Playing the Hand that's Dealt

While I would have preferred a continuing bull market, it would have been too easy to have a successful early retirement. I would have become too complacent and probably would have eventually taken too much risk or possibly invested in an investment scheme:-) The economic and stock market downturn have reinforced that there are no guarantees in life, or retirement. Financial success is not as simple as "investing in a diversified stock portfolio"

The past year has given me ample opportunities to sharpen my financial skills during a recession and bear market. Hopefully, we'll be better positioned to take advantage of an economic and stock market recovery when it happens. Here are some of the actions that we have taken:

Convert traditional IRA fund to Roth IRA funds. While the earnings of both IRAs are tax free, only distributions from Roth IRAs are tax exempt. Distributions from traditional IRAs generally are taxable, to the extent that non-deductible contributions are exceeded.

Since most stocks are down from 2007, we can pay less takes for the same amount of shares converted. While we are paying taxes on the amount converted to a Roth, future earnings will be 100% tax free, both when earned and at withdrawal. Thus,when the market recovers, we won't be paying taxes on the gains for stocks transferred to a Roth IRA.

In addition, we were able to transfer funds at a effective tax rate of 5%, which is much lower than the 25% marginal tax rate I expect will have in the future.

Buy stocks on sale. While my initial attempt to time the bottom did poorly, I think the market has turned, giving investors the opportunity to buy a number for great companies at sale prices. I still believe that financial stocks are toxic and am not buying them. However, there are a number of great companies that are down 20 to 70% from their all time highs.

Of course, not all stocks that have declined significantly are good buys. My focus is to buy stocks that I think will emerge stronger from this recession, such as Amazon (AMZN) and Monsanto (MON).

Reduce taxes. Since our main source of income is from investments, we can manage the level of taxable income received to take advantage of various credits, income adjustments and special tax rates. As a result, we now eligible to qualify for several tax credits, 0% tax rate on long term capital gains, and over half of the adjustments to income.

Someday, I hope to pay zero federal taxes, as over 40% of tax filers already do legally. It was possible to do it for 2008, except we determined it was a better financial decision to do Roth IRA conversions and pay taxes.

In addition, with home prices falling, we have filed a request to reduce the appraised value of our home, which will reduce our annual property taxes.

At this time, I still believe that the economy and stock market will recover in the next year, if not sooner. The above actions should help us get more benefits from the recovery than if we had not done them.

Disclosure: At time of publication, we own shares of Amazon and Monsanto.

For more on Reaping the Rewards, check back every Friday for a new segment.

This is not financial, investment, tax or retirement advice. Please consult a professional advisor.

Copyright © 2009 Achievement Catalyst, LLC