Retirement 4/2018 question

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Larry2623
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Joined: Sat Jul 15, 2017 9:23 pm

Retirement 4/2018 question

Post by Larry2623 » Mon Jan 08, 2018 11:33 am

I will earn about 30k from job up to my retirement on 4/15/2018. It also looks like a large long term private stock(s-corp) I own will be sold this year.
I think the long term capital gain will be around 800k. Anyone think of anything I should be aware of with the large hit? Like I do not think I would be allowed to directly contribute to a Roth IRA this year. Also would it be a good idea to try to get as much of my paycheck into my 401k since I will be pushed into the highest tax bracket this year?

Any help would be appreciated...

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House Blend
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Re: Retirement 4/2018 question

Post by House Blend » Mon Jan 08, 2018 3:51 pm

No (taxable) income in 2018 other than job + $800K in LTCG?

There could be a lot of things that *might* matter (state tax?), but the immediate one that comes to mind from the information given is that even though you will be in the highest tax bracket in 2018, your (Federal) marginal tax rate will likely not be very high.

In any case, you'll be paying the 3.8% NII tax on a large chunk (but not all) of the $800K in LTCG, and those gains will be taxed at 0%, 15%, and 20% rates, The exact proportions of each will vary with Single vs. MFJ and what's in Box 1 of your W-2.

If I remember correctly, the NII tax is based off of AGI, so if you take the standard deduction ($12K/$24K), that means your first $12K or $24K of ordinary income will be effectively taxed at a rate that is only 3.8%. Not a very enticing value for your 401(k) contributions. Using Box 1 on your W-2 as a proxy for your ordinary income, once you get above the $12K/$24K level, the next dollar in Box 1 will cost you $0.238.

Correction: the marginal tax rates for levels of ordinary income below and above the standard deduction should be be 23.8% and 33.8%. More about this in a post below.

So a plausible strategy without knowing more about your financial situation is to target a standard deduction's worth of ordinary income, achieved by some combination of tax-deferrals and/or Roth conversions.

Also, correct, no direct Roth IRA contribution for you, but you might be able to execute a Backdoor Roth. (See the wiki.) Just make sure your 2018 Form W-2 shows at least $5500/$6500 in Box 1. Consider also spousal IRA if married.
Last edited by House Blend on Tue Jan 09, 2018 4:13 pm, edited 1 time in total.

MarkNYC
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Re: Retirement 4/2018 question

Post by MarkNYC » Mon Jan 08, 2018 7:50 pm

House Blend wrote:
Mon Jan 08, 2018 3:51 pm
In any case, you'll be paying the 3.8% NII tax on a large chunk (but not all) of the $800K in LTCG...
Not necessarily. If the S Corp shares represent the OP's ownership in a passive activity, then yes, the gain is subject to NII tax. But if the shares represent ownership in a business that is a nonpassive activity for the OP, then the gain from sale of those shares is not subject to NII tax.

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Larry2623
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Re: Retirement 4/2018 question

Post by Larry2623 » Tue Jan 09, 2018 1:37 pm

Thanks for replies...Single, no state tax and it was passive.

Still trying to decide if I should load up 401k contributions for 3 months working to at least save taxes on salary.

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House Blend
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Re: Retirement 4/2018 question

Post by House Blend » Tue Jan 09, 2018 4:21 pm

Over age 50? Maxing out the 401(k) would be $24,500 (if employer allows it).

Will there be any other taxable income in 2018 besides the job and the LTCG on the sale? For example, will the proceeds of the sale be invested towards retirement and start throwing off taxable income, or used to pay off debt, or...?

And how much do you think you will save in taxes by maxing out your 401(k)? As I tried to explain in my previous post, there will probably be a jump in your marginal tax rate centered at the point where the total ordinary income you have equals your standard deduction ($12,000).

And my previous post had an error--your marginal rate jumps from 23.8% to 33.8% at that point.

Maybe this fictitious example will better illustrate the point:

Your only taxable income is $800K LTCG + amounts in Box 1 on a W-2. You are Single and claim the standard deduction of $12K.

Consider three cases:
A. Box 1 = $11,900.
B. Box 1 = $12,000.
C. Box 1 = $12,100.

We'll do B first. Your AGI is $812K, and the NII tax on that will be 3.8% of ($812,000 - $200,000) = $30,096.

Your Taxable Income will be $800,000 and all of it is LTCG. So the first $38,600 of it is tax-free, the next $387,200 will be taxed at the 15% rate, and the remainder will be taxed at 20%, for a total tax bill of
$163,016 = $30,096 + 0.15 * $387,200 + 0.20 * $374,200.

In C, what changes is that you have an AGI that is $100 larger, so another $3.80 NII tax, plus your Taxable Income is $100 larger, including some ordinary income that is taxed at 10% (add $10) [*], and another $100 of your LTCG moves out of the 0% rate and into the 20% rate (add $20). Your marginal tax rate is 33.8%.

In A, with $100 less, you save $3.80 NII tax, and you have $100 less in Taxable Income (all of which is LTCG), so you save another $20 in LTCG tax. Your marginal rate is 23.8%

So in the unlikely event that this is exactly your 2018 income tax situation, what should you do?

If 23.8% looks like a high marginal rate compared to what you expect in retirement after RMDs begin, go ahead and max out your 401(k).

If 23.8% is low, but 33.8% is high, then max out the 401(k) but do a Roth conversion later in the year so that your total ordinary income (i.e., not counting LTCG and qualified dividends) is $12,000.

If 33.8% is low, max out the 401(k) and do an even larger Roth conversion this year.

[*] Actually the tax on $100 is $11, because the Tax Tables are effectively rounding $100 off to $112.50 before applying the 10% rate.

Topic Author
Larry2623
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Joined: Sat Jul 15, 2017 9:23 pm

Re: Retirement 4/2018 question

Post by Larry2623 » Tue Jan 09, 2018 11:53 pm

age=58 I normally max out 401k at 24500 but since I was only working 3 months this year it would have been considerably less.

Not sure when in the year the ltcg will happen, major owners are shopping company first quarter.

I was just going by confident assumption this year will be my highest tax bill ever...so I was trying to minimize addl income.


Thanks for the time for you info!

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