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After tax portfolio value
Old 02-22-2015, 11:16 AM   #21
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After tax portfolio value

I do know approximately what the percentage split is between tax-deferred and tax-free (Roth) in my retirement accounts, it's currently 68.5/31.5.

From there, the estimated post-tax value is easy to get, but it doesn't affect my plans for withdrawals at all.
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Old 02-22-2015, 11:28 AM   #22
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Originally Posted by audreyh1 View Post
No. I withdraw what I've established as my safe enough rate, no matter how little or more taxes I pay. Even if I end up with more after tax than I actually spend, I still withdraw it. So taxes have no impact on my withdrawal rate.

Taxes do impact how much I have available to spend each year!
Audrey:

A few questions, if you don't mind.

If you end up with more money after tax than you actually spend, where does it go? You still withdraw it, but do you include it as part of next year's portfolio?

What would you do if your tax bill increased your spending to be more than your safe withdrawal rate you established for the year?

How do you calculate your safe withdrawal rate each year? Is it a percentage of your portfolio?
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Old 02-22-2015, 11:30 AM   #23
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2 people could have a $1 million portfolio but have drastically different after tax values. For example: I could have $1 million in a regular acct where all withdrawals will be taxed at 15% due to everything being LTCG giving me an after tax portfolio value of $850,000. Another person could have $1 million in a 401k where everything will be taxed at their normal income tax rate which may be 25% giving them an after tax portfolio value of $750,000.

Do any of you give any consideration to the after tax value of your portfolio when it comes to deciding on your withdrawal rate?
Technically, net worth is supposed to be reported on an after-tax basis. But as a practical matter, very few people actually do that. My guess is that even fewer people do it when calculating withdrawal rates. It seems more straightforward and intuitive to include taxes as part of one's expenses and leave the portfolio gross. I suppose you could exclude taxes from both the numerator and denominator, but that won't change the rate vs doing it gross... 40/1000=4%... 30/750=4%... 34/850=4%. It would not be correct to exclude taxes from the portfolio but still include them in expenses when calculating WR.

The mix of taxable vs tax-deferred affects my withdrawal strategy (sequence, timing, SS), but it has no bearing on the withdrawal rate. Like Independent, I focus on dollars, not a rate. I withdraw what I need, when I need it. Taxes are just part of that need.

The relative advantage of taxable vs tax-deferred has to be considered in the context of an entire lifetime of tax-paying. I deferred tax at a very high rate while working. The most I'll pay now is some mix of 15% and 25% once RMDs start in 16 years, and that could be reduced with Roth conversions. More importantly, those deferred taxes grew, inside my portfolio, at a very significant rate during my working career.

Yes, as I sit here today, I'd love to have a larger after-tax portfolio and smaller tax-deferred. Who wouldn't? But it is what it is. I am comforted by the knowledge of how much tax I avoided via deferral and how much growth that enabled. If (as you suggest) my WR is high today due to embedded tax liabilities in my portfolio, then I would suggest that effect is more than offset by the size of the portfolio itself, which was enabled by deferral at a higher rate than I owe today. So in fact, my net WR today is lower than it would have been without the deferrals.
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Old 02-22-2015, 11:36 AM   #24
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For example: I could have $1 million in a regular acct where all withdrawals will be taxed at 15% due to everything being LTCG giving me an after tax portfolio value of $850,000.
Don't forget the highest LTCG rate isn't 15%, it's 20%. Then there's another 3.8% surtax above a certain amount (can't remember what it is off the top of my head) which makes the effective top rate 23.8%.

I see a lot of folks using 15% as the LTCG rate, but just be aware it can be as high as 23.8%
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Old 02-22-2015, 11:43 AM   #25
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Roth conversions don't make a lot of sense in terms of net worth just before and after the conversion if you don't allow for taxes. So in my simple calculations I try to approximate after-tax values to make myself feel better.


But I base all my financial planning on a more detailed year-by-year calculation that includes all taxes and calculates my yearly spending amount. Even with that, the concept of net worth is still pretty vague. Is it a liquidation value, an inheritance value, a current balance value, or sort of a nominal value assuming you can liquidate over many years with a lower tax hit? Other than setting some withdrawal rate limits, I usually only consider the annual spending amount and ignore net worth.
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Old 02-22-2015, 11:44 AM   #26
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Audrey:

A few questions, if you don't mind.

If you end up with more money after tax than you actually spend, where does it go? You still withdraw it, but do you include it as part of next year's portfolio?

What would you do if your tax bill increased your spending to be more than your safe withdrawal rate you established for the year?

How do you calculate your safe withdrawal rate each year? Is it a percentage of your portfolio?
No I don't. Once it's withdrawn, it stays withdrawn. It could be spent the next year. It could be used on a splurge within the next few years. I have very strong feelings about this. To me, the annual money withdrawn is money with which I've "won the game". I don't need to risk that money in the stock or intermediate bond markets any longer. If I invest it, it's outside the retirement portfolio and in short-term investments.

So when I rebalance, it's with the funds left over in the retirement fund after my withdrawal. And my annual withdrawal is only calculated on the funds in the portfolio.

Yes, my annual withdrawal is a fixed % of remaining portfolio (Dec 31 value each year), so my withdrawal amount varies in dollar terms from year to year. After a bad market year, I take a "pay cut". After a good market year, I get a "raise".

Quite a few folks do return unspent funds to their retirement portfolio for long term investment in the interest of having a larger retirement portfolio later. That is not my goal. In fact, we hope not to leave "too much" when we go. We'd rather spend it now while we can. And I chose my safe withdrawal rate to be something that I think means we're not very likely to zero in our lifetimes. As we get older, I'll probably increase it.

My tax bill from the retirement fund has NEVER exceeded my annual "safe" withdrawal - not even close. And I never expect it to. Worst case ever has been almost 1% of portfolio value - that's very high. Best case 0.2% after a bad market year. I have to live with whatever after-tax funds I get each year. So far it has never dropped below my annual budget. If it ever did, I'd just have to draw some on those funds I had left over from last year!!!
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Old 02-22-2015, 11:58 AM   #27
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Don't forget the highest LTCG rate isn't 15%, it's 20%. Then there's another 3.8% surtax above a certain amount (can't remember what it is off the top of my head) which makes the effective top rate 23.8%.

I see a lot of folks using 15% as the LTCG rate, but just be aware it can be as high as 23.8%
That's right. Once total income reaches $250,000, you are looking at the 3.8% NIIT (net investment income tax) on capital gains and qualified dividends which essentially bumps the capital gains tax rate up to 18.8%. Once income crosses approx $450K, capital gains above that level will be taxed at 20% (plus the NIIT on top of that for a total of 23.8%).

And really high cap gains/qualified dividend income also tends to trigger some AMT especially if your ordinary income is very low.

So to avoid those, total annual income (not including IRA withdrawals) needs to stay below $250,000 for married filing jointly.
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Old 02-22-2015, 12:41 PM   #28
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No I don't. Once it's withdrawn, it stays withdrawn. It could be spent the next year. It could be used on a splurge within the next few years. I have very strong feelings about this. To me, the annual money withdrawn is money with which I've "won the game". I don't need to risk that money in the stock or intermediate bond markets any longer. If I invest it, it's outside the retirement portfolio and in short-term investments.

So when I rebalance, it's with the funds left over in the retirement fund after my withdrawal. And my annual withdrawal is only calculated on the funds in the portfolio.

Yes, my annual withdrawal is a fixed % of remaining portfolio (Dec 31 value each year), so my withdrawal amount varies in dollar terms from year to year. After a bad market year, I take a "pay cut". After a good market year, I get a "raise".

Quite a few folks do return unspent funds to their retirement portfolio for long term investment in the interest of having a larger retirement portfolio later. That is not my goal. In fact, we hope not to leave "too much" when we go. We'd rather spend it now while we can. And I chose my safe withdrawal rate to be something that I think means we're not very likely to zero in our lifetimes. As we get older, I'll probably increase it.

My tax bill from the retirement fund has NEVER exceeded my annual "safe" withdrawal - not even close. And I never expect it to. Worst case ever has been almost 1% of portfolio value - that's very high. Best case 0.2% after a bad market year. I have to live with whatever after-tax funds I get each year. So far it has never dropped below my annual budget. If it ever did, I'd just have to draw some on those funds I had left over from last year!!!
Thank you for elaborating. I like your thought process, especially the part about the money you withdraw is money with which you have "won the game", and there is no need to risk it anymore.
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Old 02-22-2015, 12:48 PM   #29
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No.

The only consideration I give to the value of my portfolio is whether it will stay above 0 while I stay above ground.
+1

It gets way too hard. If I die the day before I start to withdraw then my heirs will be looking at a big hit. Too bad, so sad...! If I live to 95 then the taxes will be very modest.
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Old 02-22-2015, 12:53 PM   #30
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+1

It gets way too hard. If I die the day before I start to withdraw then my heirs will be looking at a big hit. Too bad, so sad...! If I live to 95 then the taxes will be very modest.
My will includes charitable donations and bequests to loved ones. It includes a clause that specifies a charitable donation off the top that minimizes taxes on the estate, with an upper limit.

Of course, if I spend it all, that's moot! 😇
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Old 02-22-2015, 12:54 PM   #31
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Taxes are an expense item built into our retirement plan and annual retirement budget. If we had more in after tax accounts now, sure our taxes would likely be lower. But we already did the calculations on that years ago and chose to put the money in retirement accounts and pay lower taxes in the contribution and compounding years when we were in what we thought would be our peak earning / highest tax bracket years.
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Old 02-22-2015, 04:48 PM   #32
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.....I could have $1 million in a regular acct where all withdrawals will be taxed at 15% due to everything being LTCG giving me an after tax portfolio value of $850,000. ...
It is virtually impossible that a taxable account would have zero basis which is what your sentence above suggests. The after tax value would be the value - unrealized gain * the tax rate. So if let's say the basis was 50% then the after tax value would be $925k.

My taxable has had a great run but unrealized gains are still only 30% of the value, so the after-tax value would be 95% of fair value assuming a 15% LTCG rate.
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Old 02-22-2015, 06:50 PM   #33
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Technically, net worth is supposed to be reported on an after-tax basis. But as a practical matter, very few people actually do that. My guess is that even fewer people do it when calculating withdrawal rates. It seems more straightforward and intuitive to include taxes as part of one's expenses and leave the portfolio gross. I suppose you could exclude taxes from both the numerator and denominator, but that won't change the rate vs doing it gross... 40/1000=4%... 30/750=4%... 34/850=4%. It would not be correct to exclude taxes from the portfolio but still include them in expenses when calculating WR.
I wouldn't say very few of us do it, but we probably are in the minority. As far as expenses, I only budget taxes for dividends and cap gains distributions, which are fairly regular and predictable. For cap gains taxes on sales from my taxable account, conversions to Roth, and any distributions from my tIRA if I haven't fully converted it, I have already reduced my net worth to account for this so I don't feel like I have blown my budget or have to cut out other items just to pay taxes on a conversion or sale of an appreciated holding.
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Old 02-23-2015, 12:13 PM   #34
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That's right. Once total income reaches $250,000, you are looking at the 3.8% NIIT (net investment income tax) on capital gains and qualified dividends which essentially bumps the capital gains tax rate up to 18.8%. Once income crosses approx $450K, capital gains above that level will be taxed at 20% (plus the NIIT on top of that for a total of 23.8%).

And really high cap gains/qualified dividend income also tends to trigger some AMT especially if your ordinary income is very low.

So to avoid those, total annual income (not including IRA withdrawals) needs to stay below $250,000 for married filing jointly.
I hadn't considered the AMT effect as well. Thanks for posting that.

I've been trying to run various "what if" scenarios in my head for in a few years, if I decided to sell part of my shares from a company IPO, and buy a house outright. Based on the areas I'm looking, it would probably fall above $400k.

Normally, I'd get a mortgage but I probably won't be working at that time, and any asset-based loan probably wouldn't be for enough for me to buy the home I'd want, plus I really don't want to jump through mortgage hoops the next time I buy. I'd rather buy outright on my terms and be done with it.

But...at the $400k+ level, I'd be looking at 23.8% plus AMT (maybe?)

I guess one other thing I could do is buy a cheaper fixer-upper, renovate while I live in it, and then sell it a few years down the road and get to exclude part of the sale (up to $250k I think?) from capital gains.

Definitely something to think about.
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Old 02-23-2015, 12:26 PM   #35
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No, because I pay all taxes out of the amount I withdraw. So it's a non-issue in determining a safe withdrawal rate.
Same here (when I RE). My budget includes "would be tax" line. It is significantly less than what I have been paying while working for megacorp.
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Old 02-23-2015, 12:46 PM   #36
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Same here (when I RE). My budget includes "would be tax" line. It is significantly less than what I have been paying while working for megacorp.
This is our case as well. Unless income tax rates double across the board, we will be paying far less than now. Given the uncertainty as to what actual rates will be (and at which income levels they will phase in and out), as well as the fact that we will be withdrawing across different types of accounts (and maybe doing Roth Conversions) so as to minimize lifetime taxation, it is much easier to have it as a planned budget line than to attempt accounting for it in net worth.

Basically, in very simplified categories, our budget will be "Amount to withdraw," less taxes, less "what we would like to spend."
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Old 02-23-2015, 01:51 PM   #37
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Old 02-23-2015, 02:52 PM   #38
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I have to consider taxes in making all my retirement income decisions......that's why I switched to a ROTH IRA years ago and include muni bonds in my taxable accounts. Not only Federal taxes but State taxes as well. I'd never live in New York or California......their taxes are just too high for me.
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Old 02-23-2015, 03:04 PM   #39
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I figure I won't owe much at all to the feds, and only $600-1200 to the state each year. So even though 3/4 of my investments are in traditional IRA/401ks, I don't expect the tax bite to be very big.

If my portfolio does amazingly well, then I'll be withdrawing more money and have a higher AGI and pay more tax. A problem I hope to severely suffer from as I get older.
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Old 02-23-2015, 03:27 PM   #40
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I hadn't considered the AMT effect as well. Thanks for posting that.

I've been trying to run various "what if" scenarios in my head for in a few years, if I decided to sell part of my shares from a company IPO, and buy a house outright. Based on the areas I'm looking, it would probably fall above $400k.

Normally, I'd get a mortgage but I probably won't be working at that time, and any asset-based loan probably wouldn't be for enough for me to buy the home I'd want, plus I really don't want to jump through mortgage hoops the next time I buy. I'd rather buy outright on my terms and be done with it.

But...at the $400k+ level, I'd be looking at 23.8% plus AMT (maybe?)

I guess one other thing I could do is buy a cheaper fixer-upper, renovate while I live in it, and then sell it a few years down the road and get to exclude part of the sale (up to $250k I think?) from capital gains.

Definitely something to think about.
If your realized GAIN on the sale of the IPO shares (not the total proceeds) plus other income stays below $464,851 for married filing jointly, you won't incur that 20% cap gain rate. And it applies only to the income above that limit. That total income limit corresponds to the 39.6% tax bracket, by the way.

AMT is only incurred on ordinary income, not any of the long-term realized gains or qualified dividends or muni income (except for "private activity interest). It's 26% for the first $185,400, 28% above that. This shows the calculations more clearly. These calculations apply to ANY realized gains or other long-term income, not just exercised stock options. myStockOptions.com | In general, how does the alternative minimum tax (AMT) calculation work?
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