Is It a Cardinal Sin to Withdraw from Tax Deferred First

[Charles Joseph]

I know the standard advice is to withdraw from taxable accounts first in retirement. But if one wants to leave their taxable account for heirs (for the stepped-up basis), how damaging is it to withdraw from tax-deferred first and leave taxable alone as long as possible? Is there a way to calculate this?

[smitcat]

I know the standard advice is to withdraw from taxable accounts first in retirement. But if one wants to leave their taxable account for heirs (for the stepped-up basis), how damaging is it to withdraw from tax-deferred first and leave taxable alone as long as possible? Is there a way to calculate this?

Depends on the size of the accounts, how much in each type, draw rate, and your goals, Try this article for a general view on approaches...
https://www.kitces.com/blog/tax-efficie ... ing-needs/

You can run possible future calculations on RPM and/or Pralana.

[dkturner]

I know the standard advice is to withdraw from taxable accounts first in retirement. But if one wants to leave their taxable account for heirs (for the stepped-up basis), how damaging is it to withdraw from tax-deferred first and leave taxable alone as long as possible? Is there a way to calculate this?

It’s probably best to use the dividend and interest income from your taxable account first (because you will have to pay taxes on the income) then use tax-deferred account for the balance of your cash needs.

[Silk McCue]

Better yet leave your heirs as much as you can in Roth. To do this simply spend from taxable and convert the IRAs to Roth overtime to the top of whatever tax bracket makes sense for your legacy plan.

Cheers

[exodusNH]

I know the standard advice is to withdraw from taxable accounts first in retirement. But if one wants to leave their taxable account for heirs (for the stepped-up basis), how damaging is it to withdraw from tax-deferred first and leave taxable alone as long as possible? Is there a way to calculate this?

It's mostly about what it does to your income taxes. Since all the tax-deferred money gets treated as income, it can cause extra taxation of Social Security, IRMAA surcharges, and potentially push you out of subsidies that depend on a low income.

Because it's tax-deferred, you need to take out $1 * (1 + your local and federal tax rates) to get $1 spendable. In taxable, you have a basis, which comes out tax-free and then your capital gains rates on the profit. Most of each $1 isn't even taxes; the remainder that it is usually has a more favorable rate.

[cbox]

I know the standard advice is to withdraw from taxable accounts first in retirement. But if one wants to leave their taxable account for heirs (for the stepped-up basis), how damaging is it to withdraw from tax-deferred first and leave taxable alone as long as possible? Is there a way to calculate this?

There's no pat answer to this question, and I've never heard the advice you're citing as "standard." Personally, I plan to withdraw from my tax-deferred as soon as I retire, well before RMDs, in order not to have huge RMDs (and tax consequences) when I'm forced to pull the money at 73.

[TomatoTomahto]

We expect that SS plus pensions will mostly cover our expenses and RMDs are "required," so no need to draw down taxable. As a matter of fact, will probably be adding to taxable with the excess.

If that's a cardinal sin, I might have to go to confession.

[cbox]

If that's a cardinal sin, I might have to go to confession.

Hurry up. I'm waiting outside the booth.

[Dude2]

I know the standard advice is to withdraw from taxable accounts first in retirement. But if one wants to leave their taxable account for heirs (for the stepped-up basis), how damaging is it to withdraw from tax-deferred first and leave taxable alone as long as possible? Is there a way to calculate this?

There's no pat answer to this question, and I've never heard the advice you're citing as "standard." Personally, I plan to withdraw from my tax-deferred as soon as I retire, well before RMDs, in order not to have huge RMDs (and tax consequences) when I'm forced to pull the money at 73.

Indeed, this post above represents standard advice. The only reason not to withdraw from tax deferred is that prior to reaching 59.5 you will be penalized. Otherwise, have at it.

[retiredjg]

I know the standard advice is to withdraw from taxable accounts first in retirement.

I heard that when I retired too, but I don't think it is very good advice. And I question if that is "standard", at least around here.

If you have dividends that are going to be taxed anyway, sure...go ahead and use the dividends as part of your annual spending.

After that, it all depends on your individual situation. Spending most from tax deferred could be the right answer in many cases. So, no cardinal sin.

[Jack FFR1846]

I look at withdraws as "aside from Roth conversions". If you're scrambling to convert traditional to Roth and filling higher and higher tax brackets, then I guess actual withdrawals from taxable accounts for living makes perfect sense. If you don't have an overly large amount to try to convert, then why not?

[Charles Joseph]

We expect that SS plus pensions will mostly cover our expenses and RMDs are "required," so no need to draw down taxable. As a matter of fact, will probably be adding to taxable with the excess.

If that's a cardinal sin, I might have to go to confession.

Ten Hail Mary’s and an Our Father, and turn off dividend reinvestment in taxable.

[CloseEnough]

Everyone's situation is different. You may want to withdraw in the most tax efficient manner, although there are other considerations as well. My sense is in most cases where there are substantial assets in both tax deferred and taxable and Roth, some type of blended withdrawal is likely to achieve the best results. But finding the balance can be challenging, and is unlikely to be optimal no matter what, because so many assumptions need to be made to come up with a strategy. Offsetting the standard deduction against ordinary income seems to be a good starting place for most, and then go from there.

[JoMoney]

I have never heard that as being a "sin". Everyone will have different tax situations. If I had no other income, I would absolutely withdraw from tax deferred first up through the standard deduction (making those amounts 'tax free') and probably through the 12% tax bracket too, but above the standard deduction might depend how large my tax deferred account was, if it was so large that divided out over my lifespan I would more than fill up the deduction on future year taxes, then I would start withdrawing up through the 12% bracket (but consider how large the account is divided out over lifespan of being able to fill that bracket.)

[sc9182]

if one doesn’t have pensions- and decides to retire/FIRE/down-rev prior to SS/delayed-SS ., then why not choose to withdraw and/or Roth-convert from Tax-deferred!? So long as you are not bursting thru tax brackets !?

But some folks who FIRE prior to Medicare - may chose to go with high-tax basis brokerage or Savings (or from Roth) to keep income low - to maximize ACA savings (approx 9% !?)

[dbr]

The sin is in thinking that there are universal commandments for how to manage investments.

The answer to this question and others like it is "It depends."

[WoodSpinner]

I know the standard advice is to withdraw from taxable accounts first in retirement. But if one wants to leave their taxable account for heirs (for the stepped-up basis), how damaging is it to withdraw from tax-deferred first and leave taxable alone as long as possible? Is there a way to calculate this?

Definitely not a Cardinal Sin!

To best gauge the impact use a Retirement calculator where you can vary the funding source. See the WIKI for some popular links….

WoodSpinner

[Hacksawdave]

Retirement drawdown is unique to each person based upon needs and different account types. The plan I created five years ago calls for a hybrid approach to drawdown. I have been retired just over three years at age 56 and just placed my first distribution request for a small amount. If I were to leave my deferred alone, by RMD time it will become over $3M if doubled. That would be a $113K distribution in year 1 alone.

I’ve shown a couple FA’s that their old ‘rule of thumb’ of drain taxable accounts first does not apply as a cookie cutter in all instances.

[White Coat Investor]

I know the standard advice is to withdraw from taxable accounts first in retirement. But if one wants to leave their taxable account for heirs (for the stepped-up basis), how damaging is it to withdraw from tax-deferred first and leave taxable alone as long as possible? Is there a way to calculate this?

Within the last few years before death it's generally a mistake to sell low basis assets instead of withdrawing from tax-deferred accounts if the money is going to heirs. But if you're decades out from death, probably a mistake to spend tax protected accounts before taxable accounts for the following reasons:

Tax protected growth
Asset protection
The IRA tax protected growth can be stretched
Higher basis on the taxable assets so less tax cost there

Also probably better off with a Roth conversion and leaving a Roth IRA if you're a long way out.

[Toons]

We expect that SS plus pensions will mostly cover our expenses and RMDs are "required," so no need to draw down taxable. As a matter of fact, will probably be adding to taxable with the excess.

If that's a cardinal sin, I might have to go to confession.

Ten Hail Mary’s and an Our Father, and turn off dividend reinvestment in taxable.

Perfect
In the same boat

[colejr]

I know the standard advice is to withdraw from taxable accounts first in retirement. But if one wants to leave their taxable account for heirs (for the stepped-up basis), how damaging is it to withdraw from tax-deferred first and leave taxable alone as long as possible? Is there a way to calculate this?

This topic appears to be an area of active research. Here's one paper on how to choose between tIRA, Roth and after tax with the goal of leaving the most value to your heirs: https://webpages.scu.edu/ftp/dostrov/pu ... ons/JD.pdf

Of course the paper's method has lots of simplifying assumptions, but I've found the general principals useful to help guide my withdrawal-order decisions. Also the paper's intro has a good summary of previous research.

[samsoes]

deleted

[aristotelian]

What "standard advice" is this? I think you should generally withdraw from Roth last, but whether to withdraw (or convert) from Traditional or taxable is a complex question depending on your situation. Taxes on gains in traditional are going to be highest, followed by taxable, followed by Roth, so if you are going to prioritize accounts for growth the order should be Roth >> taxable >> Traditional. Conversely, the order of accounts for depletion should be Traditional >> taxable >> Roth. In practice it doesn't work that way because of progressive tax on marginal withdrawals. You end up withdrawing a little at a time, not because there is some special value to the traditional account, but because you want to avoid a large tax bill.

[Dave55]

The only investment sin is "not doing what is in your best interest".

Dave

[Harmanic]

I know the standard advice is to withdraw from taxable accounts first in retirement. But if one wants to leave their taxable account for heirs (for the stepped-up basis), how damaging is it to withdraw from tax-deferred first and leave taxable alone as long as possible? Is there a way to calculate this?

There's no pat answer to this question, and I've never heard the advice you're citing as "standard." Personally, I plan to withdraw from my tax-deferred as soon as I retire, well before RMDs, in order not to have huge RMDs (and tax consequences) when I'm forced to pull the money at 73.

Indeed, this post above represents standard advice. The only reason not to withdraw from tax deferred is that prior to reaching 59.5 you will be penalized. Otherwise, have at it.

And if you use it as a social security bridge, you are expected to take from it first to help smooth cash flow and avoid a tax bomb later.

[Dude2]

I know the standard advice is to withdraw from taxable accounts first in retirement. But if one wants to leave their taxable account for heirs (for the stepped-up basis), how damaging is it to withdraw from tax-deferred first and leave taxable alone as long as possible? Is there a way to calculate this?

Within the last few years before death it's generally a mistake to sell low basis assets instead of withdrawing from tax-deferred accounts if the money is going to heirs. But if you're decades out from death, probably a mistake to spend tax protected accounts before taxable accounts for the following reasons:

Tax protected growth
Asset protection
The IRA tax protected growth can be stretched
Higher basis on the taxable assets so less tax cost there

Also probably better off with a Roth conversion and leaving a Roth IRA if you're a long way out.

There is much good meat in WCI's response above. Perhaps the asset protection angle is why this could be getting put out there as standard advice. Spend all your money first out of the pot that can possibly be taken away from you, and then all you have left is protected. There's logic to that.

[randomguy]

I know the standard advice is to withdraw from taxable accounts first in retirement. But if one wants to leave their taxable account for heirs (for the stepped-up basis), how damaging is it to withdraw from tax-deferred first and leave taxable alone as long as possible? Is there a way to calculate this?

Within the last few years before death it's generally a mistake to sell low basis assets instead of withdrawing from tax-deferred accounts if the money is going to heirs. But if you're decades out from death, probably a mistake to spend tax protected accounts before taxable accounts for the following reasons:

Tax protected growth
Asset protection
The IRA tax protected growth can be stretched
Higher basis on the taxable assets so less tax cost there

Also probably better off with a Roth conversion and leaving a Roth IRA if you're a long way out.

I don't think I have ever seen a case where taxable before tax deferred was the right choice. You are almost always better off doing a blended approach. For the obvious case lets compare the taxes for a couple looking to spend 55k/year.
a) taxable for 10 years followed by tax deferred
10 years of 0 taxes
10 years of paying 3084

B) 20 years of 27.5k from taxable and 27.5k from tax deferred
20 years of paying 161.

So the standard advice person pays 30k in taxes. The blended person pays 3k. You would need to value asset protection a ton to make this pay off. Or to have some insane tax drag.

It should be pointed out from a tax point of view roth conversion are the same as spending the IRA.

[Charles Joseph]

I know the standard advice is to withdraw from taxable accounts first in retirement. But if one wants to leave their taxable account for heirs (for the stepped-up basis), how damaging is it to withdraw from tax-deferred first and leave taxable alone as long as possible? Is there a way to calculate this?

This topic appears to be an area of active research. Here's one paper on how to choose between tIRA, Roth and after tax with the goal of leaving the most value to your heirs: https://webpages.scu.edu/ftp/dostrov/pu ... ons/JD.pdf

Of course the paper's method has lots of simplifying assumptions, but I've found the general principals useful to help guide my withdrawal-order decisions. Also the paper's intro has a good summary of previous research.

Thanks so much. I'm going to read this tonight.

[AlohaBill]

I don’t think it is a cardinal sin. I had to look up cardinal sin. I couldn’t understand what a red bird had to with a sin. It is certainly not haram. Nor is it taboo. Kapu it is not , too. It may or may not be a mistake, but I bet it isn’t earth shattering.

[Charles Joseph]

What "standard advice" is this?

The recommendation to withdraw from taxable, then tax-deferred, and finally Roth, is everywhere - Vanguard, Fidelity, lots of other advisors.

Thankfully, there's Bogleheads! I appreciate you taking the time t respond.

Even if nothing else, the obvious suggestion to withdraw from taxable to qualify for the standard deduction makes a lot of sense to me. I'm a nurse. I didn't even think of that.

[Charles Joseph]

I don’t think it is a cardinal sin. I had to look up cardinal sin. I couldn’t understand what a red bird had to with a sin. It is certainly not haram. Nor is it taboo. Kapu it is not , too. It may or may not be a mistake, but I bet it isn’t earth shattering.

So I shan't be caned or beheaded or stoned. That is comforting. Thank you AlohaBill.

[White Coat Investor]

I know the standard advice is to withdraw from taxable accounts first in retirement. But if one wants to leave their taxable account for heirs (for the stepped-up basis), how damaging is it to withdraw from tax-deferred first and leave taxable alone as long as possible? Is there a way to calculate this?

Within the last few years before death it's generally a mistake to sell low basis assets instead of withdrawing from tax-deferred accounts if the money is going to heirs. But if you're decades out from death, probably a mistake to spend tax protected accounts before taxable accounts for the following reasons:

Tax protected growth
Asset protection
The IRA tax protected growth can be stretched
Higher basis on the taxable assets so less tax cost there

Also probably better off with a Roth conversion and leaving a Roth IRA if you're a long way out.

I don't think I have ever seen a case where taxable before tax deferred was the right choice. You are almost always better off doing a blended approach. For the obvious case lets compare the taxes for a couple looking to spend 55k/year.
a) taxable for 10 years followed by tax deferred
10 years of 0 taxes
10 years of paying 3084

B) 20 years of 27.5k from taxable and 27.5k from tax deferred
20 years of paying 161.

So the standard advice person pays 30k in taxes. The blended person pays 3k. You would need to value asset protection a ton to make this pay off. Or to have some insane tax drag.

It should be pointed out from a tax point of view roth conversion are the same as spending the IRA.

I'm not sure how you're doing the math but I'm pretty sure it's wrong because you arrived at the wrong conclusion. It's not about how much is paid in taxes, it's about how much is left after paying taxes.

Weird things happen at the lower extreme of the tax brackets though. I've never run the numbers for that. If my max tax bill was only $3K a year I wouldn't worry a bit about which option to choose. Heck, Id on't even think you calculated that right. If my income were only $27.5K in ordinary income and <$27.5K in qualified dividends/LTCGs my tax bill would be $0 thanks to the standard deduction.

Paying taxes later is usually the right move. Investments grow faster in tax protected accounts.

[grabiner]

I know the standard advice is to withdraw from taxable accounts first in retirement. But if one wants to leave their taxable account for heirs (for the stepped-up basis), how damaging is it to withdraw from tax-deferred first and leave taxable alone as long as possible? Is there a way to calculate this?

This might be the right strategy; you have to estimate the tax situation.

For example, suppose that you need to raise $19,250. You could sell $20K in your taxable account with a basis of $10K; if you do this, you will lose 7.5% of the account to tax. Alternatively, you could take the amount from a tax-deferred account which has a known percentage lost to tax. If you live another 20 years and the dividend tax is 15% of a 2% yield, you will lose 6% of the account to tax.

So, is saving the taxable account a net gain? Only if you are sure you will never sell this stock; if you have to sell it in 20 years, you will lose the 6% and then a larger capital gain.

Another consideration, if you have a traditional IRA/401(k), is your tax bracket relative to your heirs. If your own marginal tax rate is 22%, you want to leave a traditional IRA to heirs in a 12% bracket, and want to avoid leaving one to heirs in a 32% bracket; this would also be a consideration in which account to drain first.

[BarbBrooklyn]

I know the standard advice is to withdraw from taxable accounts first in retirement. But if one wants to leave their taxable account for heirs (for the stepped-up basis), how damaging is it to withdraw from tax-deferred first and leave taxable alone as long as possible? Is there a way to calculate this?

There's no pat answer to this question, and I've never heard the advice you're citing as "standard." Personally, I plan to withdraw from my tax-deferred as soon as I retire, well before RMDs, in order not to have huge RMDs (and tax consequences) when I'm forced to pull the money at 73.

I've been retired since 2018, pulling from my bond fund in tax-deferred so as to put off SS until 70.

I don't have much in my brokerage and have used it to make charitable donations so as to avoid capital gains until I can do QCDs.

I don't think this is a one size fits all matter.

[Jon Luskin]

I know the standard advice is to withdraw from taxable accounts first in retirement. But if one wants to leave their taxable account for heirs (for the stepped-up basis), how damaging is it to withdraw from tax-deferred first and leave taxable alone as long as possible? Is there a way to calculate this?

"Which Dollars to Spend First Every Year in Retirement" by Mike Piper

Video: https://youtu.be/atTp3sATI44?t=1571

Article: https://obliviousinvestor.com/which-dol ... etirement/

I hope that helps.

[8301]

You pay capital gains taxes on the capital gains when selling taxable and ordinary income taxes on the full amount of an withdrawal of a tax deferred account. Aren't the capital gains tax rates lower than the ordinary income tax rates? If you expect your RMD will be more than your expenses, lower the tax deferred account through Roth conversion.

[JoMoney]

You pay capital gains taxes on the capital gains when selling taxable and ordinary income taxes on the full amount of an withdrawal of a tax deferred account. Aren't the capital gains tax rates lower than the ordinary income tax rates? If you expect your RMD will be more than your expenses, lower the tax deferred account through Roth conversion.

As a single tax filer for 2023 one might get a $13,850 'standard deduction' on their first money, I would want that effective 0% rate to be on the 'ordinary income' from my tax deferred first.
After the amount covered by the standard deduction, the next $11,000 'ordinary income' would be at a 10%, and then up to $44,725 at a 12% rate... if you were using 'capital gains' rate for income in that range it would be 0% which could be the right thing to do, but if you have a large tax deferred account to draw down, and heirs that might get a stepped-up basis on stocks in a taxable account, it seems to me you'd want to take advantage of that 12% rate on the tax-deferred money.

Once you get over the $13,850(standard deduction) + $44,725 (12% tax bracket), the next amounts would be either in the 22% bracket for ordinary income, but a 15% bracket for 'capital gains' ... I would probably switch to taking the capital gains withdrawals at that point, but it might depend how large of a tax deferred account I had, and whether it would have to be withdrawn in a larger bracket at some point or if it could be managed to keep those amounts in the lower brackets if spread out over time.

[Agent 99]

I know the standard advice is to withdraw from taxable accounts first in retirement. But if one wants to leave their taxable account for heirs (for the stepped-up basis), how damaging is it to withdraw from tax-deferred first and leave taxable alone as long as possible? Is there a way to calculate this?

There's no pat answer to this question, and I've never heard the advice you're citing as "standard." Personally, I plan to withdraw from my tax-deferred as soon as I retire, well before RMDs, in order not to have huge RMDs (and tax consequences) when I'm forced to pull the money at 73.

I've been retired since 2018, pulling from my bond fund in tax-deferred so as to put off SS until 70.

I don't have much in my brokerage and have used it to make charitable donations so as to avoid capital gains until I can do QCDs.

I don't think this is a one size fits all matter.

It is my understanding that unless you itemize charitable donations are not deductible anymore. The law that allowed 1/2 of cash donations to be deducted without itemizing was changed for this year and going forward. Now the donations must be some percentage of income and itemized.

[Agent 99]

I know the standard advice is to withdraw from taxable accounts first in retirement. But if one wants to leave their taxable account for heirs (for the stepped-up basis), how damaging is it to withdraw from tax-deferred first and leave taxable alone as long as possible? Is there a way to calculate this?

"Which Dollars to Spend First Every Year in Retirement" by Mike Piper

Video: https://youtu.be/atTp3sATI44?t=1571

Article: https://obliviousinvestor.com/which-dol ... etirement/

I hope that helps.

Thanks for the article Jon. I haven’t watched the youtube yet but in Mike’s article he writes:

“In other words, every year before spending any dollars from retirement accounts (other than RMDs), you first want to spend from:

Earned income (i.e., wages, self-employment income),
Social Security income,
Pension/annuity income,
Interest and dividends from holdings in taxable accounts (note that this includes taxable and tax-exempt interest, as well as qualified and nonqualified dividends),
RMDs from tax-deferred accounts, and
Assets in taxable accounts that have basis at least equal to the current market value.”

I have followed this approach. I am not yet at RMD age so I skipped that spending source and am pulling from taxable accounts except that the basis is not at least equal to the current market value. The last influx of funds was in 2012. Since then the markets have doubled so my capital gains on withdrawals is enormous. This year I got bumped into IIRMA land. I wasn’t thinking about this.

This discussion is quite timely for me as I send in my fed tax payment and figure out estimated tax payments for this year in addition to a tax efficient way that I can fund my spending needs/wants if there is one. I’m not concerned about my legacy so paying taxes while annoying is not going to be a major impact.

[BarbBrooklyn]

I know the standard advice is to withdraw from taxable accounts first in retirement. But if one wants to leave their taxable account for heirs (for the stepped-up basis), how damaging is it to withdraw from tax-deferred first and leave taxable alone as long as possible? Is there a way to calculate this?

There's no pat answer to this question, and I've never heard the advice you're citing as "standard." Personally, I plan to withdraw from my tax-deferred as soon as I retire, well before RMDs, in order not to have huge RMDs (and tax consequences) when I'm forced to pull the money at 73.

I've been retired since 2018, pulling from my bond fund in tax-deferred so as to put off SS until 70.

I don't have much in my brokerage and have used it to make charitable donations so as to avoid capital gains until I can do QCDs.

I don't think this is a one size fits all matter.

It is my understanding that unless you itemize charitable donations are not deductible anymore. The law that allowed 1/2 of cash donations to be deducted without itemizing was changed for this year and going forward. Now the donations must be some percentage of income and itemized.

The deduction isn't what matters to me. It's the ability to "pay my dues" without paying cap gains on the money I'm doing it with.

[Agent 99]

I know the standard advice is to withdraw from taxable accounts first in retirement. But if one wants to leave their taxable account for heirs (for the stepped-up basis), how damaging is it to withdraw from tax-deferred first and leave taxable alone as long as possible? Is there a way to calculate this?

There's no pat answer to this question, and I've never heard the advice you're citing as "standard." Personally, I plan to withdraw from my tax-deferred as soon as I retire, well before RMDs, in order not to have huge RMDs (and tax consequences) when I'm forced to pull the money at 73.

I've been retired since 2018, pulling from my bond fund in tax-deferred so as to put off SS until 70.

I don't have much in my brokerage and have used it to make charitable donations so as to avoid capital gains until I can do QCDs.

I don't think this is a one size fits all matter.

It is my understanding that unless you itemize charitable donations are not deductible anymore. The law that allowed 1/2 of cash donations to be deducted without itemizing was changed for this year and going forward. Now the donations must be some percentage of income and itemized.

The deduction isn't what matters to me. It's the ability to "pay my dues" without paying cap gains on the money I'm doing it with.

Aha. I’m still learning the ins and outs about living off investments.

[Dude2]

Assets in taxable accounts that have basis at least equal to the current market value.”

I may be too simplistic, but bear in mind the tax rate to be paid on the gains in taxable is capped at a fixed percentage, e.g. not tied to income. This is the beauty of stocks in taxable. OTOH, anything you pull out of TIRA/401k is taxed at income rate.

Surely the takeaway is that there isn't going to be a rule of thumb that satisfies everybody. It's good to have diversity of types of accounts, and you do your best to optimize.

[JackoC]

I know the standard advice is to withdraw from taxable accounts first in retirement. But if one wants to leave their taxable account for heirs (for the stepped-up basis), how damaging is it to withdraw from tax-deferred first and leave taxable alone as long as possible? Is there a way to calculate this?

There's no pat answer to this question, and I've never heard the advice you're citing as "standard." Personally, I plan to withdraw from my tax-deferred as soon as I retire, well before RMDs, in order not to have huge RMDs (and tax consequences) when I'm forced to pull the money at 73.

I've been retired since 2018, pulling from my bond fund in tax-deferred so as to put off SS until 70.

I don't have much in my brokerage and have used it to make charitable donations so as to avoid capital gains until I can do QCDs.

I don't think this is a one size fits all matter.

It is my understanding that unless you itemize charitable donations are not deductible anymore. The law that allowed 1/2 of cash donations to be deducted without itemizing was changed for this year and going forward. Now the donations must be some percentage of income and itemized.

To clarify, charitable donations can only be deducted up to a maximum % of AGI (30% for appreciated assets, generally the most tax efficient thing to give pre RMD age), rather than only the amount in excess of some % of AGI being deductible, as is true for certain other deductions. Though only the total of amount of all deductions in excess of the standard is really helping you.

On general question, it's about tax and thus not only 'depends' but published advice tends to assume income/assets in a fair low range since that's most typical, except maybe articles on estate law firm websites sometimes. In some ways tax gets more complicated as income goes up, in other ways it gets simpler. In a certain higher range income/NW range, dividends and cg distributions are the obvious to thing to spend first if you need to spend anything past SS and/or pension, because they are taxed no matter if you spend them. Plays on zero/low tax brackets are out of the picture. Generally, shift charitable contribution source from appreciated assets to QCD's once you reach RMD age. The main 'it depends' thing on withdrawal hierarchy at higher income/NW was mentioned: limiting IRA withdrawals to RMD gives you more time for tax deferred growth and greater legal protection of those assets, but eventually there'll be less time left for either and your heirs still pay tax on inherited IRA but your unrealized cap gain on appreciated taxable assets goes away for heirs under current law. So, depending on life expectancy and the basis of taxable assets you'd liquidate, if any, to supplement SS/pension/div/interest you might increase IRA withdrawals to >RMD instead of liquidating taxable assets, at some point.

[JakeyLee]

Something about the “tax tail wagging the dog”.
My original plan was drawing down some of my pre tax (upon 59.5 years of age), as a means of stretching my longevity insurance, and taking Social security at 70. I was going to draw a blend of both pre and post tax accounts. Two years into retirement and I’ve shifted my focus on converting some small chunks of my tIRA into Roth. I’m paying the man now, in hopes of paying him less during those bridge years. When 59.5 happens, I will continue to withdraw some tax deferred for the next decade. At least enough to fill up that first couple lower tax brackets. But who knows what the tax code will look like in 18 years (I’m 52].

For the time being, I’m living on taxable accounts. As a single filing tax form guy, I shudder to think what that tax bomb will look like if I waited to tap into all my tax deferred accounts… along with SS and a small pension. Age for RMDs seem so far away for me. If I make it that far, I’d like to think younger me at least took some positive actions. Back to wagging that tax tail…

[8301]

You pay capital gains taxes on the capital gains when selling taxable and ordinary income taxes on the full amount of an withdrawal of a tax deferred account. Aren't the capital gains tax rates lower than the ordinary income tax rates? If you expect your RMD will be more than your expenses, lower the tax deferred account through Roth conversion.

As a single tax filer for 2023 one might get a $13,850 'standard deduction' on their first money, I would want that effective 0% rate to be on the 'ordinary income' from my tax deferred first.
After the amount covered by the standard deduction, the next $11,000 'ordinary income' would be at a 10%, and then up to $44,725 at a 12% rate... if you were using 'capital gains' rate for income in that range it would be 0% which could be the right thing to do, but if you have a large tax deferred account to draw down, and heirs that might get a stepped-up basis on stocks in a taxable account, it seems to me you'd want to take advantage of that 12% rate on the tax-deferred money.

Once you get over the $13,850(standard deduction) + $44,725 (12% tax bracket), the next amounts would be either in the 22% bracket for ordinary income, but a 15% bracket for 'capital gains' ... I would probably switch to taking the capital gains withdrawals at that point, but it might depend how large of a tax deferred account I had, and whether it would have to be withdrawn in a larger bracket at some point or if it could be managed to keep those amounts in the lower brackets if spread out over time.

There are many variables to consider. One of them is the tax bracket of your heir. Any fund in the tax deferred will come out and be subject to ordinary income taxes, 0% or higher. On the other hand, it is certain under the current tax system that all the capital gains will be stepped up, i.e., 0% taxes.

[Charles Joseph]

I know the standard advice is to withdraw from taxable accounts first in retirement. But if one wants to leave their taxable account for heirs (for the stepped-up basis), how damaging is it to withdraw from tax-deferred first and leave taxable alone as long as possible? Is there a way to calculate this?

"Which Dollars to Spend First Every Year in Retirement" by Mike Piper

Video: https://youtu.be/atTp3sATI44?t=1571

Article: https://obliviousinvestor.com/which-dol ... etirement/

I hope that helps.

Jon thank you. PS love the podcasts!

[uaeebs86]

I know the standard advice is to withdraw from taxable accounts first in retirement. But if one wants to leave their taxable account for heirs (for the stepped-up basis), how damaging is it to withdraw from tax-deferred first and leave taxable alone as long as possible? Is there a way to calculate this?

"Which Dollars to Spend First Every Year in Retirement" by Mike Piper

Video: https://youtu.be/atTp3sATI44?t=1571

Article: https://obliviousinvestor.com/which-dol ... etirement/

I hope that helps.

Is there software/website/service that can do the optimization for you?

[Charles Joseph]

Bogleheads are just awesome. Thanks to everyone for all the responses and resources. So greatly appreciated!

[Leif]

FYI. Youtube video.

The SIMPLE Withdrawal Strategy You Should Use First in Retirement...

[randomguy]

I know the standard advice is to withdraw from taxable accounts first in retirement. But if one wants to leave their taxable account for heirs (for the stepped-up basis), how damaging is it to withdraw from tax-deferred first and leave taxable alone as long as possible? Is there a way to calculate this?

Within the last few years before death it's generally a mistake to sell low basis assets instead of withdrawing from tax-deferred accounts if the money is going to heirs. But if you're decades out from death, probably a mistake to spend tax protected accounts before taxable accounts for the following reasons:

Tax protected growth
Asset protection
The IRA tax protected growth can be stretched
Higher basis on the taxable assets so less tax cost there

Also probably better off with a Roth conversion and leaving a Roth IRA if you're a long way out.

I don't think I have ever seen a case where taxable before tax deferred was the right choice. You are almost always better off doing a blended approach. For the obvious case lets compare the taxes for a couple looking to spend 55k/year.
a) taxable for 10 years followed by tax deferred
10 years of 0 taxes
10 years of paying 3084

B) 20 years of 27.5k from taxable and 27.5k from tax deferred
20 years of paying 161.

So the standard advice person pays 30k in taxes. The blended person pays 3k. You would need to value asset protection a ton to make this pay off. Or to have some insane tax drag.

It should be pointed out from a tax point of view roth conversion are the same as spending the IRA.

I'm not sure how you're doing the math but I'm pretty sure it's wrong because you arrived at the wrong conclusion. It's not about how much is paid in taxes, it's about how much is left after paying taxes.

Weird things happen at the lower extreme of the tax brackets though. I've never run the numbers for that. If my max tax bill was only $3K a year I wouldn't worry a bit about which option to choose. Heck, Id on't even think you calculated that right. If my income were only $27.5K in ordinary income and <$27.5K in qualified dividends/LTCGs my tax bill would be $0 thanks to the standard deduction.

Paying taxes later is usually the right move. Investments grow faster in tax protected accounts.

I used turbotax estimator. They might have the 2022 numbers still. It doesn't matter

Of course it is about what is left. Lets do the math
a spends 1.069m
b spends 1.096m

I think we will all agree that 1.096m>1.069m. And B also has more effective money left. Having say 500k taxable and 500k tax deferred is worth more than having 1 million tax deferred when you are going to have to pay taxes on one but not the other.

If you could pay 15% now and stick the money in a Roth or pay 0% now and pay 24% later, would you pay taxes later? Of course not. Paying taxes later only makes sense when the tax rate will be the same or lower. Given the graduated US tax system, it almost always favors a blended approach.

Now the real world is a heck of a lot more complicated than this simple example as you have to balance SS, IRMAA, ACA subsidies, chance of partner death, and a zillion other ideas. You can't solve it exactly given the unknowns. But in general paying 0% now instead of 10%+ later is always going to be a win.