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Tax Rate Crystal Ball
Old 08-27-2007, 12:50 PM   #1
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Tax Rate Crystal Ball

I'm 27 and have 18 years before I RE at 45. I know I'll have enough money to generate the kind of income I'll require in retirement. What I don't know is how much I'll have to pay in taxes. Do you think it'll be a Carter era 70% in the highest bracket or will tax rates stay roughly the same. Any guesses??
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Old 08-27-2007, 01:05 PM   #2
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Originally Posted by Eyerishgold View Post
I'm 27 and have 18 years before I RE at 45. I know I'll have enough money to generate the kind of income I'll require in retirement. What I don't know is how much I'll have to pay in taxes. Do you think it'll be a Carter era 70% in the highest bracket or will tax rates stay roughly the same. Any guesses??
18 years ago a prediction of today's tax rates would have been judged hysterically delusional.

Most of today's ERs are in the federal 15% bracket plus their equivalent state/locality bracket. Some are lower and a few are higher. Make your retirement plan on those assumptions or, for a real thrill, boost it up by another quarter.

The reality is that if a 25% jump in today's tax rates would kill your ER plans, then it's probably better to accumulate a bigger nest egg before your ER.
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Old 08-27-2007, 01:23 PM   #3
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Dig out your magic eight ball from the bottom of the closet and you'll get just as accurate an answer as I can give. But my best guess is that the Democrats will make some moves to "tax the rich" and we will see some changes. What exactly those are is anyone's guess.

I will say that I had a conversation with my broker the other day and we discussed this very topic. My concern is the cap gains tax because I'm sitting on a lot of individual stocks that I've held for years. He gave me the institution's thinking which was the Dems will probably be in power after 2008 and they will most likely raise cap gains taxes. His analysts offered a broad array of possibilities, some of them quite unpleasant. There were similar predictions for regular income tax rates and estate taxes. Of course, to accomplish most of this all they have to do is allow the temporary situation currently in place to revert back to what it was before the enabling legislation was passed.

I sat down the other morning and started some "what-if" scenarios - just back of the envelope figuring for the moment. Then, I started listing pros and cons for taking some profits in the next two years. Even though I am against selling anything just for tax purposes, the pros were pretty darn attractive. But only some of those were tax-related.

The inability to predict what's going to happen tax-wise just adds to my frustration when it comes to trying to make some decisions about where I want to go in the next few years. But I'm not going to make decisions based just on possible tax law changes.

With 18 years to go you still have a lot of time to worry about taxation in retirement. You could see a lot of change that goes both ways before you ever yank the pin on your parachute. Unless you're making really big decisions right now I would counsel you to just keep spending less than you make and making investment decisions based on what makes good financial sense rather than taxation.
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Old 08-27-2007, 01:39 PM   #4
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My guess is that the rates will go higher because it is time for the pendulum to swing that way.

Currently:

--in 2008, 2009, and 2010, the tax rate on qualified dividends and capital gains is 0% for those in the 10% and 15% tax brackets.
--After 2010, dividends will be taxed at the taxpayer's ordinary income tax rate, regardless of tax bracket.
--After 2010, the long-term capital gains rate will be 20% (10% for taxpayers in the 15% bracket).
--After 2010, the qualified five-year 18% capital gains rate (8% for taxpayers in the 15% bracket) will be reinstated.

Because of these scheduled changes at least capital gains rates will be up for discussion. If up for discussion odds are something will change. And I don't think the rates will drop.
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Old 08-27-2007, 02:10 PM   #5
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Since nobody knows the answer, just use the tax rates we know today for future tax planning purposes. It's better than just picking a number out of thin air. If the rates change over time, then change your projections accordingly.
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Old 08-27-2007, 02:41 PM   #6
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Originally Posted by Leonidas View Post
Dig out your magic eight ball from the bottom of the closet and you'll get just as accurate an answer as I can give. But my best guess is that the Democrats will make some moves to "tax the rich" and we will see some changes. What exactly those are is anyone's guess.

I will say that I had a conversation with my broker the other day and we discussed this very topic. My concern is the cap gains tax because I'm sitting on a lot of individual stocks that I've held for years. He gave me the institution's thinking which was the Dems will probably be in power after 2008 and they will most likely raise cap gains taxes. His analysts offered a broad array of possibilities, some of them quite unpleasant. There were similar predictions for regular income tax rates and estate taxes. Of course, to accomplish most of this all they have to do is allow the temporary situation currently in place to revert back to what it was before the enabling legislation was passed.

I sat down the other morning and started some "what-if" scenarios - just back of the envelope figuring for the moment. Then, I started listing pros and cons for taking some profits in the next two years. Even though I am against selling anything just for tax purposes, the pros were pretty darn attractive. But only some of those were tax-related.

The inability to predict what's going to happen tax-wise just adds to my frustration when it comes to trying to make some decisions about where I want to go in the next few years. But I'm not going to make decisions based just on possible tax law changes.

With 18 years to go you still have a lot of time to worry about taxation in retirement. You could see a lot of change that goes both ways before you ever yank the pin on your parachute. Unless you're making really big decisions right now I would counsel you to just keep spending less than you make and making investment decisions based on what makes good financial sense rather than taxation.

I have done the same anlysis as Leonidas and came to the same conclusions.

The tax situation will change multiple times prior to when you RE. The best plan is to LBYM, invest as if taxes will be much higher than they are today, SS benefits will be less of a benefit as it is today, you will have no pension. This will require more being placed in your investments. About every 5 years evaluate your plan and adjust as needed.

Personally, I would rather have invested too much at an earlier age and have the problem of figuring how to spend it all in RE than to have under invested and be on the street trying to sell apples (or begging the government for help).
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Old 08-27-2007, 02:45 PM   #7
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Originally Posted by Martha View Post
My guess is that the rates will go higher because it is time for the pendulum to swing that way.

Currently:

--in 2008, 2009, and 2010, the tax rate on qualified dividends and capital gains is 0% for those in the 10% and 15% tax brackets.
--After 2010, dividends will be taxed at the taxpayer's ordinary income tax rate, regardless of tax bracket.
--After 2010, the long-term capital gains rate will be 20% (10% for taxpayers in the 15% bracket).
--After 2010, the qualified five-year 18% capital gains rate (8% for taxpayers in the 15% bracket) will be reinstated.

Because of these scheduled changes at least capital gains rates will be up for discussion. If up for discussion odds are something will change. And I don't think the rates will drop.
I plan to retire in 2009-2010. I am doing my ER planning assuming that everything will be taxed as ordinary income, more or less as in your after 2010 assumptions above. I am also assuming an extra 5% in taxes (over what it would be now for that amount of ordinary income), in case taxes go up. If the present tax breaks stay in effect...... PARTY!!
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