The Taxman Leaveth: Low, Low Taxes in Early Retirement

AUGUST 01, 2016
Physician on FIRE
The take home lessons from this exercise are many:

  • You can live well without paying federal income tax in an early retirement scenario.
  • It’s important to diversify your retirement dollars among different account types, some of which have already been taxed (Roth, taxable account).
  • Roth contributions can be withdrawn without penalty at any age. Growth cannot. Keep track of contributions if you think you might want to access the account prior to age 59.5.
  • Keeping taxable income in the 15% bracket makes your long-term capital gains (on equities purchased at least a year ago) and qualified dividends tax free.
  • Retiring while your kids are at home or in college will allow you to take advantage of tax credits that are generally not be available to working physicians; they are phased out due to high income.
  • We didn’t touch the 401(k) other than for the sake of making Roth conversions. If you feel you will need to access this money before age 59.5, there are a couple ways. One is to retire in the year in which you turn 55 (or 56 – 59). By law, you should have immediate access.  Before that age, you can rollover to an IRA and set up Substantial Equal Periodic Payments (SEPP) to access the money without penalty. If you plan well and have monies in other accounts, you probably won’t be touching this money until at least 59.5 or perhaps 70.5 when RMDs become mandatory.
  • Social Security never entered the discussion. Again, if you planned like the Bensons, you’re not relying on it and might delay collecting until age 70 to get the maximum dollar benefit.
  • If you live in a state with an income tax, expect to pay a few thousand dollars a year in the above scenarios. has a tax calculator that includes state taxes for every state.
  • You will not be paying FICA taxes if you have no earned income as was the case with the Bensons.
  • There is a net worth above which avoiding federal income tax is no longer possible. You know, Mo Money Mo Problems. It depends on how your dollars are distributed. If you’ve got that much, which I estimate is north of $5 million, paying taxes should be no problem at all. There is also an age at which it becomes unavoidable (70 due to RMDs) unless you’ve managed to convert most or all tax deferred dollars into Roth (or spent it all).

What is the take-home message for you?  Do these analyses make you more or less likely to consider an early retirement?  How likely is it that the tax code will remain largely intact by the time you will be ready?

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