Tax question - can I do a backdoor roth this year, or will it hurt me?

[siahus]

I had to quit my toxic academic job in Mar this year. I just started a new job this month (Nov). So my earned gross income for a total of 5 working months for 2017 = $40,750 (in 1st 3 months) +34,166 (in last 2 months of 2017) =$74,916. I have contributed the IRS limit of $18,000 into my 401K + $6,000 catch up as I turned 50 a couple of months ago = my taxable income $50,916 for 2017.

I am so burnt out, that I met with a couple of wealth management advisors that my friends use, and we came to the conclusion that if I continue to save the way I have been, I could become Financially Independant (FI) by 5 years. I have no debts at this time, single, no kids, not a home owner (I think it is over rated specially in a big city and I am not interested in maintaining one/being tied to if I can quit medicine in 5 yrs and move wherever I want to and start another career that is less emotionally toxic as medicine has become these days), no need to leave a significant amount for anyone after me (my younger sister and a charity will get what is left behind as my beneficiaries).

so here are my questions:

1. Can I contribute to a backdoor Roth IRA? I have been told by Fidelity and Vanguard advisors, that since I have a post tax IRA (that I keep contributing to from my bank account after my salary comes in, so I leave only $30-50K emergency/daily living expenses in bank), that it is a bad move and will cost a huge tax event. My tax accountant, who charges me $500 for a 1040 EZ and never gives me advice, but knows my situation well for the past 10 yrs, says it is OK to go ahead and do it. So I am stuck

2. With the plan to become FI in 5 yrs, my Vanguard advisor wants me to become less aggressive in my portfolio (currently 85% stocks mostly index funds and some sector funds; and 15% bonds) to 65% stocks and 35% bonds. If I do this, I am looking at a capital gains of approx $250K. My tax accountant says that since I made less gross income this year, I should just go ahead and pay the capital gains tax on the $250K which may be 15-20% (max $50K if 20% capital gains tax applied) and continue building tax free. However, I have read somewhere, that if I delay doing this until I am FI, or, rebalance the portfolio every year to reach the 65:35 by 5 years, I could get away with lower capital gains tax. I am unclear if having less gross income will make it beneficial to bite the bullet and pay the taxes and sit back, or when my salary is full next year, my capital gains might be closer to 20% and it will hit me more.

 

Thanks!

[spiritrider]

1. One option is to rollover any pre-tax IRA balances to your 401k if they accept rollover contributions from IRAs. This would just leave any non-deductible basis. You can then make another non-deductible traditional IRA contribution and do a conversion of the account. Only what negligible earnings if any will be taxable.

If your 401k plan does not accept rollover contributions from IRAs. Depending on your other income/adjustments to income. If your IRA MAGI < $62K you can deduct the full pre-tax traditional IRA contribution. Between $62K and $72K the deduction will be phased out.

If neither of these were available, you could make another non-deductible traditional IRA contribution and convert the entire balance. The basis would be the sum of all of your non-deductible contributions, leaving the remainder of the account taxable.

2. The capital gains tax rate does not increase to 20% until your are in the 39.6% tax bracket. In 2017 that is $418,400 for a single taxpayer.

Is that 85:15 asset allocation across all accounts. If not can you reallocate some/all of your tax advantaged account  stocks to bonds to adjust the AA?

You probably have room this year to handle the $250K in capital gains without hitting the 20% rate. However, that would be $37.5K in capital gains taxes. Do you have enough other assets to pay those taxes or will you have to sell more stock to raise the tax payment. Personally, I would only do what I could reasonably cash flow each year.

[siahus]

@ Spiritrider: Thanks. Disclaimer:I am fairly naeive to all this, so please don't mind my stupid questions/responses. As an employee, I don't know where I would get pre-tax money over the allowed $18K limit (plus the $6000 50+ catchup I started this year) to rollover to an employer sponsored 401K. Also I don't think employer sponsored 401Ks allow rollover from other IRAs

I don't know what an IRA MAGI is

The reason my tax person thinks I should do the portfolio readjustment this year is exactly what you said, that I might be able to get away with 15% capital gains tax, as in 2018, my income will be full time ($200K) and probably still not high enough to reach the 39.6% tax bracket, so I could have a capital gains tax of about $38K and be done with it. I have $30K in the bank right now. By tax time in April, if I don't move the savings to a non deductible IRA (like I do every whenever I hit 50K) I should easily have the $38K to pay off the capital gains tax without having to sell more. DO you agree?

Yes, I was thinking that I could just start going forwards, contributing more to bond Index funds and hold off adding to stocks, like you just suggested

[spiritrider]

Rollovers have no impact on employee or employer 401k contributions. Since you can only rollover pre-tax assets to the 401k, there is no tax liability. You are simply rolling over the pre-tax IRA assets to the 401k, there is no money that you would need to get.

IRS regulations specifically allow the rollover of pre-tax IRA assets to an employer plan. This is the only way to isolate (leave behind) non-deductible IRA basis allowing you to do a Roth conversion with little to no tax liability of the traditional IRA.

The IRS regulations allow this, but do not require a plan to do so. The majority of plans do allows this, so you should check with your plan. You should get moving on this as this all needs to be completed by 12/31.

You didn't answer my question about asset allocations. If this 85:15 AA only in taxable accounts or is it the portfolio in total? You should be 100% in bonds in your tax advantaged accounts before you should pay capital gains taxes to rebalance from stocks to bonds.