The Power of Tax Free Investments with David McKnight

Do you believe tax rates will be higher in the future than they are today? There is about $21 trillion in the 401(k)'s and IRA's across the country. If you were to look at the cumulative amount of money in Roth IRA's and Roth conversions, there is only about a trillion dollars. Most people believe taxes will be higher down the road and aren't doing anything about it. You are either going to pay the IRS now, or you are going to pay them later. It's as simple as that. If you put money into a tax deferred bucket, you are saying it makes more sense to pay taxes in the future when they will be higher rather than they are now. People just can't seem to be able to bring themselves to pay a tax preemptively, even if it will save them money. We love to procrastinate painful things. Paying taxes at historically low tax rates is going to be much less painful than if you wait until later. Leading economists believe that taxes may be dramatically higher as soon as in the next 8 to 10 years. There are a lot of investments that masquerade as tax free but in order to be tax free an investment has to be free from both state and municipal taxes. When you take a distribution from a tax free investment it shouldn't count as provisional income. Up to 85% of your social security can become taxable to you at your highest marginal tax rate. The Roth IRA is truly tax free as long as you are 59 and a half when you take the money out. There are other versions of the Roth that are also tax free. Taking up to standard deductions from your IRA or 401(k) can also be considered a tax free stream of income. The life insurance retirement plan works very similarly as a tax free investment that comes with a few other perks you can take advantage of. By prepaying taxes, you are shielding yourself from the ebb and flow of tax rates over time. The only way to truly insulate yourself from the impact of higher taxes is to get to the zero percent tax bracket. It's almost impossible to get to the zero percent tax bracket with a single stream of tax free income. Make sure you shift your money to your tax free bucket slowly enough to avoid dramatically increasing your tax rate in the meantime. On the other hand, you do want to shift it quickly enough that you get all the heavy lifting down before tax rates go up. The amount you should shift each year is your Magic Number and it depends on your investment horizon. There is another deadline that you have to consider, if congress does nothing 2028 to 2030 may be a big problem in terms of taxes. Small increases in the marginal tax rate are not the issue, what you should be prepared for is tax rates doubling some time in the future. Don't put all your eggs in one basket, the IRS or congress could legislate that one basket out of existence.