Is it worth realizing capital gains to front-load Roth contributions?

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BSA44
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Is it worth realizing capital gains to front-load Roth contributions?

Post by BSA44 »

As is often discussed on the forum, there is a benefit to front-loading Roth IRAs at the beginning of the year (i.e., contributing the limit on Jan 1), as it gives it more time to grow tax-free. In my case, my non-emergency fund money is currently tied up in a large non-tax advantaged brokerage account from a windfall ($600k+) that has significant capital gains.

Is it better to sell non-tax advantaged shares at the beginning of the year and realize taxable gains to front-load contributions to a Roth IRA (to allow more time for the money to grow tax-free) or to slowly fund a Roth IRA to the full amount as dividends and salary bonuses come out throughout the year (my retirement savings go straight into my and my wife's 401ks, so there isn't generally extra money coming from the salary to put to Roth IRAs)? In either case, the Roth IRAs will be fully funded by the end of the year, just in one case a cost is realized to be able to front-load the contributions.

If it is worth realizing the gains, what is the point when the trade-off no longer makes sense? For instance, capital gains that represent .01% of your sale are meaningless, but having capital gains that are much higher (e.g., if you've gone up 50% from your cost basis) would mean that it is probably worth waiting for dividends to fund the Roth IRA. The reason I ask for the trade-off point rather than one particular instance of my current capital gains situation, is that this is likely a decision that I will be making for many more years, and want to figure out how to do it going forward.

Thank you for your help!
sport
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Re: Is it worth realizing capital gains to front-load Roth contributions?

Post by sport »

I would not realize gains unnecessarily. After all, you could hurry to put the money in the IRA in January, and then the market could go down instead of up. The market is more likely to go up than down. However, this likelihood is a small difference.
livesoft
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Re: Is it worth realizing capital gains to front-load Roth contributions?

Post by livesoft »

I am not a fan of investing Roth contributions on the first possible day of the year. One reason for me is that it is rare for all stock markets to increase monotonically from the first day. In other words, one can usually invest later at a lower price. Folks might call this "market timing", but go look for yourself. Indeed, last year the Vanguard Total US Stock Market Index fund dropped 3% after the first day. It doesn't always work out like that though, but often enough.

I don't think it is worth paying taxes that you don't have to pay.

If you like, use your emergency fund to invest in your Roth at the beginning of the year, then replenish your emergency fund as you earn income.
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larmewar
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Re: Is it worth realizing capital gains to front-load Roth contributions?

Post by larmewar »

If you don't mind using the specified shares method for income taxes, you may have shares with specific losses or low/no gains shares that could be sold to front load the roth. If you do, remember the wash sale rules.

Lar
mcraepat9
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Re: Is it worth realizing capital gains to front-load Roth contributions?

Post by mcraepat9 »

livesoft wrote:I am not a fan of investing Roth contributions on the first possible day of the year. One reason for me is that it is rare for all stock markets to increase monotonically from the first day. In other words, one can usually invest later at a lower price. Folks might call this "market timing", but go look for yourself. Indeed, last year the Vanguard Total US Stock Market Index fund dropped 3% after the first day. It doesn't always work out like that though, but often enough.
livesoft, how do you determine the day you jump in when investing your Roth contribution?
Amateur investors are not cool-headed logicians.
livesoft
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Re: Is it worth realizing capital gains to front-load Roth contributions?

Post by livesoft »

mcraepat9 wrote:livesoft, how do you determine the day you jump in when investing your Roth contribution?
If I have the money and the thing I want to buy is lower than it was on the first trading day of the year. If I am buy-and-hold for the rest of the year, I will always do better than that year's performance shown by Morningstar and other web sites.

The idea is not to wait for a 10% drop, but just wait for about any drop. One only loses out in a year where the first trading day of the year had the lowest price. And that does happen.

Folks will say, but on a $6500 investment into a $100,000 IRA, that is not going to make any difference in the long run. And they would be right.
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dc81584
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Re: Is it worth realizing capital gains to front-load Roth contributions?

Post by dc81584 »

livesoft wrote:I am not a fan of investing Roth contributions on the first possible day of the year. One reason for me is that it is rare for all stock markets to increase monotonically from the first day. In other words, one can usually invest later at a lower price. Folks might call this "market timing", but go look for yourself. Indeed, last year the Vanguard Total US Stock Market Index fund dropped 3% after the first day. It doesn't always work out like that though, but often enough.

I don't think it is worth paying taxes that you don't have to pay.

If you like, use your emergency fund to invest in your Roth at the beginning of the year, then replenish your emergency fund as you earn income.
I totally agree with you.
SGM
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Re: Is it worth realizing capital gains to front-load Roth contributions?

Post by SGM »

I always made contributions to an IRA early in the year although it did not have to be on the first trading day. My thoughts were to defer or not pay taxes on any dividends and allow for longer periods of growth. I considered these purchases to be part of "paying myself first."

I sell individual stocks that I have held for a long time or that have had significant run ups for many reasons, but to buy in the first week of trading in the new year is not one of them.
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Epsilon Delta
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Re: Is it worth realizing capital gains to front-load Roth contributions?

Post by Epsilon Delta »

livesoft wrote:
mcraepat9 wrote:livesoft, how do you determine the day you jump in when investing your Roth contribution?
If I have the money and the thing I want to buy is lower than it was on the first trading day of the year. If I am buy-and-hold for the rest of the year, I will always do better than that year's performance shown by Morningstar and other web sites.

The idea is not to wait for a 10% drop, but just wait for about any drop. One only loses out in a year where the first trading day of the year had the lowest price. And that does happen.

Folks will say, but on a $6500 investment into a $100,000 IRA, that is not going to make any difference in the long run. And they would be right.
This is a "just so story". Without estimates of how likely it is that the first day of the year is a yearly low, and how much you forgo if it is, you can't say whether or not waiting makes sense.

If we model the price movements as a (biased) Markov chain it clearly does not pay to wait. Now the Markov chain is just another, more complex, just so story. It does not show it pays to get in early, but it does serve as a counter example to the claim that it must pay to wait.

My intuition is that it can only pay to wait if there is some sort of active reversion to the mean. Many people believe there is this type of central tendency in market movements, but many people believe there is in other situations when it's provable there is not. You pay your money and take your chances. Fortunately it doesn't matter very much.

Now the reason I don't like waiting is that there should be nothing special about Jan 1st. If waiting works it should work on any day and it should work on any amount of money. So go to all cash and wait for the market to drop. And if you think Jan 1st is special well you have a once a year opportunity. If you think $5,500 is special you have a problem.
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