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Smart Moves to Secure Your Retirement

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It takes a lifetime of smart investing to build up the nest egg you need to have a financially secure retirement. Once you've successfully retired, though, it still takes clever planning to hang onto as much of your money as you possibly can.

Making the most of retirement accounts
If you're like most successful savers, you'll enter retirement with a number of different types of accounts. If you've taken advantage of traditional and Roth IRAs to help you save for retirement, they may well have built up over the years to be a sizable asset. You might also have a pretty big chunk of money in your 401(k) account at work -- or in a rollover IRA if you've moved your retirement assets out of your employer's plan since you quit working. And finally, you probably have some of your money in regular taxable accounts.

So with all your money stashed in different places, which accounts should you tap first to finance your retirement expenses? Conventional wisdom argues that you should generally spend down your taxable accounts first, then use your traditional IRAs and 401(k)s, and leave the Roth assets for last. Here's why:

  • Your taxable investments consistently create more tax liability. For instance, if you own high-yielding dividend stocks like Apollo Investment (Nasdaq: AINV  ) or Altria Group (NYSE: MO  ) , then you're paying taxes on the dividend income you receive year in and year out. Spending those assets down can reduce your taxable income, costing you less in taxes.
  • Conversely, the longer you keep money in tax-favored accounts, the more benefit you'll get from the tax savings they bring. Since the tax-free nature of Roth IRAs makes them even more valuable than traditional tax-deferred accounts, using your Roth last can help you preserve those tax-free assets the longest.

Using that strategy to spend down your assets is a reasonable starting point. But there will be times when you want to break those rules. Here are two common situations where alternatives might leave you and your family better off.

1. Owning long-term big gainers.
The dream of every long-term investor is owning a stock that provides huge returns over time. But oddly enough, sometimes it makes sense not to reap your profits from such stocks, even if they're in a taxable account.

As an example, say you've held a portfolio with these stocks over the past 30 years:

Stock

Current Share Price

Cost per Share in 1980

ExxonMobil (NYSE: XOM  )

67.22

3.82

Wal-Mart (NYSE: WMT  )

53.63

0.12

Johnson & Johnson (NYSE: JNJ  )

64.29

1.45

IBM (NYSE: IBM  )

125.62

15.56

DuPont (NYSE: DD  )

35.20

5.88

Source: Yahoo Finance. Cost per share accounts for stock splits.

Selling those shares in a taxable account will leave you subject to paying capital gains tax on your gains. And even though they'd be long-term gains that qualify for the lower 15% maximum tax rate, that would still add up to a lot of tax.

If you pass those shares on to your heirs after you die, however, they may qualify for what's known as a stepped-up basis. That means the capital gains tax liability essentially disappears.

So if you're left with the choice of cashing in longtime stock holdings, you might instead want to pull money out of an IRA. You'll pay tax on your withdrawals, but your heirs would have also had to pay tax when they spent IRA money you left them. In some situations, the tax savings for you and your heirs makes up for the loss of tax deferral from spending down your IRA sooner than you have to.

2. Taking advantage of low taxes now.
Also, it may make sense to take money out of an IRA now -- or convert it to a Roth IRA -- if you're in a lower tax bracket than you expect to be down the road. After age 70 1/2, you have to start taking money out of traditional IRAs. Those required minimum distributions can push you into a higher bracket, costing you more in tax.

Spending down your accounts can help you reduce those latter-year RMDs, thereby reducing your tax liability. Sure, you pay a little more in tax now -- but it might be at a 10% or 15% rate, rather than a higher rate of 25% or more down the road.

Be tax smart
Many retirees have the philosophy of putting off paying tax as long as possible. Sometimes, though, a little pain now is worth a lot of gain later. Being aware of the tax implications of how you spend your retirement nest egg can help you stretch every dollar a lot further.

To have a secure retirement, you can't afford to make mistakes. Let Fool contributor John Rosevear tell you about the biggest blunder you'll ever make with your retirement money.

Fool contributor Dan Caplinger always looks for ways to spend smarter. He owns shares of Altria Group. Wal-Mart is a Motley Fool Inside Value pick. Motley Fool Options has recommended buying calls on Johnson & Johnson, which is a Motley Fool Income Investor pick. Try any of our Foolish newsletters today, free for 30 days. The Fool's disclosure policy had a shopping problem once, but it got over it.


Read/Post Comments (1) | Recommend This Article (9)

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Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On March 11, 2010, at 7:57 PM, funfundvierzig wrote:

    DuPont??

    Unsuspecting savers who invested in this moribund stock for their retirement dreams ten years ago, for the period ending Feb. 28, 2010 would have ended up with a disgusting annual average total return of MINUS 0.38%. And that's with dividends thrown in! It's even worse when the cost of living is considered, and the real MINUS return is calculated.

    DD topped out at 84.44 on May 19, 1998 and has been trending south ever since, under the weight of decisively mediocre Management in Fortress Wilmington.

    ...funfun..

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Dan Caplinger
TMFGalagan

Dan Caplinger has been a contract writer for the Motley Fool since 2006. As the Fool's Director of Investment Planning, Dan oversees much of the personal-finance and investment-planning content published daily on Fool.com. With a background as an estate-planning attorney and independent financial consultant, Dan's articles are based on more than 20 years of experience from all angles of the financial world.

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12/19/2014 11:25 AM
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