FIRE the Tax Man: The Ultimate Guide to Taxes in Early Retirement

Tax Gain Harvesting 1
23 min read

Updated concepts through 2021 and beyond.

When it comes to financial independence and retiring early (FIRE) taxes can make or break a financial plan. Early retirees, defined as people retiring in their 20s, 30s, 40s and sometimes 50s, are in a unique scenario requiring specialized tax planning to optimally navigate tax code designed for people roughly twice their age.

Retiring well before traditional retirement age poses unique challenges and lucrative opportunities when it comes to social security eligibility, early, penalty-free access to retirement accounts and legitimate ways to never pay taxes again. In this guide we’ll explore each of these topics and provide concrete, actionable takeaways to approach, achieve and embrace early retirement in the most tax-efficient way possible.

A few points on methodology before we get started:

  • All numbers and concepts are reflective of tax rates and laws at the time of writing. As legislation changes, concepts and principles will be updated but math may reflect prior tax year values.
  • In scenarios where we consider self-employment income, we do not factor in the employer/business-side of the Social Security and Medicare taxes. These are taxes the business pays per se, not the individual
  • Due to the many combinations of state taxes, city taxes and the complexities representing scenarios for readers in every locale, all calculations will assume domicile in one of the 7 income-tax-free states: Alaska, Florida, Nevada, South Dakota, Texas, Washington and Wyoming


The most important concepts for the early retiree, or really anyone focusing on taxes, are the progressive nature of taxes, the last-dollar principle, the taxation of different income sources and Social Security credits. This will set the foundation for our later topics.

Progressive Nature of Taxes

The US tax code is progressive. When income increases the following events happen:

  • Income is subject to higher tax rates
  • Deduction, credit and shelter eligibility begin to phase out or is eliminated
    • Earned Income credit is eliminated
    • Savers credit is decreased then eliminated
    • ACA subsidies are decreased then eliminated
    • Ability to contribute to IRA and 401k simultaneously is decreased then eliminated
    • Ability contribute to a Roth IRA is decreased then eliminated
  • Additional taxes are phased in
    • 0.9% Medicare tax on earned income
    • 3.8% Medicare surtax / Net Investment Income Tax (NIIT) on capital gains

This is in contrast to a flat tax where all income is taxed equally or a regressive tax where greater amounts of income are taxed at decreasing rates.


  • Greater income can mean greater tax liability

Last-Dollar Principle

Suppose a single person working for megacorp made $52,221 in 2019. After standard deduction that number drops to $40,021. This puts them in the 22% tax bracket.

2019 tax brackets for ordinary income – single filer

How much does this person owe in federal taxes?

Hint: being in the 22% tax bracket does NOT mean the entire $40,021 is taxed at 22%.


Using the 2019 tax brackets for ordinary income, let’s calculate the federal tax liability:

  • The first $9,700 is taxed at 10%
  • Then, the amount over $9,700 but less than $39,475 (i.e. $21,775) is taxed at 12%
  • Finally, the amount over $39,475 ($546) is taxed at 22%.


  • 10% bracket: 9,700 * 10% = 970.00
  • 12% bracket: 39,475 – 9,700 = 29,775 -> 29,775 * 12% = 3573.00
  • 22% bracket: 40,021 – 39,475 = 546 -> 546 * 22% = 120.12
  • Total = 970.00 + 3,573.00 + 120.12 = $4,663.12

Even though this person falls into the 22% tax bracket, “only” 1.3% (546 / 40,021) of their $40k of taxable income is actually subject to the 22% tax rate. The rest of the income is subject to lower tax rates.

Wait a minute! This person earned 52k yet they’re only being taxed on 40k. This is due to the standard deduction. The first 12k dollars earned are taxed at 0%.

The last dollar earned, the 40,021st dollar (or 52,221st dollar depending on how we want to look at it), is taxed at 22%. Meanwhile, the middle dollars are taxed at varying lower rates.

FIRE Taxes Early Retirement - last dollar graph
Federal tax on each bracket of income. Notice the first $12,200 incurs no taxes while the last $546 is taxed at 22%.

If earned income is less than or equal to the standard deduction, taxable income is $0 and no federal income taxes would be owed (social security and medicare, or the self-employment tax for those that are self employed, would still apply).

As we work our way through this guide we’ll explore tools and strategies that exploit the fact that the first and last dollar earned are taxed differently. This will allow an early retiree to potentially lower or eliminate income taxes.


  • Be mindful how the last dollar is taxed as it’s often different than how the first or middle dollars are taxed
  • The standard deduction serves as a 0% tax bracket

Income Sources

The are two income tax brackets: one for ordinary income and one for long-term capital gains.

ordinary income tax brackets for 2019
long-term capital gains tax brackets in 2019

Did you see that? There’s a 0% tax bracket for long-term capital gains, too. More on how we can use this to our advantage later.

What kind of income is considered ordinary vs long-term capital gains?

Ordinary Income

  • Earned working for an employer (W2)
    • Wages, Tips, etc.
    • Supplemental Income (i.e. bonuses)
  • Through running a business or freelance work (1099)
  • The interest earned in a checking or savings account
  • Proceeds from holding bonds
  • Capital gains from assets held less than 1 year (short-term capital gains)
  • Nonqualified dividends
  • IRA Distributions

W2 and 1099 income is also subject to employee payroll taxes:

  • Social Security @ 6.2%
    • Income above $132,900 is NOT subject to Social Security taxes
  • Medicare @ 1.45%
    • Income above 200k is subject to an additional 0.9% Medicare tax

Long-Term Capital Gains

  • Capital gains from assets held 1 year or longer (long-term capital gains)
  • Qualified dividends
  • Gains above 200k are subject to an additional 3.8% net investment income tax (NIIT)


  • Social Security and Medicare taxes are not assessed on investment and interest income
  • Long-term capital gains:
    • are gains on assets held 1 year or longer
    • are taxed at lower rates than ordinary income
    • have a 0% tax bracket
  • Short-term capital gains are:
    • are gains on assets held less than a year
    • are taxed as ordinary income
    • have a 0% tax bracket (the standard deduction)

Social Security Credits

Social Security to an early retiree is a distant uncertainty. Whether it will be exactly as it is today, modified or completely dismantled is anyone’s guess. Thus, the approach is to fiscally plan for no benefit to be received while going through the motions to secure whatever benefit might be available.


To be eligible for Social Security we of course have to pay into the system. In particular:

  • Earned money has to be subject to Social Security taxes. Money earned abroad and certain types of government and educational institution compensation is not subject to SS tax and is therefore not counted as paying in.
  • One has to earn $1,360 or more for 40 three-month quarters. These quarters don’t have to be consecutive, but an equivalent of 10 years of contributions need to be made before reaching SS eligibility age.

For the early retiree in their 20s or 30s, there’s a possibility they may not have paid in for 40 quarters. It would be advantageous to earn and report some wage (W2) or self-employment (1099) income later in life to lock in 40 quarters of contributions to ensure coverage.


  • To be eligible for Social Security one has to have at least $1,360 of income subject to social security tax for 40 quarters
  • To review contributions to date, quarters earned and overall SS eligibility, visit

Early, penalty-free access to retirement accounts

In the following sections we’ll review different ways an early retiree can access pre-tax money penalty-free before age 59.5.

No, we’re not talking about the arbitrary, strings-attached loopholes that only allow money to be spent on specific things or in specific scenarios like a new home purchase or healthcare costs.

We’re talking about early and penalty-free access to do whatever we want with the money. These are the Rule of 55, Roth IRA Conversions and 72(t) SEPP.

Just in case you were wondering, here’s the list of all the strings-attached loopholes currently available for early, penalty-free access. It wouldn’t be a bad idea to keep these on file just in case. Some of these are better than others:

  • Qualified higher-education expenses
  • Qualified first-time home purchase up to 10k in a lifetime
  • Health insurance premiums if collecting state unemployment
  • Medical expenses above 7.5% of AGI
  • Become disabled
  • Die (the beneficiary won’t pay the penalty)

Rule of 55

This first mechanic is age dependent and applies only to people between 54 and 58. It should be considered before the other approaches as it’s the most flexible of the three (aside from the rigid age requirement of course). Feel free to skip to the next section for the non-age-dependent options.


The IRS has a rule called “Rule of 55.” This rule states if we leave our employer in the calendar year in which we turn 55 or older we can access “qualified retirement plans” such as 401k, 403a and 403b (see the IRS website for a complete list of applicable plans) without incurring the 10% early-withdrawal penalty. The reason for leaving the employer can be anything – resignation, layoff, termination with cause – anything.

For example: if you’re 54 in March, leave your employer in June then turn 55 in November, you’re eligible to avoid the 10% penalty.

One key point: only the funds in the 401k account associated with the employer we left are eligible for the penalty waiver. Other 401k accounts from previous employers are not eligible. To work around this, consolidate all 401k accounts with the current employer before leaving the employer.

To take full advantage of this rule ask the plan sponsor if they permit reverse rollovers. That is, rolling IRA funds into a 401k. According to the Plan Sponsor Council of America, 69% of employers allow reverse rollovers. Why would we want to roll IRA dollars into a 401k? If we have 100k in an IRA and roll it into the 401k, that 100k is now eligible for penalty-free early access.

Self Employed

Working for yourself? Open a solo 401k at your favorite brokerage; all the above concepts apply. A solo 401k is for anyone that’s self employed and has no full-time employees other than the business owner, and if applicable, their spouse. Disregarded entities such as single-member LLCs can take advantage of this, too.

Company-Sponsored Plan Not Offered

Suppose we’re not self employed and our employer doesn’t offer a company-sponsored retirement plan. Start a side hustle then open a solo 401k.

This doesn’t have to be anything fancy, just something to check the box. Cut someone’s lawn and make $20, roll available accounts into a solo 401k, then quit the lawn care business.

Be sure to report these earnings as business income come tax time and don’t write them off with home-office deductions or what not. The point is to formally generate [nominal] self-employed income / profit.


  • 401k funds can be accessed penalty free by leaving an employer the year in which we turn 55, 56, 57 or 58
  • 401k accounts can be sponsored by an employer as well as a sole proprietors and disregarded entities such as LLCs
  • IRA dollars can be accessed penalty free by rolling them into the 401k prior to leaving the employer

Roth IRA Conversions

We know that contributing to a 401k or IRA during our working years can turbocharge our savings and accelerate the journey to early financial independence. The challenge with contributing to these vehicles is of course accessing the funds before age 59.5 (or age 55 as we saw above).


Before we dig in it’s helpful to understand how Roth IRAs work:

  • Contributions can be withdrawn at any time tax and penalty free. Suppose we contributed 5k to a Roth IRA two years ago. We can safely withdraw 5k today tax and penalty free, no strings attached.
  • Growth (dividends, interest and capital gains) in Roth IRAs can NOT be withdrawn before age 59.5 without incurring taxes and penalties. That 5k we contributed 2 years ago? It grew to 6k. The 5k can be withdrawn but the 1k of growth can’t be transferred out until age 59.5 unless we want to pay taxes and penalties on the 1k.

As it turns out, there’s actually a third mechanic of Roth IRAs: conversions. We can convert some or all of our traditional IRA dollars into Roth IRA dollars whenever and as often as we like. Converted funds can be withdrawn tax and penalty free after 5 years.

Suppose in 2019 we convert 20k from a traditional IRA to a Roth IRA. In 2024 we can withdraw 20k from the Roth IRA tax and penalty free, no strings attached. Any growth on that 20k can’t be withdrawn before age 59.5, however, without the usual taxes and penalties.

Conversion Amount

How much should we convert each year? Convert no less than your standard deduction minus any ordinary income. For example, if an early retiree single filer earns $1,000 in interest and $1,000 in short-term capital gains from selling options for a total of 2k in ordinary income, convert no less than $10,200.

Should we do this even if we don’t need the funds? Yes! It’s tax-free money.

As we learned earlier, the last dollar is taxed differently than the first dollar. In our original example of earning 40k after deductions, suppose the worker was contributing a few thousand dollars to a 401k over the years. In doing so they avoided paying 22% tax on those dollars – the last dollars they earned which were subject to the 22% tax bracket. When they convert the money from a traditional IRA to Roth IRA in early retirement these dollars are the first dollars earned and are taxed at 0% courtesy of the standard deduction.

FIRE Taxes Early Retirement - Roth IRA conversion chart
Graph of Roth IRA conversion for a single filer in 2019 with 2k of earned income. The conversion offsets the “negative” income from the standard deduction, bringing total ordinary income to $0.
FIRE Taxes Early Retirement - Roth IRA conversion table
click or tap for larger version
example income statement

There is no limit to how much we can convert each year. Keep in mind converted amounts above the standard deduction “breakeven” will be taxed as ordinary income and subject to the ordinary income tax brackets.


Suppose we want to perform a Roth IRA conversion. Here’s how we’d go about executing the concept:

  • Contribute to pre-tax accounts like a 401k and IRA during working years
  • Retire early
  • Roll any/all pre-tax retirement accounts into a traditional IRA. There are no taxes or penalties associated with this step and brokerages should not charge any fees.
  • Determine how much should be converted.
    • This is usually best performed in December as we’ll have a better picture of ordinary income earned for the year.
    • By populating the handy FIRE Tax Optimizer tool with this year’s income we’ll be able to easily identify the minimum size of our Roth IRA conversion space
  • Convert funds from the traditional IRA to the Roth IRA by logging into the brokerage and transferring shares (or selling shares and transferring the settled cash depending on brokerage capabilities)
    • While no early withdrawal penalty will be incurred, standard federal income taxes will be assessed on the amount converted. Remember, these funds were deducted from our income during our working years and we didn’t pay taxes on them. Now that we’re “withdrawing” the funds they will show up on our income statement and are taxed as ordinary income. Amounts in the “negative income” space will be tax free.
  • At tax time next year (and every subsequent year a Roth IRA conversion is made), fill out Form 8606. This lets the IRS know we made a Roth IRA conversion and the funds are excluded from the 10% penalty.
  • Wait 5 years for the converted funds to ferment
  • Withdraw the converted funds tax and penalty free (or simply leave them in the Roth IRA for continued tax free growth; the money can be withdrawn whenever we like)
  • Repeat every year when possible, creating a “ladder” of converted dollars.


  • Roth IRA contributions can be withdrawn at any time tax and penalty free
  • Growth withdrawn before age 59.5 is subject to tax and penalties
  • Conversions can be withdrawn after 5 years tax and penalty free
  • For every year earned income is less than the standard deduction, a conversion should be made in an amount no less than the standard deduction minus any earned income
  • There is no limit to how much can be converted from traditional IRA to Roth IRA; amounts over the standard deduction “breakeven” will be taxed as ordinary income

72(t) SEPP

What if we want immediate penalty-free access to funds in our traditional IRA? This is where the 72(t) SEPP (substantially equal periodic payments) rule comes into play. This rule is the least flexible of the three penalty-free withdrawal options – once it’s established it must be maintained for a minimum of 5 years or until age 59.5, whichever is later. Failure to maintain withdrawals, or an error executing throughout the years, will trigger penalties retroactively for ALL years since the 72(t) was initiated PLUS back interest on the retroactive penalties.


Rule 72(t) turns a retirement account into an immediate annuity, a fancy way of saying “being able to withdraw a defined amount of money each year.” There are three methods in which we can implement rule 72(t):

  • Minimum Distribution Method – the amount withdrawn each year is variable
  • Amortization Method – the amount withdrawn each year is identical
  • Annuity Method – the amount withdrawn each year is identical

These implementation methods require a bit of math and pulling many pieces of information under a single roof. To help us run the numbers we’re going to use a calculator at the appropriately-named We’ll need to determine the account size, interest rate, and calculation method in order to understand how much we can withdraw each year.

Account Size

First, we need to determine how much of our traditional IRA we want subject to the 72(t) distribution. Why is this important? Once we start taking SEPP any contributions and non-72(t)-related withdrawals in the account will break the rules and invoke retroactive penalties and interest.

Organic growth and dividends that occur are okay. Similarly, we’re free to buy/sell within the account. However, new funds cannot be added and any withdrawals have to be part of the SEPP distribution. If we ever want or need to contribute to an IRA in the future, we’ll need to contribute to a different account.

If we want to allocate only part of our IRA to 72(t), roll that portion into a separate IRA and setup 72(t) on the newly created account; 72(t) is account specific. In other words, we can setup 72(t) on one account while doing roth conversions on a different account.

Interest Rate

Next, we need to determine the interest rate. According to the IRS:

The interest rate that may be used is any interest rate that is not more than 120 percent of the federal mid-term rate for either of the two months immediately preceding the month in which the distribution begins.

Hmm. Luckily there’s a handy cheat sheet here that simplifies that.

If we were to setup 72(t) on April 29, 2019 the interest rate we should use is 3.15%. If we instead set everything up on May 4, 2019, the interest rate we should use is 3.10%.

Calculation Method

Finally, we need to select the calculation method. My recommendation is to stick with the annuity or amortization methods as the annual payment amount is fixed. Why is it advantageous to have a fixed amount? We don’t have to calculate unique distribution numbers each year. This allows us to setup automatic annual withdrawals at our brokerage to ensure we don’t make an error and subject ourselves to penalties.


Suppose we have 300k in IRA funds and we want to setup 72(t) withdrawals on 200k starting May 20 2019.

  • Roll 200k into a separate IRA account
  • Identify the annual withdrawal amount on 200k by populating the online calculator at
    • Owner Born: 9/28/1984 (not my actual birthday or birthyear)
    • Beneficiary: (ignore this line)
    • SEPP method: Armoritization
    • Total IRA Value: 300k
    • Amount to SEPP 200k
    • 1st payment date: 5/20/2019
    • SEPP interest rate: 3.10%
  • Review the results and identify the SEPP Payment for the method selected – $8,025.74 in this example.
  • Configure the brokerage account to auto transfer $8,025.74 annually starting May 20, 2019. Be sure there is ample settled cash in the account before the transfer date. If capital is invested we’ll need to sell shares a few days prior to the auto-withdrawal date to ensure cash is available for the transfer
  • Fill out this form, print to PDF and keep it with your finance files. It documents the SEPP configuration used such as start date, calculation method and interest rate should you ever be audited.
  • At tax time next year (and every subsequent year a SEPP withdrawal is made), fill out Form 5329. This lets the IRS know we made a SEPP distribution and the funds are excluded from the 10% penalty.
list of all the distribution types and amounts


  • 72(t) allows immediate penalty-free withdrawals from IRA accounts
  • Once 72(t) is established it must run for a minimum of 5 years or until reaching age 59.5, whichever is later
  • Annuity and amortization methods offer fixed annual distributions over the life of the 72(t) whereas the minimum distribution method requires a unique amount to be calculated each year
  • 72(t) distributions are account-specific; they can be setup on one or more IRA accounts while leaving others unaffected.
  • To decrease the amount withdrawn via 72(t) decrease the value of the underlying account prior to starting the process
  • Contributions and non-72(t)-related withdrawals in accounts with an active 72(t) plan will void the process and invoke retroactive penalties and interest

Never Pay Taxes Again

When we transition to early retirement our source of income is no longer wages (W2) or self-employment (1099). As we learned earlier, this means we no longer pay Social Security and Medicare taxes. Meanwhile, most portfolios have assets invested in the stock market which causes the asset’s value ebb and flow. We can harvest capital gains and losses associated with these movements on a yearly basis and turn them into tax benefits. Also, as we mentioned earlier there are 0% federal tax brackets! Let’s if there’s a way we can mix and match these concepts so we can never pay taxes again.

Social Security Optimization


By becoming an early retiree and discontinuing W2 and 1099 income we immediately stop paying Social Security and Medicare taxes. Pretty straight forward.

The question that comes to mind is: won’t we get less from SS if our lifetime contributions are less due to shifting our income sources? If we’re assuming that 20-30 years from now the program will remain exactly as it is today, yes. But we won’t be missing out on much. Let me explain why.

Calculation Method

Social Security monthly benefits are calculated in a three-tiered manor. In the first tier we earn $.90 for every dollar of eligible contributions. Not too shabby. However, after we cross through the relatively low ceiling of the first tier and enter the second tier we earn $.32 for every additional dollar – nearly a 66% haircut. What about the third tier? 15 cents on the dollar.

Consider someone earning 27k/year starting in 2008 and receiving 1k bumps every year for a total of 11 years. Their 11 years of lifetime contributions fully fills the first tier, as we can see when we plug this into our FIRE Social Security calculator.

Hypothetical scenario to satisfy the first tier of SS income. Notice how older earnings are adjusted for inflation.
Monthly retirement benefit [in today’s dollars] if this person never earned (or reported) another dollar from W2 or 1099 work for the rest of their life.

Any additional earnings experience significantly diminished returns. Delaying early retirement for the purposes increasing SS benefits is not an optimal move.


  • By embracing early retirement we can lower our lifetime contributions to SS and Medicare while getting the most bang for our buck

Tax Gain Harvesting (TGH)

Tax gain harvesting is all about selling investments that have appreciated in value, tax free. Recall that Roth IRA conversions work to fill “negative” income caused by low-to-no ordinary income and the standard deduction. Tax gain harvesting works to fill the 0% space of the long-term capital gains tax bracket.

It’s important to note this concept only applies to assets in taxable accounts such as an individual brokerage account. Assets in 401k, traditional IRA and Roth IRA accounts receive the benefit of tax-free growth and therefore never experience capital gains taxes.

As a reminder, long-term capital gains are gains on assets held for 1 year or longer. This concept does not apply to short-term capital gains. That is, assets held for less than a year.

Let’s refresh ourselves with the long-term capital gains tax brackets.

long-term tax capital gains brackets of different filing types


Unlike other forms of income, we only owe capital gains taxes when the gain is realized.

What does it mean to realize a gain? Suppose we purchase 100 shares of stock that’s trading for $50 – a 5k investment. A year from now the stock is now worth $60 and we have a gain of 1k (100 * 60 – 5,000 initial investment).

However, this gain is “on paper;” we can’t spend it. To get our hands on, or realize, the 1k we would have to sell the 100 shares.

When we sell the shares our account now has 6k from the proceeds of the sale: 5k from the initial investment, called basis, and 1k of capital gains. The year in which the gain is realized is the year in which we’ll be assessed taxes.

It’s important to understand the difference between proceeds, basis and gain.

  • Proceeds is the total amount received after selling stock
  • Basis is the initial investment used to purchase stock
  • Gain is the difference between proceeds and basis


Let’s continue the example used in the Roth IRA conversion section.

A single filer earned 2k in ordinary income in early retirement, experienced a “negative” income due to the standard deduction, then used a Roth IRA conversion to generate $10,200 of ordinary income to “break even” at $0, all tax free.

Over the course of a year that person also received 8k in qualified dividends. According to the long-term capital gain tax brackets this leaves $31,375 available (39,375 – 8,000) to realize long-term capital gains at a 0% rate.

This person bought 400 shares of stock 10 years ago for $50. That stock is now trading at $200 and the investment is worth a total of 80k (400 shares * 200 per share). They have a basis of 20k (400 * 50 initial share price) and a gain of 60k (80k proceeds – 20k basis).

To realize $31,375 in gains we would need to sell 52.2% (31,375 target / 60,000 gain) of our shares – 209 (round down to the nearest whole share).

We login to our brokerage, sell 209 shares, then immediately buy them back (or spend the money). We just realized $31,350 (209 shares * 200 current price – 209 shares * 50 initial price) completely tax free!

FIRE Taxes Early Retirement - tax gain harvesting chart
maximizing the tax-free space using a Roth IRA conversion and tax gain harvesting
FIRE Taxes Early Retirement - tax gain harvesting table
click or tap for larger version
the corresponding income statement

This person had an income of $51,550 completely tax free!

If the scenario was a married couple, the numbers can double to $103,100!


  • There is no benefit in performing tax gain harvesting in accounts that provide tax-free growth
  • Tax gain harvesting only applies to assets held 1 year or longer
  • Taxes are owed on capital gains in the year in which they’re realized
  • Gain is the difference between an investment’s proceeds and basis
  • Individuals and married couples can earn over 50k and 100k per year, respectively, completely tax free

Tax Loss Harvesting (TLH)

With all this talk about gains it would be unrealistic to ignore the fact that losses occur. The idea behind harvesting capital losses in early retirement is to lower ordinary income so we can increase the size of the tax-free Roth IRA conversion.

Losses are calculated the same way as gains: subtract the basis from the proceeds. The only difference of course is the number will be negative in value.


Similar to tax gain harvesting, tax loss harvesting only applies to assets in taxable accounts such as an individual brokerage account. Assets in 401k, traditional IRA and Roth IRA accounts receive the benefit of tax-free growth and therefore are not eligible to reap the benefits of harvesting losses.

Tax loss harvesting has some unique attributes:

  • Capital losses are applied to capital gains first, then ordinary income. Hence, harvesting losses should not be performed in the same tax year as harvesting gains.
    • Even though long-term capital gains and qualified dividends are taxed at the same rate, receiving qualified dividends does not impact our ability to apply capital losses to ordinary income.
  • Capital losses can be harvested on assets held for any duration
  • After selling a stock for a loss we must not purchase that stock in the next 30 days. Failing to wait 30 days before repurchasing generates a wash sale event and the loss is disallowed
  • A maximum of 3k in capital losses can be applied to ordinary income in any single year
  • Unused capital losses can be carried forward indefinitely to subsequent tax years and must first be applied to offset any/all of that year’s gains, then up to 3k of ordinary income


A single filer earned 2k in ordinary income in early retirement and received 8k in qualified dividends.

This person bought 400 shares of stock 6 months ago for $50. That stock is now trading at $25 and the investment is worth a total of 10k (400 shares * 25 per share). They have a basis of 20k (400 * 50 initial share price) and a loss of 10k (10k proceeds – 20k basis).

To realize the 10k loss we need to sell all 400 shares.

We login to our brokerage, sell 400 shares, done. As long as we don’t buy the same stock over the next 30 days the 10k loss can be used at tax time to offset ordinary income.

Since the loss was realized this year and we experienced no capital gains, we’ll be able to deduct 3k from our ordinary income and increase our Roth IRA conversion by the same amount. In fact, we’ll be able to do this for the next 2 years. 3 years from now we’ll be able to offset the final 1k.

FIRE Taxes Early Retirement - tax loss harvesting chart
maximizing the tax-free space using a Roth IRA conversion and tax loss harvesting
FIRE Taxes Early Retirement - tax loss harvesting table
click or tap for larger version
the corresponding income statement


  • There is no benefit in performing tax loss harvesting in accounts that provide tax-free growth
  • Tax loss harvesting in early retirement is used to raise the ceiling for tax-free Roth IRA conversions
  • Capital losses are used to offset capital gains first, then ordinary income
  • Tax loss harvesting should not be performed in the same year as tax gain harvesting
  • To be able to apply the capital loss at tax time we must avoid generating a wash sale event
  • Receiving qualified dividends does not impact our ability to apply capital losses to ordinary income

Margin Loans

In this context we will be using margin loans as a form of tax arbitrage.

Suppose we need or want one-time access to taxable funds in excess of what the 0% tax bracket affords. We have two choices:

  • pay taxes on the amount in excess of the 0% tax bracket
  • pay interest on a margin loan for the amount in excess of the 0% tax bracket


Instead of selling positions and paying 15%, 20% or more in taxes on realized gains over the 0% bracket we instead sell fewer positions over time and borrow the rest on margin.

We avoid the higher tax brackets, pay a nominal amount of margin interest then pay off the margin loan in the following year(s) when tax scenarios are more favorable.

This approach has three other potential benefits beyond paying less or no tax:

  • capital remains exposed to the market allowing for growth and dividends
  • margin interest may be tax deductible allowing for greater Roth IRA conversion space
  • Modified adjusted gross income (MAGI) for the year will be lower, increasing ACA subsidies or securing other MAGI-dependent government benefits


To demonstrate the concept we will exaggerate the scenario by declaring that all proceeds from sales are gains (as opposed to a mix of basis and gains). The effectiveness of this concept diminishes as the ratio of gains to basis decreases.

We will use 3.41% as the margin interest rate, a rate which is publically available on amounts from $0 to $1M at Interactive Brokers at the time of writing.

A single filer in 2019 intends to sell 100k of positions.

Option 1: sell 100k worth of positions and realize the taxes in a single year.

Login to the brokerage account, sell enough positions to equal 100k, done.

In this scenario we realize a little over 9k in taxes and our MAGI increases by the full amount of the gains realized.

realizing 100k in 1 year; MAGI = 100k

Option 2: sell some of the positions in year 1 to stay in the 0% bracket and borrow the rest on margin. Then, sell additional positions in year 2 and 3 to pay off the margin loan.

Login to the brokerage account, withdrawal 100k, sell enough positions to equal 34k, done.

  • In year 1 withdraw 100k on Jan 1 and sell 34k of positions for a total margin loan of 66k
  • In year 2 login and sell another 34k on Jan 1, reducing the margin loan to 32k
  • In year 3 login once more an sell 32k on Jan 1, paying off the margin loan

Each year our MAGI increases by the full amount of gains realized, 34k, 34k and 32k, respectively.

realizing 100k over 3 years; MAGI = 34k in year 1 and 2, 32k in year 3

By using margin to avoid long-term capital gains taxes we lower the cost of accessing capital by 63%. This also has the added benefit of keeping MAGI lower (100k vs 34k) which could be used to optimize ACA subsidies or secure other MAGI-dependent government benefits.

When generating a margin loan do not borrow more than 20% of the total account value. This is to ensure a margin call is avoided should another 2008 event occur and the account value is cut in half.

In this example we had a max loan value of 66k. This means the account should have been no less than 330k (66k / .2) in size. Larger loans are possible but increase the risk of a margin call during market downturns.


  • Using margin loans is a form of tax arbitrage, paying margin interest instead of taxes at a far more favorable rate (~3.5% margin interest vs 15-20% taxes)
  • By using margin, capital remains invested allowing for potential growth and dividends
  • Margin interest may be tax deductible, increasing Roth IRA conversion space
  • Borrowing on margin does not increase MAGI allowing MAGI-dependent benefits such as ACA subsidies to remain non-impacted
  • Do not borrow more than 20% of the account value when generating a margin loan


We covered a lot of topics in this guide. I hope you found the material useful, relevant, and actionable.

As you may have noticed, there were two tools I used when demonstrating some of the ideas and concepts. Namely, the FIRE Tax Optimizer and FIRE Social Security Calculator.

The FIRE Tax Optimizer is useful for estimating and optimizing current-year taxes, both during the working years as well as in early retirement. Populate the blue cells with estimate or actual values for the current year; the table auto-updates.

The FIRE Social Security Calculator is useful for forecasting the monthly SS benefit if we were to stop working today and join the ranks of early retirement. Populate the blue cells with your contribution amounts from; the table auto-updates.

These tools have served me well in my personal journey to FIRE and have come in handy when consulting. I’m making them available to you, the readers, to play around with and use in your own early retirement planning. I hope you find as much utility and enjoyment in using them as I do.

Already subscribed? Navigate to the bottom of any new-post notification email and click “update your preferences” to access the spreadsheet link.

The tools are set as read-only in order to preserve the template. To edit, make a copy then edit the copy.

You’ll need to save your own copy of the document before you can make edits.

As the tax brackets and laws change I’ll keep both this post and the tools up to date. Be sure to check back for updates!