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Poll:Spending estimates should include income taxes
Old 09-13-2019, 05:18 PM   #1
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Poll:Spending estimates should include income taxes

Just wondering how many people make the same mistake I made for a while (but have corrected) which is to estimate your retirement spending and/or SWR as the amount of money you spend on purchases, as opposed to that amount plus the income taxes you will also owe. For example, if you spend $100K in a year, you really need to withdraw more like $110-115K from your portfolio because of the taxes you will owe. It seems like a pretty easy planning mistake to make and quite impactful to the bottom line.
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Old 09-13-2019, 05:38 PM   #2
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I don't know how many make that mistake. But it is a great idea to open a thread to alert all the newbies to this mistake.

I agree it is a trap, but it is a well known trap. We've discussed it time and time again here. It never gets old, though, so for all those landing on this forum recently the message is:

DON'T FORGET TAXES IN YOUR EXPENSES.

I should also add, the other thing people forget about:

DON'T FORGET HEALTH CARE IN YOUR EXPENSES

Maybe one more:

DON'T FORGET IRREGULAR RECURRING EXPENSES SUCH AS:
- DENTAL WORK
- HOME REPAIRS
- NEW OR REPAIR VEHICLES
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Old 09-13-2019, 05:42 PM   #3
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I do agree that many folks who haven't come here before might have that mistake in their early planning, but it is the first thing that is pointed out if it's missing in every single "am I ready?" plan thread.

Healthcare, occasional big repairs (a new roof, etc.) and those other things that don't happen every year but maybe every 3 or 5. Easy to miss when you go "i'll budget the future based on the real past". So it's always good to then tag on a nice big swag buffer to catch any rough years.
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Old 09-13-2019, 05:50 PM   #4
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+1 on this thread.

I recently bought a new car - it was planned. However, pulling $30K+ from our egg was still "shock and awe."

Have a new roof planned for Q4. It's budgeted in our 2019 plan, but

Yup, a "do-over" in retirement might just mean going back to work - - - if even possible. YMMV.
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Old 09-13-2019, 05:51 PM   #5
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Of course I include them I pay estimated taxes every quarter.
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Old 09-13-2019, 05:57 PM   #6
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I created a similar post a few weeks ago, asking how much of your net worth was in taxable vs non-taxable accounts because when I first ran FIREcalc I didn’t realize that taxes from IRA’s and 401K’s were not accounted for in the software. Thank goodness when i redid the calculations deducting the tax impact I was still at 100% success.
It seems some of the folks here have accumulated enough after tax dollars so they can better avoid taxable withdrawals from retirement accounts. We on the other hand saved most of our nest egg in our company 401K so we have to pay mister taxman on most of our withdrawals. Need $35K for a major home remodel? Have to take out $50K to cover federal and state taxes. Oh well death and taxes can’t be avoided.
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Old 09-13-2019, 06:03 PM   #7
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And don't forget mutual fund expenses.
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Old 09-13-2019, 06:11 PM   #8
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I always understood that taxes would be paid, but when I got serious about retirement planning, I was surprised how shallow the tax component is on most retirement calculators. It was more difficult to ensure that taxes were accounted for than I thought it should be. Bottom line is to give taxes the thought and time they deserve. It’s too easy to just put in something like 12% for federal. That misses a lot of what goes on with taxes. Easy example, what if you run off of you taxable accounts for a couple years. You could have zero taxes for those years and then have to start pulling from your IRA and paying taxes. Again, that’s just a simple example. Taxes matter. Not just that they are there and need to be paid, but timing on payment and tax planning are very important.
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Old 09-13-2019, 06:57 PM   #9
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Yes, taxes and death. Two unavoidable things.

I can understand how people forget about taxes. We often even forget that we are mortals.
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Old 09-13-2019, 07:15 PM   #10
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Quote:
Originally Posted by tophermiller View Post
Just wondering how many people make the same mistake I made for a while (but have corrected) which is to estimate your retirement spending and/or SWR as the amount of money you spend on purchases, as opposed to that amount plus the income taxes you will also owe.

I don't know how anyone could be so out of touch to make that mistake, but you're still not including everything. You've also got costly expenses like property taxes and long term home maintenance, like that once every couple decades new roof for $10,000 to $20,000, the new HVAC system, and quite a few other things, that you need to average out and account for. And I always have. Also, don't forget to account for the higher cost of health care you're likely in store for during retirement, which keeps increasing faster than inflation. Despite what many may think, Medicare and all of the "parts" and out of pocket health care costs can be very expensive. I know couples spending over $20,000/yr for Medicare. If you're depending on the ACA prior to Medicare, keep in mind that it may not exist after 2020 as it was ruled unconstitutional, and it's currently awaiting a decision after an appeals hearing for what happens next.
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Old 09-13-2019, 09:32 PM   #11
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Quote:
Originally Posted by tophermiller View Post
Just wondering how many people make the same mistake I made for a while (but have corrected) which is to estimate your retirement spending and/or SWR as the amount of money you spend on purchases, as opposed to that amount plus the income taxes you will also owe. For example, if you spend $100K in a year, you really need to withdraw more like $110-115K from your portfolio because of the taxes you will owe. It seems like a pretty easy planning mistake to make and quite impactful to the bottom line.
I always planned future expenses with tax estimates included.

Nowadays the first thing I do after taking my annual withdrawal is set aside funds to cover income taxes during the year.
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Old 09-13-2019, 10:08 PM   #12
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Originally Posted by NW-Bound View Post
Yes, taxes and death. Two unavoidable things.

I can understand how people forget about taxes. We often even forget that we are mortals.
Deserves to be quoted.

...

I was a "No" vote in the poll but it's a technicality. Currently with kids going through college and still dependents and the ACA stuff, I manage my taxable income low enough to where taxes are currently a small income rather than a large expense. So in my planning I account for it as income, not an expense.

That won't last forever. If I decide to spend more (working on it), or as my kids get through college and stop being dependents, or... my situation will change and I'll probably pay more both in terms of raw dollars, effective rate, and marginal rate. Probably will end up in the mid-20's brackets somewhere in my 60's or 70's, and maybe even higher.
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Old 09-13-2019, 10:27 PM   #13
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And don't forget mutual fund expenses.
All investment expenses. If a person is paying an advisor 1% of assets under management (not entirely uncommon), that reduces the available "safe" net withdrawal for a typical retiree by about 25%. That is, if we believe the portfolio can safely support annual withdrawals of 4%, the "advisor" gets 1/4th of that. It's quite a chunk (it can be a bigger "hit" than taxes).
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Old 09-14-2019, 02:26 AM   #14
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Not currently paying Fed/State taxes, but have always included it in future planning thanks to this site.
DGF currently just has Roth conversion taxes.
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Old 09-14-2019, 06:44 AM   #15
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Since all of our fixed income was planned and is taxed, it has always been a line item. I’m just happy that I will have stopped paying FICA & Med in Aug 2020, and be in the equivalent 12% bracket in 2021 for the first time since 1980 I think! The reduction of taxes plus not saving for FIRE anymore has boosted our net so much that even though it was calculated, it is still surprisingly difficult to get our arms around it.
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Old 09-14-2019, 06:46 AM   #16
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Quote:
Originally Posted by tophermiller View Post
Just wondering how many people make the same mistake I made for a while (but have corrected) which is to estimate your retirement spending and/or SWR as the amount of money you spend on purchases, as opposed to that amount plus the income taxes you will also owe. For example, if you spend $100K in a year, you really need to withdraw more like $110-115K from your portfolio because of the taxes you will owe. It seems like a pretty easy planning mistake to make and quite impactful to the bottom line.
Clearly, taxes must be included in your expenses.

However, the amount/percentage will vary greatly from person to person. It is possible that a married couple could spend $100K per year and pay nothing (to the IRS, at least).
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Old 09-14-2019, 08:51 AM   #17
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Well Duh!!! Unless you want a big penalty at tax time. I just have 20% taken out for Fed and 5% for State when withdrawing. Hence if I want $1000/mo it's really a $1250/mo withdrawal. Usually gets me pretty close at tax time.
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Old 09-14-2019, 09:03 AM   #18
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I included an estimate for taxes in my planning, but planning for and reality, well those have not been as close as I thought. For me, its the planning for large purchases that has become so complicated as its easy to suddenly throw your taxes off by thousands due to reduced ACA credit which is weird because your still in the same tax bracket but now there is an additional element that for me at least has varied wildly year to year.
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Old 09-14-2019, 10:06 AM   #19
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When I first started calculating our safe withdrawal Rae options (from the Trinity Study as that was all I had at the time), I asked on MorningStar whether that was before or after taxes. I sort of already knew the answer, but wanted to double check.....

So I started modeling our taxes and came up with a rough estimate of what percent of our taxable investments might go to taxes each year, knowing that would be paid out of any withdrawal. It turned out to be somewhat conservative, so was good for money.

I didn’t model tax impact on IRA withdrawals because we were decades away from RMDs at the time and didn’t need to draw on tax deferred retirement accountsto fund retirement.
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Old 09-14-2019, 10:13 AM   #20
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We don't do spending estimates. We just spend. And we have some left over.
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