How do I fund FIRE?

Have a question about your personal investments? No matter how simple or complex, you can ask it here.
Post Reply
Topic Author
RocketShipTech
Posts: 281
Joined: Sat Jun 13, 2020 10:08 pm

How do I fund FIRE?

Post by RocketShipTech » Tue Jun 30, 2020 10:42 pm

Hypothetical scenario.

My wife and I decide to FIRE at age 40. We plan to draw down our savings for 30 years until SS at age 70.

We have $3M as follows:

1. $1M in taxable. $500k in cost basis, the rest as LTCG.
2. $1M in Roth IRA. $500k in contributions, the rest as earnings.
3. $1M in Traditional IRA (rolled over from 401k)

Assume zero wage income for the 30 years. Also assume residents of no income tax state.

What is the most tax efficient order to draw down my accounts? Let’s say I need to spend $100k per year.

User avatar
willthrill81
Posts: 19222
Joined: Thu Jan 26, 2017 3:17 pm
Location: USA

Re: How do I fund FIRE?

Post by willthrill81 » Tue Jun 30, 2020 10:54 pm

RocketShipTech wrote:
Tue Jun 30, 2020 10:42 pm
Hypothetical scenario.

My wife and I decide to FIRE at age 40. We plan to draw down our savings for 30 years until SS at age 70.

We have $3M as follows:

1. $1M in taxable. $500k in cost basis, the rest as LTCG.
2. $1M in Roth IRA. $500k in contributions, the rest as earnings.
3. $1M in Traditional IRA (rolled over from 401k)

Assume zero wage income for the 30 years. Also assume residents of no income tax state.

What is the most tax efficient order to draw down my accounts? Let’s say I need to spend $100k per year.
Lots of factors come into play with such a decision, including potential tax deductions, whether you're trying to reach health insurance subsidy levels, whether you have non-wage income, etc. It depends on how deep into the weeds you're wanting to get.

You would probably want to set up a Roth conversion ladder. Basically, it involves converting a portion of your traditional IRA assets to Roth assets every year, paying the taxes on those conversions, and then withdrawing those converted assets after the mandatory minimum five year waiting period. During that initial five year waiting period, you would live exclusively on withdrawals from your taxable account. After those first five years, you have a 'revolving door' of tax-deferred assets being converted to Roth and the prior five years of Roth contributions becoming available for penalty-free withdrawal. Just remember that while you can withdraw Roth contributions at any time, you cannot withdraw more than that (i.e. growth) prior to age 59.5 without penalty unless you're in one of the exceptional situations as defined by law.

Image
https://www.madfientist.com/how-to-acce ... nds-early/
“It's a dangerous business, Frodo, going out your door. You step onto the road, and if you don't keep your feet, there's no knowing where you might be swept off to.” J.R.R. Tolkien,The Lord of the Rings

Topic Author
RocketShipTech
Posts: 281
Joined: Sat Jun 13, 2020 10:08 pm

Re: How do I fund FIRE?

Post by RocketShipTech » Tue Jun 30, 2020 11:23 pm

I think the answer is:

1. Withdraw from taxable to the top of the 0% LTCG bracket until exhausted or 59.5
2. If taxable is exhausted before 59.5, withdraw from Roth contributions until exhausted or 59.5
3a. If at 54.5 or earlier Roth contributions are expected to be exhausted before 59.5, Roth convert tIRA to be withdrawn 5 years later.
3b. Withdraw from converted Roth contributions as necessary before 59.5
4. At 59.5, withdraw from Roth contributions or earnings until 72 or exhausted
5. At 72 withdraw RMDs from remaining tIRA.

User avatar
teen persuasion
Posts: 1156
Joined: Sun Oct 25, 2015 1:43 pm

Re: How do I fund FIRE?

Post by teen persuasion » Wed Jul 01, 2020 7:41 am

RocketShipTech wrote:
Tue Jun 30, 2020 11:23 pm
I think the answer is:

1. Withdraw from taxable to the top of the 0% LTCG bracket until exhausted or 59.5
2. If taxable is exhausted before 59.5, withdraw from Roth contributions until exhausted or 59.5
3a. If at 54.5 or earlier Roth contributions are expected to be exhausted before 59.5, Roth convert tIRA to be withdrawn 5 years later.
3b. Withdraw from converted Roth contributions as necessary before 59.5
4. At 59.5, withdraw from Roth contributions or earnings until 72 or exhausted
5. At 72 withdraw RMDs from remaining tIRA.
But then you are letting the tIRA grow unchecked until 72 RMD age.

Work thru what your tax bills would be in your scenarios above. Withdrawing from taxable, probably zero (some is return of capital, rest within LTCG zero bracket). Withdrawing from Roth, zero. So the first two scenarios have zero tax owed, until RMDs hit, then ordinary income tax rates on the RMDs kick in.

I'd at the least Roth convert enough tIRA to fill the standard deduction, every year. This reduces the size of the tIRA, without any extra tax cost, reducing future RMDs. You would still have a tax feast/famine situation before/after 72, but a bit more controlled.

More ideal would be to take a bit from each account each year, amounts designed to balance and level your tax load over time. Don't forget SS income in the future - RMDs will affect how much of that is taxed, as well, increasing taxes again.

sailaway
Posts: 1667
Joined: Fri May 12, 2017 1:11 pm

Re: How do I fund FIRE?

Post by sailaway » Wed Jul 01, 2020 7:59 am

3a: make Roth conversions throughout, adjusting income to control tax brackets and ACA eligibility. The longer time period you spread conversions out, the less tax you pay, assuming all other income is controlled. If I start doing small conversions at 40, I may only need to convert 1/4 of my annual spending to have access to what I need in Roth at, say, 56.

4: Withdrawal a balance of Roth and traditional to control income brackets, ACA eligibility and IRMAA.

I am not even convinced we will rush to draw down taxable prior to 59.5; I picture a balance between taxable and Roth that controls tax brackets, and allows for tax free conversions.

User avatar
teen persuasion
Posts: 1156
Joined: Sun Oct 25, 2015 1:43 pm

Re: How do I fund FIRE?

Post by teen persuasion » Wed Jul 01, 2020 7:59 am

A discussion of this issue by Michael Kitces https://www.kitces.com/blog/tax-efficie ... g-needs/

deltaneutral83
Posts: 1634
Joined: Tue Mar 07, 2017 4:25 pm

Re: How do I fund FIRE?

Post by deltaneutral83 » Wed Jul 01, 2020 8:29 am

RocketShipTech wrote:
Tue Jun 30, 2020 11:23 pm
I think the answer is:

1. Withdraw from taxable to the top of the 0% LTCG bracket until exhausted or 59.5
This would blow up ACA. You didn't mention household size, but you would want to be well under 4x FPL on AGI. This would be a mix of capital gains/Trad conversions to Roth/Divs from taxable account. If you have two kids, you're in better shape. 2021 FPL is $12,760/$17,240/$21,720/$26,200 with ascending household size (1-4). You would want to keep your capital gains/Dividends/Trad conversions to Roth all below 4x FPL, assuming these are your only sources of income. You may be able to have an HDHP plan with an HSA to get an additional $7k off your AGI as well with an ACA plan.
2. If taxable is exhausted before 59.5, withdraw from Roth contributions until exhausted or 59.5
3a. If at 54.5 or earlier Roth contributions are expected to be exhausted before 59.5, Roth convert tIRA to be withdrawn 5 years later.
3b. Withdraw from converted Roth contributions as necessary before 59.5
4. At 59.5, withdraw from Roth contributions or earnings until 72 or exhausted
5. At 72 withdraw RMDs from remaining tIRA.

User avatar
teen persuasion
Posts: 1156
Joined: Sun Oct 25, 2015 1:43 pm

Re: How do I fund FIRE?

Post by teen persuasion » Wed Jul 01, 2020 8:53 am

Have you tried running scenarios on I-ORP?

I tried a few with the basics you provided, plus a minimal SS (since you said retire at 40). First using the home page inputs only, got $69k annual income (it's optimizing for level spendable income). Second went to extended tab, only changed to do Roth conversions thru 10% bracket, got $105k annual income. Third, changed to do Roth conversions thru 12% bracket, got $107k annual income, but no IRMAA increases (did appear in second scenario).

You can see in the reports how accounts are drawn down, taxes, etc, year by year. Comparing scenario outputs could help you fine tune how aggressive you wish to be in conversions, or what the tax cost is of not converting early.

aristotelian
Posts: 7626
Joined: Wed Jan 11, 2017 8:05 pm

Re: How do I fund FIRE?

Post by aristotelian » Wed Jul 01, 2020 9:41 am

I would withdraw from taxable first, then Roth. Take advantage of tax free growth in Roth as long as possible.

In the meantime, do Roth conversions on the 401k up to the top of 12% bracket to start. As the balance starts to decline, scale back to 10% or standard deduction if possible.

sd323232
Posts: 524
Joined: Thu Jun 21, 2018 4:45 pm

Re: How do I fund FIRE?

Post by sd323232 » Wed Jul 01, 2020 10:41 am

Why not just invest in 3% dividend stocks and live on dividends alone, never touching 3 mil? 3% of 3 mil is 100k a year?

With hypothetical 3 mil portfolio and 100k year withdraw, if ur portfolio is getting depleted, u doing it wrong.

Topic Author
RocketShipTech
Posts: 281
Joined: Sat Jun 13, 2020 10:08 pm

Re: How do I fund FIRE?

Post by RocketShipTech » Wed Jul 01, 2020 12:27 pm

sd323232 wrote:
Wed Jul 01, 2020 10:41 am
Why not just invest in 3% dividend stocks and live on dividends alone, never touching 3 mil? 3% of 3 mil is 100k a year?

With hypothetical 3 mil portfolio and 100k year withdraw, if ur portfolio is getting depleted, u doing it wrong.
I would deplete my accounts faster with dividend only stocks than total market.

czaj
Posts: 50
Joined: Sun Oct 04, 2015 4:01 pm

Re: How do I fund FIRE?

Post by czaj » Wed Jul 01, 2020 12:49 pm

I’ll try and give you a straightforward answer. Using a model I’ve built similar to i-ORP and with some assumptions, it’s likely you wouldn’t ever need to convert beyond the 10% bracket.

For this hypothetical, I would convert up to the 10% bracket up to age 70 (possibly with some years only converting to fill 0%/standard deduction). Taxable account should be depleted first while doing Roth conversions in early years. Once taxable is depleted, can live off Roth conversions and, if over 59.5, remaining traditional.

For age 70+, you would pay 0% in taxes, living off SS/Roth and only filling up standard deduction. The key would be to keep enough traditional to fill the deduction amount each year.(The reason to keep 70+ at 0% is because the marginal rate for SS would be 18.5%).

This obviously has plenty of assumptions involved and in reality you would reassess each year.

Assumptions are based on current tax law (including reversion to pre-TCJA in 2026, current SS taxation, etc.) I also assume both you and your wife have SS PIAs equal to $1,500.

I have not included ACA subsidies. My model is capable of incorporating them, but it would require some complex assumptions to be made.

Random Poster
Posts: 2186
Joined: Wed Feb 03, 2010 10:17 am

Re: How do I fund FIRE?

Post by Random Poster » Wed Jul 01, 2020 3:15 pm

RocketShipTech wrote:
Tue Jun 30, 2020 10:42 pm
Hypothetical scenario.

My wife and I decide to FIRE at age 40. We plan to draw down our savings for 30 years until SS at age 70.

We have $3M as follows:

1. $1M in taxable. $500k in cost basis, the rest as LTCG.
2. $1M in Roth IRA. $500k in contributions, the rest as earnings.
3. $1M in Traditional IRA (rolled over from 401k)

Assume zero wage income for the 30 years. Also assume residents of no income tax state.

What is the most tax efficient order to draw down my accounts? Let’s say I need to spend $100k per year.
Are these real numbers or hypothetical ones?

I’m curious how one gets $1m in both a Roth IRA and a Traditional IRA, but I guess it could somehow happen.

In any event, it seems to me that as you get a larger taxable account balance, with its attendant higher dividend payouts as its overall balance increases, it becomes increasingly harder—if not impossible—to do IRA conversions and still stay under the ACA subsidy limits. My rough calculations estimate that, for a family of 2, a taxable portfolio of $2.75m will put you at the edge of the subsidy limit, just from dividends and (tax exempt or taxable) interest payments alone.

Personally, I’m thinking that IRA conversions might be more trouble than they are worth and to just deal with any RMDs when they arrive. If the traditional IRA is all bonds, the RMDs may not be all that much. And there is no guarantee that I’ll make it to 72 anyway.

Topic Author
RocketShipTech
Posts: 281
Joined: Sat Jun 13, 2020 10:08 pm

Re: How do I fund FIRE?

Post by RocketShipTech » Wed Jul 01, 2020 3:18 pm

czaj wrote:
Wed Jul 01, 2020 12:49 pm
I’ll try and give you a straightforward answer. Using a model I’ve built similar to i-ORP and with some assumptions, it’s likely you wouldn’t ever need to convert beyond the 10% bracket.

For this hypothetical, I would convert up to the 10% bracket up to age 70 (possibly with some years only converting to fill 0%/standard deduction). Taxable account should be depleted first while doing Roth conversions in early years. Once taxable is depleted, can live off Roth conversions and, if over 59.5, remaining traditional.

For age 70+, you would pay 0% in taxes, living off SS/Roth and only filling up standard deduction. The key would be to keep enough traditional to fill the deduction amount each year.(The reason to keep 70+ at 0% is because the marginal rate for SS would be 18.5%).

This obviously has plenty of assumptions involved and in reality you would reassess each year.

Assumptions are based on current tax law (including reversion to pre-TCJA in 2026, current SS taxation, etc.) I also assume both you and your wife have SS PIAs equal to $1,500.

I have not included ACA subsidies. My model is capable of incorporating them, but it would require some complex assumptions to be made.
Thank you! Very helpful

Topic Author
RocketShipTech
Posts: 281
Joined: Sat Jun 13, 2020 10:08 pm

Re: How do I fund FIRE?

Post by RocketShipTech » Wed Jul 01, 2020 3:19 pm

Random Poster wrote:
Wed Jul 01, 2020 3:15 pm
I’m curious how one gets $1m in both a Roth IRA and a Traditional IRA, but I guess it could somehow happen.
Maxed out pre-tax 401k plus mega backdoor Roth x2

wolf359
Posts: 2155
Joined: Sun Mar 15, 2015 8:47 am

Re: How do I fund FIRE?

Post by wolf359 » Wed Jul 01, 2020 3:53 pm

Random Poster wrote:
Wed Jul 01, 2020 3:15 pm
I’m curious how one gets $1m in both a Roth IRA and a Traditional IRA, but I guess it could somehow happen.
Historically, it probably wouldn't happen. Retiring at 40 implies about 20 years of accumulation. The Roth IRA contribution limits are around $6,000 currently, but in 2000 it was $2,000. Even with two incomes, you couldn't have put together $500,000 in Roth IRA contributions while simultaneously maxing out a traditional 401k. If you had the income to do so, you would have exceeded the income to contribute to the Roth. Yes, I know about the Backdoor Roth strategy, but that was only available after 2010, when the income limits for Roth conversions was lifted. There's just not enough time given the low contribution limits in that vehicle.

More common scenarios are:
1) A large amount of traditional, with a little taxable and a little Roth.
2) A large amount of traditional, with a sizable taxable and a little Roth.
3) A lot of Roth (but the overall portfolio amount will be smaller than #1 or #2, due to the taxes paid.)
4) Almost all taxable, with some or none in traditional or Roth. (This is the entrepreneur who sold a business, or a real estate investor.)

Equal amounts of taxable, traditional, and Roth is purely hypothetical, and probably doesn't often occur in real life.

Topic Author
RocketShipTech
Posts: 281
Joined: Sat Jun 13, 2020 10:08 pm

Re: How do I fund FIRE?

Post by RocketShipTech » Wed Jul 01, 2020 3:59 pm

wolf359 wrote:
Wed Jul 01, 2020 3:53 pm
Random Poster wrote:
Wed Jul 01, 2020 3:15 pm
I’m curious how one gets $1m in both a Roth IRA and a Traditional IRA, but I guess it could somehow happen.
Historically, it probably wouldn't happen. Retiring at 40 implies about 20 years of accumulation. The Roth IRA contribution limits are around $6,000 currently, but in 2000 it was $2,000. Even with two incomes, you couldn't have put together $500,000 in Roth IRA contributions while simultaneously maxing out a traditional 401k. If you had the income to do so, you would have exceeded the income to contribute to the Roth. Yes, I know about the Backdoor Roth strategy, but that was only available after 2010, when the income limits for Roth conversions was lifted. There's just not enough time given the low contribution limits in that vehicle.

More common scenarios are:
1) A large amount of traditional, with a little taxable and a little Roth.
2) A large amount of traditional, with a sizable taxable and a little Roth.
3) A lot of Roth (but the overall portfolio amount will be smaller than #1 or #2, due to the taxes paid.)
4) Almost all taxable, with some or none in traditional or Roth. (This is the entrepreneur who sold a business, or a real estate investor.)

Equal amounts of taxable, traditional, and Roth is purely hypothetical, and probably doesn't often occur in real life.
Not at all hypothetical.

Annually:
$40k pre-tax 401k + $10k match
$50k megabackdoor Roth
$50k taxable

x10-15 years + growth gets you there

User avatar
emlowe
Posts: 262
Joined: Fri Jun 01, 2018 2:57 pm

Re: How do I fund FIRE?

Post by emlowe » Wed Jul 01, 2020 7:14 pm

RocketShipTech wrote:
Wed Jul 01, 2020 3:59 pm


Not at all hypothetical.

Annually:
$40k pre-tax 401k + $10k match
$50k megabackdoor Roth
$50k taxable

x10-15 years + growth gets you there

For two people of course. Each person can end up with 57k total (pre-tax+match+mega) in 2020. Limits were lower in past years - The limit was 49k in 2010 for example.

But yes, 50k-ish over 10 years for each person, gets you to around 500k in both pre-tax and roth contributions for a couple total.
Ferri Core 4: 40% Bonds | 6% Reit | 18% Total i18n | 36% Total US

FoolMeOnce
Posts: 919
Joined: Mon Apr 24, 2017 11:16 am

Re: How do I fund FIRE?

Post by FoolMeOnce » Wed Jul 01, 2020 7:27 pm

I would emphasize Roth conversions more than your plan does. Perhaps withdraw from taxable until you get your spending needs, then Roth convert up to an acceptable tax bracket. Or at least the standard deduction. You can balance the benefit of that against further tax gain harvesting in taxable.

But also, as noted by another response above, consider how your plan affects health insurance and ACA subsidies, if that is part of your plan.

Post Reply