t1larg.tax-forms.t1largOur post on how you can Never Pay Taxes Again has been quite popular.  It has been linked to, shared, cited, viewed, searched for, and commented upon more than any other post.  Many people love it, and are excited about the possibilities.  Others wonder, “Is it real?”  After all, if it sounds too good to be true, it usually is.

Let’s see what happens when the rubber meets the road.  And what better example than to review our very own 2013 Taxes?

Income this year was primarily from index fund and individual stock dividends, interest from a seller-financed mortgage on a property we sold a few years ago, and interest from our cash reserves and a municipal bond fund.

Total income was a little more than $37,037, which easily covered all of our 2013 travel expenses of $33,429 (although not our atypical and non-recurring expenses)

With this level of income, we had lots of opportunity to reduce future taxes.  We moved $12,028 into a ROTH IRA as part of an IRA Conversion, and also captured $44,197 of capital gains

All together, our adjusted gross income was $91,752.  How much tax did we pay on such a high figure?  You guessed it… $0

To explain, below you will find a copy of our 1040 and details about how it all plays out

f1040 page 1f1040 page 2

The 4 Principles in Action

You may remember the 4 principles from the original post on not paying taxes:

  • Choose leisure over work
  • Live well for less
  • Leverage ROTH IRA Conversions
  • Harvest Capital Losses AND Capital Gains

We lived all 4 principles as part of life and tax planning in 2013.

With no earned income, leisure was definitely the priority.  This is evident on Line 7, Wages, salary, etc… where we entered a big fat ZERO.  If you work for the man, you have to pay the man, but with no earned income we were able to eliminate FICA and earned income taxes

A married couple filing jointly has a standard deduction of $12,200 and personal exemptions of $7,800.  With these deductions, the first $20,000 of income from working, interest, short term capital gains, and ordinary dividends is tax free.  Additionally, if income from these sources is sufficiently low to keep our marginal rate at or below the 15% tax bracket (below $72,500) then qualified dividends are taxed at 0%

Our total cost of living is modest, which allows us to withdraw from the portfolio at below these rates.  We live well, for less

Because of our low interest income, we had the opportunity to convert Traditional IRA funds into a ROTH IRA, tax free.  Our $7,388 in taxable interest income means we can convert up to $12,612 from an IRA to a ROTH IRA tax free (total less than $20,000).  Line 15a show our $12,028 in distributions

Our qualified dividends of $23,675 mean we can harvest up to an additional $48,825 in gains that Mr. Market has provided over the past couple of years.  On Line 13 you can see where we had long term gains of $44,197 (we left about $4,500 on the table here.)  Some of this is from doing normal asset reallocation, and some is from deciding to sell funds primarily to lock-in the gain

But if earned and interest income was below $20k, and qualified dividends and capital gains were under $72,500, why does Line 44 show tax due of $388?

Because of those pesky non-qualified dividends.  We had $4,464 worth of them, which brought our total earned, interest, short term gain, non-qualified dividends, and IRA withdrawals to $23,880.  The $3,880 remaining after our $20,000 deductions was taxed at 10%, or $388

We didn’t know how many non-qualified dividends we would have before the end of 2013, so we had to make estimates and estimated low (a good thing overall, since total dividends were higher than expected.)

But wait…

Impossible to avoid, some foreign tax was withheld from an index fund we own that holds foreign stocks.  $430.03, to be exact.  This can be used to offset any US tax liability, which in our case completely wipes out any tax due.  (A pretty savvy move if I do say so myself) ;)

The end result:  Line 76, Amount you Owe = $0


With an adjusted gross income of $91,752, we paid no tax

All of this while harvesting some long term gains and doing a ROTH IRA Conversion, reducing or eliminating future tax liability

So there you go:  Clear evidence that by following the 4 principles, it is possible to live well in early retirement while paying no tax