Transcript:
Easan Arulanantham:
Why is it better to pull from a non retirement taxable account than a IRA? So an individual retirement account?
Tom Vaughan:
Okay, so let’s see what we call the buckets of money. Right? Now we got his taxable accounts, people call them individual counts, brokerage accounts, Tod accounts, trust accounts, right, have different names. But basically, in that tax will count, when you make changes, you have to report them on your tax return that could be taxable as dividend or interest that ends up being tax free. And IRA. On the other hand, you only pay taxes on it, when you withdraw, you can make changes without having to report them. dividends and interest are deferred until later, you basically only pay when you withdraw. And so one of the things that you have to figure out is where do I get my money from? What is the sequence of withdraws? Where do I go first? Where do I go next? And where do I go after that? Right? So really, it should be take money from taxable accounts, first, tax deferred accounts like an IRA 401k. Second, and tax free accounts like a Roth last. So when we go through that lineage, so there are some criteria and some things to think about. That’s the simple version and answer, yep. But you don’t particularly want to run all of your taxable accounts, because that would include your bank account your checking savings to zero, before you start going to your IRA, because you are going to have some need for an emergency buffer. So you kind of say, Okay, I’m not going to go below that, right. And so I’ll make this up. Let’s say I’ve got $100,000, and of total assets in taxable accounts, I don’t want to get below 50, at 50 MLK, but below that I get nervous. So that means I can spend the other 51st. Right.
And the reason that you go to the taxable accounts first is because of taxation, the capital gains tax, if held on for more than a year is lower than ordinary income tax. Right. So that’s great. And there’s a chance that some of the money you have in there, you’ve already paid taxes on. So when you pull that out, it’s essentially tax free. Yeah, returning of your capital is always tax free, right? There’s only get taxed once in that scenario. So whereas when you withdraw from that IRA, it is every nickel, for most part, unless there’s some weird things going on with after tax dollars, but for most people, you know, it’s all tax deferred. And when they pull money out, the whole amount that they pull out is taxable. And it’s taxable at ordinary income rates, which are higher than long term capital gain rates. Right. Yeah. So. So that that’s the that’s the main issue, as far as that goes, in terms of you know, where to pull the money from, you know, kind of first, second or third. And that’s why we look at that. The other criteria, though, that I would say, besides having an amount for an emergency buffer that you don’t want to run below, sometimes people have some really good assets in those taxable accounts that are doing fantastic. And so let’s say you worked at some company, and it’s just going and going and going and going right, and you know, should you really be running that down to zero just because of taxation, giving up this fortune that you could have, if it continued to grow like that, there is a certain amount that you should be careful of letting something like that dominate your life, because any company can fall apart, GE fell 90%, from high to low. If that can happen to GE really not going to happen to any company, at some point in time, you have to be a little bit careful.
But I would be much more in tune with trying to keep a majority of that and maybe just kind of pruning little bits and pieces off. And so let’s just say it, for example, I’ve got a million dollars in this taxable, of which, you know, 900,000 is this one stock. And it’s doing great, and it’s a good company, it’s really solid, the market seems to like it, in general, it does better than the market over time. And so I’m gonna be looking at my IRS sooner than I would even I have a lot of money in the taxable because I’m, I’m not making as much money in my IRAs, potentially, as I am here. You can do some different things. If you really love that stock, you could sell some, you know, here to live off of buy some back in your IRA. So you can kind of keep some of that same exposure that way, but generally speaking, we don’t do that it’s just a matter of now, do I want that to become $5 million? Or yeah, I mean, is there some number where it gets too big, so maybe I’m gonna prune on that once it gets to that number. So that that’s the that’s the overall thought process with kind of taking money out of a taxable account versus an IRA account. We start with the taxable account. There are some caveats as to how far we go with that, but that’s where you Want to start and it works it makes a lot of sense once you really think about it