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Is it a good idea to put my earnings from sold stock into my IRA then take that money out as a loan from the IRA?

Sold $2500 of individual stock (mostly earnings since the shares were bought ~15yrs ago) to fund a mutual fund account or Roth IRA. To avoid taxation, should I put that money in my IRA, then take a $2500 loan from my IRA (at4%) I want to keep this stock money accessible before retirement and because I am only 27 and in a low tax bracket, would like to start funding a Roth. Thanks!

Jan 20, 2014 by Johnathan from San Diego, CA in  |  Flag
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2 votes

As others said, you cannot take a loan from an IRA.

However, it sounds like you can avoid federal capital gains tax if you are in a low tax bracket because investors in the 28% or lower bracket do not pay federal income taxes on capital gains. However, if your state has an income tax, you will be subject to state tax.

You also have mutually exclusive goals for your money. If you want to keep the money accessible, it sounds like that money swill be needed and should not be in an IRA but in a brokerage account. If the money is meant for retirement, put it into a Roth IRA and don't touch it. Manage it well, but treat it as if it became poison if taken out. People who take money out early from retirement accounts, do just that - they kill their retirement and the vast majority of Americans fall prey to that temptation.

2 Comments   |  Flag   |  Jan 27, 2014 from Charlotte, NC
Larry McClanahan, CFP®, ChFC, CLU, CASL

Probably just a typo David, but actually long term capital gains taxes are 0% only for folks in the 10% and 15% federal income tax brackets. Taxpayers in the 25% and 28% federal income tax brackets will still pay 15% capital gains tax. In any event, as we both indicated, it sounds like Johnathan may be at an income level where it's going to be 0% for him.

Flag |  Jan 28, 2014 near Clackamas, OR
David L. Hoshour AIF®

Yes, thanks for catching that. The top end of the 15% bracket is s$73,800 for married filing jointly or surviving spouse, and $36,900 for singles, so quite a few folks will be able to avoid taxes on long-term capital gains.

Flag |  Jan 29, 2014 near Charlotte, NC

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1 vote

Hi Jonathan,

There are lots of "moving parts" to your question so let me tackle the components and then offer some thoughts on what it sounds like you're trying to achieve.

If you sold the individual stock at a gain (outside of an IRA or Roth IRA), the capital gains will be taxable regardless of what you decide to do with the proceeds. Having said that, you indicated that you're in a low tax bracket. If you're in the 10% or 15% federal income tax brackets, the long-term capital gains tax rate is currently 0%. That would be for 2013 taxable income up to $36,250 for a single filer or 72,500 for married filing jointly. You'd need to check if California will impose a capital gains tax at your taxable income level.

If you contribute the $2,500 to an IRA you can take a federal income tax deduction for that amount. If you contribute it to a Roth IRA, there's no income tax deduction but it has the potential to grow tax-free, provided you don't draw it out before you reach age 59 1/2.

Loans cannot be taken from IRAs or Roth IRAs.

If you draw the money out of an IRA, it's considered a "distribution" and will be subject to income tax and a 10% federal penalty tax if you're under 59 1/2. (There are some exceptions to the 10% penalty such as first time home buyer, disability, certain medical expenses, and so forth.)

If you draw the money out of a Roth IRA, your original contributions can be distributed tax-free (because you already paid tax on them), but any earnings withdrawn would be subject to income tax and the same 10% federal penalty tax if you're under 59 1/2.

Roth IRAs are intended to be long-term retirement accumulation vehicles and, in many cases, they can also be great for passing wealth to the next generation on a tax-favored basis. While I don't recommend people use Roth IRAs for their "accessible money," if you find yourself in a tough spot, you can always withdraw from the Roth IRA up to the original contributions without incurring taxable income. But that also assumes that your investments have done OK and that you have more in your Roth IRA than you contributed.

If you need "accessible money"--meaning you may need it in the short-term for some purchase, or as an emergency reserve--then I recommend you keep those funds in savings or a money market account outside of any IRA or Roth IRA. And yes, with current short-term interest rates nailed to the floor, savings and money market rates probably won't earn enough interest to buy a candy bar, but at least the funds will be available when you need them.

Hope this helps. All the best!

View all 4 Comments   |  Flag   |  Jan 20, 2014 from Clackamas, OR
William Clay Tucker, RICP, CAP, CRPS,...

Johnathan - no, this is a bad idea all around.

Flag |  Jan 21, 2014 near Canton, GA

If you want a liquid $2500, save it from your after tax paycheck...or reduce how much you're putting into a 401k. Alot of complexity on such a small amount as already echoed.

Flag |  Jan 22, 2014 near Oak Creek, WI

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Rich Winer Level 20

Johnathan, You can't take out a loan from an IRA. So, putting money in a traditional IRA and then withdrawing some of the money prior to age 59 1/2 would not make sense. The "early" withdrawal would be subject to taxes plus a 10% IRS penalty.

If you invest the proceeds in a Roth IRA, you can withdraw your basis (the amount you have contributed) at any time. Any growth in your investment could not be withdrawn until age 59 1/2, otherwise it would be subject to taxes plus a 10% IRS penalty.

Finally, investing the proceeds from your stock sale in either a traditional or Roth IRA would not help you avoid paying taxes on any capital gains from your stock sale.

2 Comments   |  Flag   |  Jan 20, 2014 from Woodland Hills, CA
Rich Winer

Jonathan: In response to what you wrote to Larry, It's hard to tell how much benefit would come from all the complexity because we don't know how much you invested, how much you made or whether it's a short of long-term gain. I would pay the tax and make your contribution to a Roth IRA. If you're in a low tax bracket, I think you'll get a greater benefit from trading a current year deduction for long-term tax-free growth. In other words, I would rather give up a $2,500 tax deduction today in exchange for the ability to withdraw $42,000 (9% annual rate of return) at age 60, completely income-tax-free! If you invest the $2,500 in your IRA, you'll get the $2,500 tax deduction today and pay income taxes on $42,000 at age 60. That's a good deal for the IRS, not you. Don't worry as much about the capital gain on your stock sale, invest the proceeds in a Roth IRA, start building some tax-free wealth.

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Flag |  Jan 21, 2014 near Woodland Hills, CA
Larry McClanahan, CFP®, ChFC, CLU, CASL

Agreed with Rich on the Roth IRA focus, particularly with your low tax bracket.

Flag |  Jan 21, 2014 near Clackamas, OR

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1 vote

No. You must need the money if you are asking about putting the money into an IRA then taking it out as a loan (which you can't do anyway). Just pay whatever the capital gains taxes are on the sale of the stock and use the proceeds. If you don't need the money, the deduction you get for putting the money into an IRA will help offset the capital gains taxes.

Comment   |  Flag   |  Jan 21, 2014 from Canton, GA

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In addition to the comments above, if you take a loan from your 401k, and repay over 5 years, you are repaying with after-tax dollars. When you withdraw at retirement, you will be paying tax again, effectively double taxation. And if something happens to you or your job, and you do not repay on schedule, you are in default; you must pay income tax on the balance plus 10%

Comment   |  Flag   |  Jan 22, 2014 from Delray Beach, FL

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