year for 20 years worked). If I went with a traditional account, I could save that $80,000 now, but from age 50 to age 70, I would pay $26,000. If after RMD, and paying $4000/year (22% marginal tax), it would take 13.5 years to pay off the remaining $54,000 of the total tax I saved. So my "break even" point would be age 83.5. So am I betting against the taxman that if I die before 83.5, a traditional TSP would be better? And if I live longer than 83.5, than a roth would be better?

I understand that by using the traditional TSP, I can "save" $4000 to invest, and I lose that opportunity cost by going with the roth TSP. But your article "Is your 401k too big" seems to suggest that I could "afford" the lost opportunity cost of those $4000 because my TSP would already be too big. Your part 3 (not out yet), but I would imagine you would say something like, what to do with the excess money? So why not let me put money into a roth TSP now and avoid this problem from the start?

Or to confuse me even more, I can put money into the TSP pre and post tax money, so 50%/50%, or any combination. The TSP matching of 5% is pre-tax (traditional tsp), and if I said it took 10 years for the portfolio to double in value (it's a good guess from other financial posts on interest rate returns I've seen). So after 20 years of matching, I would have around $200,000 in pre-tax money, in addition to however I put my money pre/post tax or combination.

I think you said not to let the tax tail shake my portfolio dog. I think I got lost in all the number crunching, because I was under the assumption that the pension/social security/rmd would be the car that runs over my dog, tax tail and all. So my thought process was to do a roth account now so the dog would be on the side of the road when the car comes by.

How much of the tax issues have I misunderstood? I want to get this sorted out in my head before I continue too far down the road. I got the "savings" rate part down from MMM. I can save 50% of my income, but I've been ignoring all the future tax planning issues thinking I can do that once I have enough money to worry about it. But then I changed my mind and decided it is better to start now with the tax planning.

if it matters, I have been maxing out a HSA and roth IRA, and putting money into a taxable account as well. It is mostly the TSP that is causing me problems. the roth IRA is post tax by nature, the HSA is pretax and taxable is post tax too, I didn't have to think about those. the investments are pretty much all the same, mirroring a total stock index
« Last Edit: November 23, 2018, 06:52:33 AM by Left »

gocurrycracker

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Re: Confused about GCC's never pay tax/roth sucks articles (tax planning)
« Reply #3 on: November 24, 2018, 07:02:17 AM »
How much of the tax issues have I misunderstood?
Unfortunately I think much of it, sorry.

Again
It doesn't matter how many years you work or how many years you pay tax. What matters is the rate you pay. Paying tax at 10% for 100 years is better than paying tax at 25% for one.
Think about what this means. It is at the heart of your question.

If I FIRE at age 50, I would pay $600 for 10 years to age 60, then $2000 for 10 years until age 70. Then after age 70, I would be back at 22% marginal tax rate and be paying $4000/year until I die.

This isn't how it works. Tax rates are progressive and marginal. You pay $0 on the first $12k, 10% on the next ~$10k, 12% on the next $30k, and then you start to pay 22% tax.

If pension and SS of $20k, then you still can withdraw another $30k at 12% before you are again taxed at 22%.