The Case for Blended (Instead of Sequential) Drawdown for Early Retirees

25:16So part of the risk of this might be that the initial tax saved when the decedent was contributing to the tax deferred account. It's possible that that rate might be lower than the beneficiaries combined rate between, you know, their peak earning years and then having to liquidate these accounts. And then the absolute worst type of account for someone to inherit is an HSA. That's ordinary income and it's immediately taxable. I guess the best advice that I have is when planning for your date of death. Just make sure to, you know, liquidate your HSA and your tax deferred accounts. We have a lot of listeners who have the high deductible plans who have planned to have their HSA be a retirement account.

26:01Essentially, they are cash flowing their health care costs right now. And then when they retire or in the future, they will use those receipts that they're keeping to pull that money out tax free. So at what point in the retirement does that make sense? Does that make sense earlier in the retirement? Assuming they have all of these different kinds of accounts. Yeah, that's a great question. I wish I would have the crystal ball to know exactly when. I guess, theoretically, I guess maybe ideally it could be later in retirement as your health is starting to fail. And that way it gives you a little bit more of a runway for that account to grow.

26:38But like I said, you know, you're realistically not going to be able to plan for when your death is. You really don't know. So you're just going to kind of have to try to balance the two of those things. But I think an answer for the HSA is over the course of your life, you contribute to HSA, you build it up and hopefully it's a few hundred grand by the time you hit traditional retirement age and you keep all your receipts. And so if you're doing that right, you should have tens of thousands of dollars in cumulative medical receipts. Everybody's going to break their arm one time or their finger or whatever, you know, have some sort of thing come up.

27:11You're going to have$25 ,000,$30 ,000 of receipts, maybe more if you over 30 years, if you're saving them correctly. And then when the market goes down, when you have a bad year and you have this face with a sequence of return risk and other accounts, that's when you cash out portions of that, you know, use that as the savings account, right? That's when you cash out some of those funds in the HSA, I think, right? And that's how, that would be the approach I'd have, because it sounds like you don't want to die with the large HSA if you're trying to do best practices from a estate planning perspective.

27:41You want to use that one quickly. Is that right, Mark? Yeah, absolutely. That's a great point, and that's a great perspective, Scott. And, you know, the silver lining on this is, okay, let's say you do distribute those funds from the HSA to reimburse yourself for those qualified medical expenses. Well, you know, worst case scenario, if you don't actually need to spend that money and you've distributed too much, well, great. You can put it back in your brokerage accounts and then you've got funds in a pretty tax advantaged account, especially for people to inherit. Oh, that's a good point. My HSA is also invested in the stock market.

28:14So I might also have a down HSA year if I've got a down everything else year. That's true. We do talk about having that as a particularly aggressive account. So maybe I have to think about my logic there. And you have to have a different portfolio theory, maybe having more conservative portions of that later in life. I mean, we're just barely into this discussion yet, but I think all of this is saying, look, there is no one answer. It's going to be a nuanced withdraw strategy. It shouldn't be a one answer. It should be, you know, look at all of the tax implications. If I've got money that I'm pulling out that's 10 % tax and then money that I'm pulling out that's 12 % tax and I need a little bit more, maybe I just go to my HSA and not my Roth.

28:56I don't touch my Roth because that's a great account for my kids to inherit. so I'll just leave my Roths untouched and pull from the HSA, pull from these tax-deferred accounts when I can so that they're inheriting the good stuff and I am getting rid of the bad stuff. I mean, let's be real. Inheriting an HSA is still really awesome. Here's a pile of free money. If your kids don't want it, you can email mindy at biggerpocketsmoney.com. I'll tell you how to give it all to me because you're still getting a lot of money. Just you happen to pay taxes. I will pay the taxes on your behalf. Let's play this out here because this is really interesting.

29:32So we have our thoughts about, we first are grounding this discussion in tax rates are going to go up over time. And you want to put this money in the most taxable locations possible. I think we're also presuming that the Roth is going to be untouchable, right? They're not going to somehow renege on the promise that those funds will grow tax-free. With that perspective in mind, you've got the Roth being the Holy Rale as the best possible way to pass on assets. For now, those fair market assets are transferred to heirs at a stepped-up basis. That could change at some point in the future, but we'll take that for granted right now.

30:08And the estate tax transfer is like some absurdly high number, like$12 or$13 million right now. And I think it's almost a given. I would be shocked if that number does not come down adjusted for inflation over the next couple of decades with new administrations. The pendulum swings in these politics, right? And so I think it's a bad bet that that's going to be as high as it is for the next 20 or 30 years as well. And so there is a game of getting this money into the Roth and the taxable brokerage. And you know that the 401k and HSA are going to be taxed as ordinary income when they're withdrawn there.

30:42And that should impact your early retirement withdrawal strategy, I think. I think that very few people in the FIRE community are thinking about just how to spend every last dollar and die with zero. At least very few that have children or families, I think, are in that boat. I think there's a confluence of goals here and having an estate that is probably preserved for inflation, relatively speaking, to pass on to their heirs is a goal that is in the back of people's minds as part of their fire journey here. That all impacts this. Yeah, those are really excellent points, you guys. Really excellent points.

31:12All right. So taxable accounts, friend or foe. So I really think that taxable accounts have some negative connotations. And I guess it's just right there in the name, taxable. Ooh, you know, scary, bad, taxable. Well, I guess it's kind of important to reframe this. So most income is taxable. The difference is when it's recognized. And from the tax jargon standpoint, recognition means that, hey, this is gonna be included in income for the year and you're gonna have to pay tax on it. The big difference between taxable accounts and tax deferred accounts is that in taxable accounts, when you're paid out interest or dividends, that income is gonna be recognized in the year that it's paid out versus in a tax deferred account, if you've got interest income or dividend income, none of that's gonna be taxed until you actually take distributions from the tax deferred account.

32:05And then probably the thing that has an even bigger impact is when you're selling your positions, in a taxable account, you are gonna be recognizing gain or loss every time that you sell positions versus in a tax deferred account, you're not going to be recognizing any income until you actually take distributions. So you can rebalance your tax deferred accounts every day or every week. I certainly wouldn't advise doing something like that. But from a tax perspective, it's not going to trigger any kind of income. So with taxable accounts, basically, you know, don't sell positions that you're holding unless you're prepared to recognize the income.

32:43And so once you take that into account, then to some degree, you know, these taxable accounts can grow tax deferred. It will be tax deferred. The gain will be tax deferred at least until you then sell it and then you recognize the income. You know, another great thing about taxable accounts is the capital gains tax rates. We're going to see a little bit later a comparison between the ordinary income tax rates and the capital gains tax rates. But in a nutshell, the cap gains tax rates are extremely favorable. Another great benefit of the taxable accounts is the step up in basis at death. Another great advantage of the taxable accounts is that there's a lot of tax strategies available with taxable accounts, including stuff like donating appreciated stock, gain or loss harvesting, qualified business income deduction, qualified small business stock exclusion, like kind exchanges or 1031 exchanges, qualified opportunity funds, etc., etc.

33:38You know, There are some tax strategies that are available with tax deferred accounts, such as qualified charitable distribution. So with the taxable accounts, it's much easier to give. And so you think about this. Let's say you want to give your children or your grandchildren some money. Well, you can't just give them a chunk of your IRA or your 401k. In order for that to actually make its way over to them, you're going to have to take a distribution. The distribution is going to be taxable to you. and then you can give them the funds. Whereas with a taxable account, you've actually got the option to donate appreciated stock to your relatives.

34:17So let's say you've got a child or a grandchild or someone and they're in a lower taxable rate than you. Potentially they're in the 0 % long-term cap gains tax rate. Well, you can give that appreciated stock to them. They're gonna step into your shoes for their basis. And then when they sell that position, they're gonna recognize the gain and then that gain is going to be taxed at their tax rate. Assuming that we're not in a kiddie tax scenario, maybe we're talking adult children or whatever. Another great advantage with the taxable accounts is that you can borrow against the taxable accounts.

34:52So if your brokerage account allows you to, you know, invest in margin, then basically you have an off book loan. And right now, some of the margin interest rates are extremely favorable. I think some of the rates are potentially even lower than a 30-year mortgage. And a mortgage is basically the gold standard for cheap borrowing. In addition, taxable accounts can have more investment options. So think about stuff like purchasing homes, debt financed income, such as rental properties, active businesses, businesses, publicly traded partnerships, et cetera, et cetera. So to kind of set the stage for the mechanics that we're going to take a little closer look at, you know, why this blended approach might work, I want to lay out the different types of income.

35:38So we've got ordinary income, capital gains income, and we've got non-taxable income. And so in ordinary income, you know, the first one we have is earned income. So that would be any type of wage income or like self-employment income. And technically, maybe this is even a fourth type of income because in addition to it being taxed at ordinary income tax rates, it's also going to be subject to Social Security and Medicare taxes. So basically, earned income is the worst type of income to have. And it's not just because you have to work for it. It's because you're taxed the most for it. Other types of ordinary income that we've got would include pension income, tax-deferred retirement distributions from 401ks or traditional IRAs, social security income, at least to the extent that the social security income is taxed, interest, ordinary dividends, short-term cap gains, and net rental income.

36:36So this ordinary income just stacks on top of each other for the different income tax brackets, right? Let's say I make$10 ,000 in earned income and$10 ,000 in pensions and$20 ,000 in tax-deferred retirement distributions. That's$40 ,000 that I'm paying taxes on at the traditional tax brackets, like the 10%, the 12%. And so if I do$100 ,000 in all of these, then I'm really stacking myself up to all of these tax brackets and really paying a lot of tax on this ordinary income. Yeah, exactly. And we'll look at the tax brackets a little bit later. But exactly to your point, the more income that you have, the more ordinary income that you have, the higher that each subsequent amount of income is going to be taxed.

37:19I have a question about that for earned income. One issue I see with some people in the early retirement community is Social Security, right? So Social Security is a tax, but it is also not really a tax because you're getting that back later in life, presumably to some degree, based on the amount that you contribute. And so does that factor into your early retirement withdrawal strategy at all to have some kind of contributions to Social Security? Or do you just kind of ignore it and say, you know, on the whole, it's worse math to pay into it and then receive back later. You might as well just invest and keep your stuff outside of it and consider it a tax.

37:56I am probably a little bit more in the latter camp of thinking I could probably get a higher rate of return if I were able to just invest those funds that I were putting in to Social Security into, you know, my own portfolio. There's also folks who are worried that, you know, about the solvency of Social Security and what's going to happen in the future. I guess personally, I think it's going to be really hard for Social Security to go away completely. If you look at just kind of the numbers on what the average person or the average household has saved, they really don't have a whole lot saved.

38:31So I'm imagining that we're going to continue to find ways to fund Social Security so that people are able to draw on Social Security later in life. Personally, I would probably try to minimize what I can put into Social Security and maximize what my investment income is over my lifetime. But from a drawdown perspective, the fact that you might be collecting Social Security in your mid to late 60s is another motivation in my book for you to lower your tax deferred income. And basically what that does is it potentially lowers the amount of your Social Security income that might be taxable when you start receiving Social Security income.

39:11Yeah, I thought I'd just ask about it because it's not a complete loss, the Social Security tax, to the individual the way that all other taxes essentially are, at least from their standpoint. Yeah, that's a great point. And there are diminishing returns on the benefits that you receive versus what you paid in from Social Security. So at a real base level, yeah, you would want to be paying in enough Social Security to get the credit so that you can collect benefits when you get older. That will only be an issue for people who work less than like 15, 20 years, though, before you really begin getting really dinged, I think, in a hardcore way.

39:46There's a whole calculator around that we're going to be working on, and you can play around with that at the Social Security calculator on their official site as well. But something to consider. Sorry, keep going. Their website's great. If you log in, you can review all your years of Social Security income that have been paid in, and you can look at what tentative benefits might be. So that's a great point. But continuing on with the different types of income, then the next type of income that we've got would be long term capital gains income. And so, you know, we've got long term capital gains, primary income.

40:18And then relatively recently, like I think within the last couple of decades, qualified dividends were introduced. and basically if you hold the underlying position that pays out the dividends long enough and it's a qualifying uh u.s corporation or qualifying foreign corporation then with those dividends you can get the long-term cap gains tax treatment so that's pretty awesome and then for the the non-taxable types of income we've got stuff like qualified roth distributions qualified hsa distributions, qualified 529 distributions. We've got the return of basis on investments. So I just want to call out on this.

41:00If you purchase stock and then the stock appreciates and you later sell the stock, the entire amount that's realized from that sale isn't necessarily income. It's only the portion that's gained that's income. So typically, anytime that you're selling an appreciated position, you're getting a return of basis as well as some gain component on it. And then another great type of non-taxable income is the gain that's excluded on the sale of home. So if you own and live in a home for two of the last five years, a single person can exclude up to$250 ,000 of gain and a married couple can exclude up to half a million in gain.

41:45And now we just have a real quick comparison between the ordinary income tax rates and the cap gains tax rates. And so I guess maybe to simplify this a little bit for the people who are listening and they're not looking at the visual right now, when we look at the ordinary income tax rates, we start off with a 10 % rate and that's for your income. And I should qualify. These are the rates for a single taxpayer. The rates for married filing joint taxpayers will be roughly double until you start to get into the higher tax brackets. But for a single taxpayer in 2025, the 10 % tax rate applies on ordinary income up to about$12 ,000.

42:23Then the 12 % bracket applies between about$12 ,000 and$48 ,500. And then the 22 kicks in at$48 ,500 to about$103 ,000. Just looking at those first two tax brackets, the 10 % and the 12%, those cover taxable income, between zero and about 48 and a half thousand. If we shift over to the long-term capital gains tax rates, we see that the first long-term capital gains tax rate is actually zero percent. So for taxable income between zero and 48 ,350, the tax rate is zero percent. So that's effectively a 10 or a 12 percent discount on tax for cap gains income versus ordinary income. And that's long-term capital gains, right?

43:13Exactly. I should clarify, typically when I'm referring to cap gains tax rates, it's just a shortening of long-term capital gains tax rates. So that means if you're selling a stock, you need to have held that position for longer than a year. Or if you're receiving qualified dividends, you need to meet the holding requirement for the underlying security. So you can't just purchase the security, get the dividend, and then sell it immediately after. If you do that, it's not going to be a qualified dividend and it's not going to be taxed at long-term capital gains rates. All right. This is our final required minimum break.

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49:10Thanks for sticking with us. Okay, so as I read these two together, I can realize approximately$100 ,000 worth of income and pay 10 % on the first$12 ,000 and then 12 % from$12 ,000 to$48 ,000. And then that's it. The other$48 ,000, if I'm doing the long-term capital gains sales, I'm paying$0 on. So my effective tax rate is going to be super low. Well, that's a good question. we're actually going to see in a later slide about how these two different tax rates interact with each other. So when we are looking at these capital gains tax rates, we're not looking at them in isolation. The cap gains tax rates actually sit on top of the ordinary income tax rates.

49:56And I've got a great visual a little bit later on that we'll take a look at and we'll kind of explain that a little bit better because it's kind of opaque how the two of these tax rates interact with each other, and it's not well understood. Okay, then I will let you continue. So this slide demonstrates how the stacking of cap gains tax rates works on top of ordinary income rates. So this image is courtesy of Kitsies. It's from an article navigating the capital gains bump zone when ordinary income crowds out favorable capital gains rates. It's worth noting that this image was generated a few years ago.

50:38So the figures for the standard deduction and what the brackets are, it's a little dated, but the underlying concept still applies here. So in this particular example, I think this is probably a married filing joint couple where they've got$60 ,000 of ordinary income and then they've got$60 ,000 of cap gains income. Figuring out what taxable income is, the first thing that we do here is we reduce our ordinary income by either the standard deduction or the itemized deduction. So in this particular example, which is using older rates, the$60 ,000 is reduced by$24 ,400 and we're left with$35 ,600 of taxable income that's going to be taxed at ordinary income rates.

51:24On top of that is going to sit the$60 ,000 of long-term capital gains income. And so when we look at the ordinary income, this chunk's going to be 10%. The next chunk is going to be 12%. And then looking at the cap gains income, we see that, you know, some of this is going to fall into the 0 % capital gains zone. And then some of it is going to fall into the 15 % capital gains zone. And so, you know, even though, hey, ideally we'd all have, you know, just income and the 0 % cap gains rate, that's amazing. But even comparatively, the 15 % bracket is still great because if we compare that, you know, income that's taxed at the 15 % rate, the first couple of brackets, you're looking at 22 % and 24%.

52:09And then I guess if we go back to these other slides, you know, 32%, 35%. So, you know, they're really the more income that you get, there really ends up being a quite a large discount with the long term cap gains rate versus the ordinary income tax rate. So your tax rate here is what, 6.74%, but you're paying$6 ,000 on$100 ,000 of income, $95 ,600 of income. You're paying$6 ,000 in taxes. It's pretty incredible. The effective tax rate ends up being very low with the long-term cap gains factored in. Is there like a calculator? I've been into building calculators lately. Is there a calculator that does this for people that talks about, hey, here's how to think about these.

52:56You have these buckets, you have the 401k, you have the Roth, you have your after-tax brokerage account. You're going to be early retiree. So you're going to withdraw from your, you know, set up a 72T or some sort of distribution from your 401k. And that's going to be ordinary income. Then you're going to take the deduction. Then you're going to get cap gains or basis recovery from the other portions of it. Is there a calculator that does this for folks that you're aware of, or is it all through CPAs or enrolled agents like yourself? If you want to test a particular composition, I know that there are online calculators out there where you could go in, you can input your filing status, you can input how much ordinary income you have, how much long-term cap gains income you have.

53:33So there are tools out there if you want to DIY it. And if you really want to get into the nitty gritty, I haven't seen this and I have yet to build it out, but somebody could build out a calculator where they're able to sort of calculate the tax for a series of years so that you can figure out what the lowest tax is over a set, which with the approach that I'm pushing, that's really what I want people to consider is, you know, over a certain period of time, what's going to be the lowest amount of tax over that period of time? All right. Challenge accepted. All right. Now that we've got some of the mechanics out of the way, I want to revisit some of the approaches to draw down that I mentioned initially.

54:09So the first and kind of the standard is the sequential draw down. And I think the standard guidance is for the particular account types is first the taxable brokerage accounts, then the tax deferred accounts, then Roth accounts. As alternatives to that, I want to illustrate a blended drawdown approach where in a given year, you're taking some from each bucket. And then if we've got more time, then we might also be able to touch on cyclical drawdowns where the composition of your drawdowns aren't the same each year, but they might cycle through so that you can take advantage of the most favorable aspects of the tax code.

54:47I know this is a little overwhelming to look at, but we'll talk through it slowly. So this is a sequential drawdown example where in year one, there's long-term capital gains. And then in year two, the income is just ordinary income. You know, you can extrapolate this. It doesn't necessarily have to be a two-year set, but this is the most simplified example of this that you could think of compared to, you know, doing like, let's say a decade of one and then multiple decades of another. In this first example, in year one, we've got$64 ,000 of long term cap gains income. And before we get to our taxable income, this single taxpayer is going to be able to reduce their$64 ,000 of income by$15 ,750.

55:35So that puts the taxable income at$48 ,250. If we look at what our long-term cap gains brackets are, long-term cap gains for a single taxpayer are taxed at a rate of 0 % up to$48 ,350 of income. All of that$48 ,000 and change is going to be taxed at a rate of zero. So for year one, there's going to be zero income tax, which is phenomenal. In year two, we've got the same setup, except the$64 ,000 is composed of ordinary income. So if we walk through the same steps to arrive at our taxable income, we reduce it by the standard deduction, which is about$16 ,000, and then we get about$48 ,000 and change of taxable income.

56:20With this ordinary income, first we're going to be filling up the 10 % bracket, and then the rest of it is going to be taxed at the 12 % rate. So combined, there's going to be$5 ,552 of tax due on that ordinary income. So let's just say about$5 ,500. And what I want to compare this with is with a blended drawdown. So with a blended drawdown, we're going to use the same figures for income, except in both years one and year two, it's going to be comprised of$32 ,000 of long-term capital gains and$32 ,000 of ordinary income. So we've got the same taxable income. We've got$48 ,250. But if you recall back on the previous slide, the ordinary income is going to be reduced by the standard deduction.

57:11So even though there's $32 ,000 of ordinary income, the amount that's taxed as ordinary income is only going to be about$16 ,000. And so with this slide, we see how much is taxed at the 10%. So we've basically filled up the 10 % bracket that yields about$1 ,200 in tax. And then there's about 4 ,300 that's taxed at the 12 % rate, which yields about$500 in tax. So combined, the tax on the ordinary income is about 1 ,700. And if we continue down to the long-term cap gains, we say that we've got 32 ,000. Well, because our total taxable income is still less than the$48 ,350, all of that$32 ,000 is basically not taxed.

57:59It's taxed at a rate of 0%. So the total tax for the year comes out to about$1 ,700. And so when we do this in two years, we have combined tax of$3 ,423. Now, if we can compare that$3 ,400 of tax versus the$5 ,500-ish from the sequential drawdown approach, we see that there's over$2 ,000 of tax savings between the two different drawdown approaches. The amount that's taken out is identical between the two approaches, but because of the timing and composition of the income, we're able to yield tax savings with a blended approach. These two examples, you used a two-year approach, year one and year two.

58:40How far out should somebody be thinking about their tax withdrawal strategies, like the tax advantageousness of the different withdrawal strategies? Because the market's going to go up and down, your expenses might change. Is it good to think about it in two-year approaches or more than two-year approaches? That's a great question. We're not just looking at it in isolation in a two-year period. what I would probably do is I would model out the number of years that you're, you know, tentatively planning for a drawdown and then take a look at what the composition of your accounts is and see like how you can kind of boil that down to a simplified model.

59:18So your model, instead of it having two years, maybe you've got five years and each of those five years might, you know, actually represent a much longer period of time. Mindy, does that get at the question or is that helpful in any way or is there a better way I can try to tackle this? No, I think that's really helpful to just, I mean, this is just, again, it depends on your specific situation answer, but no, that gave me something to think about. Okay. How does this situation play with something like ACA subsidies and modified adjusted gross income? In these particular examples, it's just assuming that there's the same amount of income between years.

59:55However, it's worth noting that there's probably a little bit more nuance to that because as mentioned earlier, anytime that you're selling a position in a taxable brokerage account, there is going to be some element of return of basis on it and there's going to be some element of gain. So for purposes of Affordable Care Act subsidies, your goal is to have your MAGI, your modified adjusted gross income be at least at 400 % of the federal poverty level or lower. And actually, we'll see that a little bit later in another slide. But, you know, with the makeup of your income, you can basically lower the income for the year and have the same amount of income.

1:00:34So, for example, like, let's say you sell$20 ,000 of positions in a taxable account. Well, you know, not all that$20 ,000 is going to be taxable. So realistically in that year, if you're, you know, let's say you're just taking 20 ,000 out of a brokerage account versus 20 ,000 of a tax deferred account, you're going to show lower taxable income from that brokerage account transaction. If we back up a little bit and we look at the different approaches, sometimes the cyclical drawdown approach might be more beneficial to someone if they're trying to get their income lower. Let's say that you're not quite at the 400 % of the federal poverty level to be able to qualify for premium tax credit.

1:01:15Let's say you're$5 ,000 or$10 ,000 above it. Well, what you might do is you might create a cycle where some years you have less income so that you're able to qualify for those subsidies. And then other years you have greater income to be able to make up for, you know, what your average spend is over a series of years. That's a great answer to it. And I have not considered it. So some years you just pay full premium or you get less subsidies. And some years you can, it's a control of your income and you make hay while the sun shines or take advantage of what's available in the low income years.

1:01:51And in the higher income years, you pay your own way and realize those gains. And I think it makes perfect sense to me unless there's an opportunity for you to just stay below that threshold the entire time. Yeah, exactly. I think that's a good way to look at it. I think we kind of get this assumption that like, well, hey, I need$50 ,000 to live on for the year. So I'm going to have to take$50 ,000 each year. Well, you know, there are some games that we can kind of play with this stuff to be able to take advantage of it. So maybe you can't be below it every year, but maybe you can sort of cycle through the income that you take so that some years you can.

1:02:25and some years you're above it and you pay full price so here's the recipe for zero federal income tax on over 128 000 for a married couple and what is modified adjusted gross income in this situation could you let us know that as you describe this so we know the aca i honestly have to look up exactly what the definition is for modified adjusted gross income for purposes of the aca throughout the tax code they do refer to magi and sometimes magi is calculated a little bit differently for different things but essentially your modified adjusted gross income uh it's probably your total income before taking into account your standard deduction so it's looking at the sum of your capital gains income the sum of your ordinary income if you end up having any earned income for the year it's taking the sum of your earned income and i believe it also some types of income that might be non-taxable such as certain types of interest i do think for sake of the MAGI calculation that that's going to be added back in.

1:03:25I see the basic formula is MAGI equals AGI plus untaxed foreign income plus non-taxable social security benefits plus tax exempt interest. It seems like if MAGI is going to be a thing in your calculations, you have weird income and you would know it, right? I don't have untaxed foreign income or non-taxable Social Security benefits. If I did, then I would know that I had those and I would know that MAGI would be affecting my ACA subsidies, right? Yeah, exactly. If you're taking advantage of the foreign earned income exclusion or if you've got certain investments where the interest isn't going to be taxed, you'll probably be aware of that.

1:04:11The one that just might be a curveball for some folks is with their Social Security income. But I think most folks probably assume that all of their Social Security income is taxable, even though only up to 85 % of it's taxable. So that one's probably less of a curveball. So yeah, I think for most folks, there's probably not going to be a big surprise or really much of a difference between their adjusted gross income and their modified adjusted gross income for sake of the ACA subsidies. All right, so the recipe for zero federal income tax on over$128 ,000 for a married filing joint couple. Step one is to draw from tax-deferred retirement accounts until your total ordinary income reaches the standard deduction or your itemized deductions, if your itemized deductions exceed the standard deduction.

1:05:00So for 2025, this is$31 ,500 for a married couple. The next step is to harvest long-term capital gains until your qualified dividends and long-term capital gains hit the 0 % cap gains limit, which is$96 ,700 for 2025. And the last is, you know, if you still need more income, if, you know,$128 ,000 doesn't cover you for the year, then consider drawing on non-taxable accounts such as Roth and HSA. You know, in order to take advantage of this blended approach, there are some things that you can do to set up your taxable accounts for success. The first thing is that you should allocate portfolio assets to the wrapper based on income type.

1:05:46And I guess I should back up and there's another assumption at hand here. And then this is that you're looking at all of your different accounts in aggregate when thinking about your portfolio composition. So it's not saying, hey, I need this exact 60-40 split on the taxable account and then the same thing on the tax deferred account and the same thing on the Roth. It's kind of looking at all of it as one big pie. And so in doing that, you can put certain investments and certain types of wrappers to take advantage of the beneficial tax aspects of that type of income and that type of wrapper. So with taxable brokerage accounts, ideally, you're going to be holding stocks for long-term capital gains and qualified dividends.

1:06:37You don't want to be holding things that would pay out ordinary income. So you don't want to hold a ton of bonds in a taxable account. Ideally, what you would do is in your tax-deferred account, that's where you would place stuff like bonds, gold, managed futures, REITs, stuff where it's not such a slam dunk that you're going to be able to get long-term cap gains treatment for it. And the reason being is tax-deferred accounts distributions are going to be taxed as ordinary income anyways. So it's perfect for it to hold these types of investments that kick off ordinary income. And then with Roth accounts as well, shoot for the moon with the Roth accounts.

1:07:18Typically, you're going to want to have stocks in there for growth. Ideally, you're trying to get the biggest value is possible in your Roth account because you're not going to have to pay any tax on it. And the other thing to set up your taxable accounts for success is, you know, use the retirement accounts for rebalancing. So you're primarily going to use the tax deferred and the Roth accounts when you need to change the composition of your portfolio. Again, to reiterate the reason why, it's because anytime in the taxable account that you're selling a position, you're going to be recognizing gain or loss.

1:07:53So really the only time that you're going to want to be selling positions from the taxable account is when you're taking those funds out to live on, or if you're trying to do some gain or loss harvesting. All right. So based on what we've covered so far, I have two commandments. So the first commandment is do not waste the standard deduction or the itemized deduction. So fill this amount with ordinary income from tax deferred accounts or execute Roth conversions. And the other commandment is do not waste the 0 % long-term cap gains bracket. Harvest gains even if you don't need to take out the funds.

1:08:30That way, there's going to be less gain in the future or potentially you'll have some losses to be able to harvest. And then I think we did want to touch a little bit on healthcare considerations. I know we did just talk about this a little bit, but maybe it's worth reiterating or going into a little bit more detail. So both Medicare premiums and premium tax credit, which is the tax jargon name for the ACA subsidies if you have a marketplace policy, depend on modified adjusted gross income. So for Medicare premiums, you know, you might hear people talking about IRMA. Well, that's short for income-related monthly adjustment amount.

1:09:10Additional Medicare Part B and Part D premiums start to kick in when you've got MAGI above$106 ,000 for a single taxpayer or$212 ,000 for a married filing joint taxpayer. And it's interesting to note that IRMA is determined using brackets looking back two years. So your 2023 MAGI is used to determine what the 2025 income-related monthly adjustment amount is, or basically the additional premium you're going to have to pay. And for early retirees, the implications for premium tax credit are going to be more relevant. And you know, this is worth stating that maybe something's going to change about this.

1:09:56There was a big battle over the budget about whether they were going to keep the enhanced subsidies in place or not. But tentatively for tax years after 2025, premium tax credit is only available to households between 100 % and 400 % of the federal poverty level. And so based on what percent of the federal poverty level the household is at, the retired contribution to the premiums is gonna be calculated based on that. So basically the big thing is if you can stay below the 400%, there's a good chance you're gonna get a subsidy and your health insurance costs are gonna be capped. So the way that they calculate the premium tax credit is it starts with what the benchmark plan premium is.

1:10:43And from that, they subtract the required contribution, which is calculated based on what percentage of the federal poverty level your household is at. Basically for this, we're kind of getting, one of the best ways to be able to take advantage of this if your average income is gonna be above the 400 % of the federal poverty level would be potentially to cycle through income on years or to cycle through the composition of your income. Because chances are, if a greater amount of your income is being made up from selling securities in a taxable brokerage account, you're going to have more of that non-taxable return of basis.

1:11:23That all makes sense, guys? Are there any other questions we've got? That all makes a lot of sense. And I am super excited to dive into this again after, you know, I have to pay attention to the conversation when we're having the conversation, then I can go back and take notes and be like, ooh, what about this? What about this? And start applying this to my own plan, which I had not even thought about yet. But I think the blended drawdown with those potentially lower tax years spread out over a longer period of time is something that I'm really going to need to take into consideration. But this is so exciting for me.

1:12:01I really love this tax nerd stuff. If I knew then, what I know now, I would have studied to become a CPA, maybe. Awesome. All right, Mark, for somebody who is saying, I really like Mark, I really like how he handles this stuff. How can they get in touch with you? Yeah, I would say the best way to get in touch with me is if you can send me an email. So you can email me at markbtaxfi at gmail.com. So M-A-R-K-B-T-A-X-F-I at gmail.com. This was really fantastic. Thank you so much for sharing your wisdom here. I think that what this shows is that there's a lot more nuance to the way that you think about withdrawals and investing in these tax-advantaged accounts than can be simply described with one set of rules.

1:12:53But the two commandments you have are a great starting point for this. And this concept of cycling is really important. And there's a lot of thought and research I can go into this to save you those few extra thousand bucks in taxes on withdrawals from these accounts. So thank you so much for sharing this with us. Learned a lot today. Thanks so much, you guys. It was it was great being on the show. Yeah, I guess my favorite tax answer whenever somebody asked me something is it depends. And, you know, questions of drawdown during retirement, like other tax answers, it's typically it depends. So it's it's good to apply it to your particular circumstances.

1:13:27It seems like ultimately, once our listeners have a good grasp of what they think they want, they should have a conversation with a tax professional just to make sure that this is the most advantageous for their tax bill. So I appreciate you introducing all of these concepts to our listeners. And thank you so much for making this lovely presentation. We appreciate your time, Mark. And we'll talk to you soon. Thanks so much, you guys. Take care. All right, Scott. That was Mark. And that was a fantastic PowerPoint presentation that he walked us through. What did you think of his strategy? I thought it was great because I think the, you know, Sean Mulaney and Cody Garrett talk about, hey, withdrawal from the taxable first, then the 401k, then the Roth and that order.

1:14:15And I think that this blended approach kind of takes that and maybe gives folks another consideration point in that overall discussion. I am a little bit more of a subscriber to this philosophy personally, because of that long-term projection of tax rates going up. I really hate the idea of having a bunch of my wealth pre-tax and betting implicitly on tax rates staying constant or even going down over the course of my life. That's probably because I'm young and ambitious and have a lot of time ahead of me for things to compound and a lot of creative ways to add money to the pile, even though I've hit my financial independence number.

1:14:55So maybe some other people would not believe that, but I think that's a real risk. And so I think I like this approach of at least to some degree, withdrawing from the pre-tax accounts earlier. And of course, there are near-term benefits to the tune of a few thousand bucks. It's a small consideration, but why not take every last dollar of tax optimization as an early retiree when that's the game? So what do you think, Mindy? Well, I think that Mark presents an interesting alternative, and ultimately, you are going to need to look at your specific situation and see if this makes sense. Obviously, if you don't have any long-term capital gains available to you, this strategy might not work.

1:15:35But I love presenting differing points of view because it gives people other options that they may not have thought of, but that might work out really advantageously for them. So I just, I love that he shared this. Now I have to go in and look at all of my different types of accounts and talk to Carl and see which one would work for us. But I love having options. And that's what this is all about. So I am so thankful that Mark listened to our show, made this amazing PowerPoint presentation for us, which we will feature on our website at biggerpocketsmoney.com slash resources in our resource library.

1:16:12And while you're there, poke around and see what other kind of resources we have available for you. But I think that this is such a great option for our listeners. So I'm so thankful to Mark for joining us and sharing his ideas. Absolutely. Well, should we get out of here, Mindy? We absolutely should, Scott. That wraps up this episode of the BiggerPocketsMoney podcast. He is Scott Trench. I am Mindy Jensen saying cheerio, deario.