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accounting for taxes when planning retirement expenses
Old 05-27-2012, 12:19 PM   #1
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accounting for taxes when planning retirement expenses

I'm 36 and got a late start in my retirement savings due to bad choices (financing lifestyle inflation with credit cards) -- but I guess I'm stubborn and had to dig a hole for myself to appreciate how nice it is to not be in one.

Due to a work-related windfall (combined with failure to save in my 20s), I've ended up with quite a bit more money in my taxable accounts than my 401k/Roth.

It has made me think: when I'm making planning spreadsheets or punching numbers into FIRECalc -- and projecting what my expected "expenses" are in retirement -- how much should I include in that number for taxes, given that tax rates are different for the different types of accounts? Obviously a 100k balance in a Roth IRA is potentially "worth more" in retirement than 100k in my 401k, because I owe taxes on the latter.

Is it necessary to adjust my expense projections based on what % of my balance I expect to be tax-advantaged vs. not? Or is that just noise compared to the possible uncertainty in long-term tax rates*, and I should just pick a number? If so, what's a safe range for that number, say if I wanted to net 60k/yr in today's dollars?

(*not being political, just saying that no one knows what things will look like in 20-30 years, regardless of who is in office!)

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Old 05-27-2012, 01:03 PM   #2
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I use detailed tax calcs in my own projections, but I don't use historical data like FIRECalc. Once I have an idea of my average spending with taxes I can use that as an input to FIRECalc to get the historical perspective.

Clearly taxes will be very different between taxable account, IRA, and Roth withdrawals. You have to have some idea of what they will be. is a calculator that does consider taxes that many here find useful.

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Old 05-27-2012, 01:10 PM   #3
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I assume you are referring only to income taxes, not other taxes such as property taxes or sales taxes.

When I was putting together my ER budget in a spreadsheet, I included a skeleton version of a projected income tax form like the ones I use for my current ER budget. I used current income tax rates. What I also did was to use only a "base" amount of income in the spreadsheet, income from monthly and quarterly dividends from bond and stock funds. I did not include any cap gains distributions because they were more erratic and, more importantly, could always have their income taxes paid from the distributions themselves although I usually reinvested them.

Income taxes don't make up a big part of my overall expenses but I am watchful of them. I also monitor other expenses which can affect my income taxes such as deductible medical expenses and, somewhat ironically, other deductible taxes such as property taxes and (for federal tax purposes) state income taxes. However, as others have mentioned here, I will begin "bunching" some of those deductions so I can take the standard deduction some years.
Retired in late 2008 at age 45. Cashed in company stock, bought a lot of shares in a big bond fund and am living nicely off its dividends. IRA, SS, and a pension await me at age 60 and later. No kids, no debts.

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Old 05-27-2012, 02:02 PM   #4
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I just figured up what my taxes would be roughly each year after we ER. Since we have kids that will be deductions for the next 15-20 years, federal taxes will be around zero and state taxes will be $1000-2000 (I forget what I used in my spreadsheet).

After 15-20 years when the kids leave the house, my fed taxes will go up. However my kid related expenses will go down, hopefully more than offsetting the increased federal taxes. And my portfolio will hopefully have increased enough to offset any tax increases. But if it doesn't, my income will be so low that I probably won't owe much in the way of taxes anyway.

I'll second the ORP calculator - I have used it in the past to help model optimal withdrawal sources and related tax expenses, and you may find it useful to get a ballpark idea of the taxes you can expect to pay.
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Old 05-27-2012, 02:04 PM   #5
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Originally Posted by trueblue View Post
Is it necessary to adjust my expense projections based on what % of my balance I expect to be tax-advantaged vs. not? Or is that just noise compared to the possible uncertainty in long-term tax rates*, and I should just pick a number?
That's my opinion, especially for someone your age. It's not just the uncertainty in tax rates, but also investment returns, longevity, medical costs, inflation, etc.

For income taxes, just pick a number and improve it as you get closer. You'll gain experience doing taxes on your non-qualified accounts over the years, and that will allow you to get more accurate.
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Old 05-27-2012, 06:46 PM   #6
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If you want to estimate a number, I'd suggest you use the current tax code and rates. With a taxable portfolio the taxes you pay will depend mostly on how you allocate and invest. Your behavior determines the tax efficiency. The tax deferred deferred portfolio will depend on the tax code. We don't know if it will change or how, so just use the one we have now. That will probably give you a reasonable projection.
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Old 05-27-2012, 06:58 PM   #7
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I modeled the tax calculations using current rates and brackets and then figured out how the tax brackets and other parameters are indexed then modeled those in a spreadsheet. It took a very very small bit of the guess work out and was strangely fun. YMMV

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