A lot of people can overlook these two things related to social security, and doing so can negatively impact your retirement and cause unwanted surprises. A lot of clients aren’t too worried about running out of money, but they do realize there are a few optimizations that they can make to their investment plan, their income plan, and their tax plan that can add up to make a big difference in dollar terms for them.
If it would be helpful to have a planning session on your retirement, reach out to us.
Planning Accordingly for Tax Expenses
The first surprise, which is everyone’s favorite thing to talk about: taxes. Most states don’t tax social security. When it comes to federal taxes, you’ll most likely be expected to pay on average about 85% of the social security benefit you receive. These are the 2020 numbers just to give you an idea if you have to pay tax where some people may be caught off guard if they’re assuming that social security won’t be taxed. If you have more than $44,000 of taxable income, you’ll most likely pay tax on 85% of your social security. If you’re filing as a single person, that amount is around $34,000. You’re most likely to hit those income thresholds because of taxable distributions from your IRAs or 401(k), but even executing strategies like Roth Conversions or having some part-time consulting income can bump that income number up.
As you’re planning out your retirement income, sometimes called your “withdrawal strategy”, make sure you take these income thresholds and the taxes assessed on social security income into account so you don’t end up surprised.
Taking Social Security Too Soon
The second surprise happens when people don’t think through the best age to take their benefit. The common thought is, “If I’m not working, let’s start social security.” That might be the best thing to do, it might not be. You can start as early as 62 and you can wait till as late as 70. Your full retirement age is likely either 66 or 67, or you might be one of those special ones in between 66 and 67 and you got 66 and four months is your full retirement age. It’s called the FRA.
If you start income before your FRA, you could be reducing your total benefit by up to 30%. If you do this, there’s a chance the government might withhold some of your social security income that you thought you would get..
If you start collecting benefits at age 62, your benefits will be reduced by about 30%. If you wait until age 63, your full retirement age benefits will be reduced by 25%. 64, it’s 20%. 65, it’s 13.3%. 66 is about 6.7%. At 67, your full retirement age, there’s no reduction of benefits compared to the full retirement age benefit. And when you wait till 68, 69, 70, it grows by 8% simple interest each year.
Withheld Social Security Benefits
Here’s another risk of starting your social security before full retirement age, and that’s getting some of your benefits withheld by social security because you earn a wage while taking it. If you make more than $21,240, they will take $1 for every $2 above that amount (these are the 2023 numbers). Everything above that will be cut in half.
If you make $31,000 – let’s call it $31,240 to stick really exactly to our example – that’ll be an extra 10,000 above the limit. Again, this is before full retirement age. That $10,000 is going to be cut in half and you will only receive 5,000 of that. So it’s very important to consider your timeline.
We made another video on the specifics of this rule so you can make sure that you don’t get penalized. Because of this, sometimes we recommend waiting until at least full retirement age, and we even look at other income sources before starting at full retirement age if that’s 67.
One of those sources could be your IRA. I recommend modeling out a scenario of delaying social security and using your IRAs in the meantime and comparing that with starting social security and delaying your IRAs. What you’ll most likely find right now is that your taxes at age 72 and beyond will be a lot higher the longer you delay taking from your IRA or other tax-deferred accounts. Talk to your advisor about the withdrawal strategy and possibly using IRAs in your 60s, or even doing Roth conversions to minimize how much you’ll need to take out of your IRA later on. If your advisor is only talking about investments and not talking about modeling retirement income planning and tax planning, reach out to us, we’d love to have a call with you. And don’t forget to check out the DIY retirement planner.
Disclaimer: Since we don’t know your specific situation, none of this information should be construed as tax, legal, financial, insurance, financial advice, or other advice and may be outdated or inaccurate. It is your responsibility to verify all information yourself. This content is prepared for entertainment purposes only. If you need advice, please contact a qualified CPA, attorney, insurance agent, financial advisor, or the appropriate professional for the subject you would like help with. Streamline Financial Services, LLC or its members cannot be held liable for any use or misuse of this content.
Affiliate Disclaimer: This post may include affiliate links where we may earn a payment when you click on the links at no additional cost to you.
Disclosures: Securities offered through LaSalle St. Securities LLC (LSS), member FINRA/SIPC. Advisory services offered through LaSalle St. Investment Advisors LLC (LSIA), a Registered Investment Advisor. Streamline Financial Services is not affiliated with LSS or LSIA. LSS is affiliated with LSIA.
While this blog is geared towards high-net-worth investors, you can still use some of these concepts to benefit your financial future even if you aren’t extremely wealthy.
High net worth investors often use strategies that allow them to quadruple the value of their investment alpha. Alpha really just refers to the excess return earned on an investment above the benchmark return. The way these investors pull this off is by focusing on tax planning and achieving alpha via tax savings, instead of just worrying about investment performance. With these tax alpha concepts, some of them take proactive planning and coordination between your financial team, like CPAs, estate planning attorneys, and possibly insurance advisors.
Roth Conversions
The first tax planning strategy is one that you likely know about, but you might not have taken full advantage of it just yet, and it has to do with your pre-tax 401ks and your IRAs. For many people, these are great vehicles to defer tax and let grow tax-deferred, but there’s going to be a time later on when the government forces you to take money out of these and pay tax even if you don’t want or need the income.
This is where the idea of Roth conversions comes up quite a bit, but many people are hesitant to execute a Roth conversion because the strategy can seem quite costly if you’re still working and earning a high income in your 50s, 60s, or even your 70s.
When you compare paying the tax bill associated with a Roth conversion today to the impact of deferring those taxes 10, 20, or 30 years into the future, it often makes today’s tax bill much more attractive.
The trick is to find out what your tax rate is now, then map out what the future tax rates could be as well, and you can look at a few what-if scenarios. We never know exactly what tax rates will be, but you can look at a few different scenarios. Like many things, taxes are cyclical. Retirement-focused advisors, they’re really good at this because they do it all the time and they can clearly lay out a few routes that you can go, but here’s just a high-level example to think about.
Let’s pretend you’re 55 and have $3,000,000 in your 401(k). By the time you’re forced to take out withdrawals, that could be worth $11,000,000, and that’s just using a simple 7% growth rate. If you execute a Roth conversion on that $3,000,000 account today, your tax bill is likely to be around $1,200,000. If instead you continued to defer the taxes and allowed that account to grow to $11,000,000 in the future, you and your family could end up paying a whopping $4,400,000 in taxes. Comparing the future tax liability to today’s opportunity and seeing what could be better for you and your family can bring a lot of clarity to your options.
Low-Cost Donor Advised Fund
The next strategy is one you’ve heard about that is often overlooked, and it has to do with many clients having appreciated assets; maybe they have unrealized gains in their portfolio, maybe they have a business or real estate – maybe they have all three. If you have a business or a real estate sale, or you need to do a reallocation of your portfolio, adding a donor-advised fund strategy to your tax planning could dramatically optimize your financial plan.
Let’s say you’re planning on moving your portfolio slightly more conservatively, are selling a business or real estate, and you’re charitable. Let’s assume the sale is going to create $2,000,000 of taxable dollars, and that you’re currently giving $10,000 annually in cash. You can take two routes. You can either keep giving the way that you’re giving each year for the next 20 years, or you can think about in that year, effectively “pre-funding” your charitable giving for the next 20 years, while saving a tremendous amount in tax liability from the sale of the business or real estate.
Use a Tax-Efficient Portfolio
The next thing that makes quite an impact on high-net-worth clients’ portfolios is what I would call “phantom taxes.” A few years ago, we had a client come in – not a Streamline Financial client but someone we were just doing taxes for, and when we completed the return and were reviewing it, they were shocked that they had to pay about $60,000 from short-term capital gains in his portfolio. We showed them why this was and he said, “But I purposely told my advisor not to sell anything this year because I knew my income would be high.” We sadly had to tell him that while his advisor didn’t sell anything, these are capital gains happening within a mutual fund. Within the fund, there were sales happening out of your control and because the fund wasn’t optimizing for tax efficiency, it had created an unintentional tax liability.
We began looking at how to create a tax-efficient portfolio so that he could have more control over when to actually pay taxes. We often say that you can control two things in your portfolio, and that’s taxes and cost.
Using Trust Planning to Minimize Your Estate Tax
The next topic is estate taxes. In reality, if you don’t want to pay estate tax, you most likely don’t have to, even if you’re worth $10,000,000 or more. It’s not cheap to get it set up, but the cost-benefit is pretty clear and can be done by setting up certain trusts for your heirs, some charitable giving, and then sometimes some insurance. The key here is integrating that tax management with the estate side. Additionally, you also want to include insurance and make sure it’s a team or at least they’re all communicating well. You don’t have to be uber-wealthy to achieve this either. If you want help thinking through these things, reach out and we can talk it over.
Disclaimer: Since we don’t know your specific situation, none of this information should be construed as tax, legal, financial, insurance, financial advice, or other advice and may be outdated or inaccurate. It is your responsibility to verify all information yourself. This content is prepared for entertainment purposes only. If you need advice, please contact a qualified CPA, attorney, insurance agent, financial advisor, or the appropriate professional for the subject you would like help with. Streamline Financial Services, LLC or its members cannot be held liable for any use or misuse of this content.
Affiliate Disclaimer: This post may include affiliate links where we may earn a payment when you click on the links at no additional cost to you.
Disclosures: Securities offered through LaSalle St. Securities LLC (LSS), member FINRA/SIPC. Advisory services offered through LaSalle St. Investment Advisors LLC (LSIA), a Registered Investment Advisor. Streamline Financial Services is not affiliated with LSS or LSIA. LSS is affiliated with LSIA.
There’s a piece of your retirement strategy that, if done right, can potentially earn an extra half to a percent each year. It’s related to tax alpha. Alpha is easy to find, but few advisors focus on it. One of the most important parts of a good retirement plan is implementing a tax-efficient withdrawal strategy.
With a little planning, you can really improve the results of your plan by simply not paying more tax than you have to. One thing to understand is how different accounts affect your taxable income, so that’s what we’re going to discuss.
If you’re thinking about your retirement more now, but your advisor is mainly focused on investments, and you’re starting to realize there are more important parts to your financial life like tax planning, income planning, and withdrawal strategies, reach out to us for a free planning session.
#1 – Capital Gains From Selling Your Home
The first one is really just the money that comes from a single event, but we’re sure happy it’s not taxed, and it’s the capital gains from the proceeds of a house sale. Try to think about when you’re retired – are you going to live in the same house you’re in now? Maybe you’re there now because of a job or your kids, but in a new season of life your location may change. We see this once our clients retire. A lot of people move somewhere warmer, sometimes near their kids and grandkids, sometimes away from their kids and their grandkids.
Making sure you plan for how the house sale will impact your retirement plan. If you move and sell your primary residence where you’ve lived in the house for two out of the last five years, then the capital gain should not be taxable if it’s under $500,000, if you’re married filing jointly, or if the gain is under $250,000 for a single filer. Those are the two numbers that you want to keep in mind. Let’s say you bought the house for $500,000 and it appreciates up to $900,000, now you have a positive gain of $400,000. If you’re married filing jointly, that gain is not taxable, which is a huge benefit.
#2 – Roth IRA
The second example that we have is the more obvious one – the Roth IRA. It’s the most common non-taxable account. Don’t worry if you don’t have as much as you wished in your Roth IRA. I’ll share how some retirees are funding this more after they retire. A quick recap: if you have a Roth IRA and you make qualified Roth distributions, then the money you withdraw is considered non-taxable.
For it to be a qualified withdrawal, you have to take the money out after your 59 and a half-birthday (not just in that year when you turn 59 and a half), and you have to have held the Roth IRA for five years or more. Be careful not to make this mistake – if you have Roth conversions, there is a new five-year hold rule for every Roth conversion to make sure that that is a qualified distribution.
The IRS orders the withdrawals for you like this: First they start with contributions; that’s the first thing that you take out of your Roth IRA. Secondly, it’s the conversions, and lastly, it’s the earnings. This is something that you may want to keep track of if you start to use your Roth IRA soon, especially near that five-year rule.
Put More Into Roth After Retirement
Here is how some retirees are getting more into their Roth after they retire. If they work with us, they can look to see how much they can save in taxes over the lifetime of the plan, not just this year or next year. The benefit of converting IRA to Roth can make a lot of sense, especially if they stopped receiving a wage from work before they start social security.
This could be the optimal time to convert. As I’m thinking about this, there’s another non-taxable money account related to this. I’ll call this the bonus method, that sweet spot age we just mentioned could work for your non-retirement accounts where you wouldn’t have to pay tax on gains. If you have a non-retirement account, that’s an investment account, an individual, a joint, a TOD trust, those are some of the names around the taxable non-retirement accounts, and you have investments with big gains.
#3 – 0% Tax on Long-Term Capital Gains
If you have a few years of low income right after you stop working, before you start IRA distributions or social security, you may be able to sell those big gainers and pay 0% tax on the gain. This can be done due to the fact that there’s currently a long-term capital gains tax rate that says if you’re married and have a taxable income under ~$80,000, or if you file singly and it’s around 40,000 year long-term gains that you recognized in that bracket or tax at 0%.
Be sure to talk with a wealth advisor or a CPA before doing anything big here. Realizing capital gains does increase your taxable income, so while taking them at 0% sounds fun, it’s not something to just go and do. We put a capital gains budget for our clients’ taxable investment account that we stick to after we run their long-term tax plan. When we’re making changes or portfolio adjustments throughout the year, we make sure not to go over that budget.
If you’re thinking about retirement and you’d like to talk to one of the advisors on our team, click here to schedule your free retirement strategy session. If you’re a few years out from retirement, check out our video on the taxable investment account. It’s one of my favorites and it’s probably not too late to start building or adding to that bucket while you’re still earning a good income.
#4 – Health Savings Account (HSA)
So the last type of money that’s not taxed in retirement is one that not many people think about, it’s your HSA. If you have money in your HSA and you’re under 65, you can still use that money from medical expenses and not pay tax on the distributions. The really nice thing about the HSA is that you got to deduct the amount you contributed, it grew tax-deferred, and if you spend it on qualified medical expenses, it’s not taxed.
Some people worry that any money left in the HSA at age 65 is either wasted or taxable, but that’s not true. You should be able to roll that HSA money into your IRA and not pay tax on that rollover, which is a really nice benefit.
Don’t forget to check out the links for our videos on the retirement sweet spot for Roth conversions and capital gains harvesting, the taxable investment account too. Both of these strategies are adding a lot of value for our retirees.
TL;DR
We discussed four different types of money not taxable in retirement, the first being capital gains on house proceeds on a personal residence. Number two, Roth IRAs and qualified Roth distributions. Number three, 0% tax on long-term capital gains for the right tax bracket. Lastly, HSA on qualified medical expenses.
If you have any questions, please reach out to us.
Disclaimer: Since we don’t know your specific situation, none of this information should be construed as tax, legal, financial, insurance, financial advice, or other advice and may be outdated or inaccurate. It is your responsibility to verify all information yourself. This content is prepared for entertainment purposes only. If you need advice, please contact a qualified CPA, attorney, insurance agent, financial advisor, or the appropriate professional for the subject you would like help with. Streamline Financial Services, LLC or its members cannot be held liable for any use or misuse of this content.
Affiliate Disclaimer: This post may include affiliate links where we may earn a payment when you click on the links at no additional cost to you.
Disclosures: Securities offered through LaSalle St. Securities LLC (LSS), member FINRA/SIPC. Advisory services offered through LaSalle St. Investment Advisors LLC (LSIA), a Registered Investment Advisor. Streamline Financial Services is not affiliated with LSS or LSIA. LSS is affiliated with LSIA.
Let’s take a look at how much you should have saved for retirement by ages 55, 60 and 65. As we get into this study and the data supporting these numbers, I’m going to predict that you might be thinking one of two ways. Either you’re thinking, “I don’t think I have enough right now,” or you’re thinking, “I think I’ve got enough, but I’m just curious to see how I compare to what the average is, or to compare to what other people are doing.”
There’s a famous quote backed by science that goes, “Without vision, people perish.” A vision, or hope, is what sustains us along the way, but it’s also what gets us started in the first place. You’ve already been thinking about and starting to plan for your retirement and your future because you’re reading this right now. As we’re planning, what we’re doing is planning for the future outcome that we hope to achieve.
My goal is that however you might be feeling, you can leave this video with a little bit more hope than when you clicked play.
Pulling from a Study By T. Rowe Price
One last thing to keep in mind – this study comes from T. Rowe Price, and they’re making assumptions using some rules of thumb. As Sean from our office says, “Rules of thumb are great in the absence of a plan.” Your plan is different from anyone else’s. This study and the data that we’re going to look at is meant to give you an idea. If you watch this and you don’t continue planning for your specific situation, then it’s not going to be helpful.
After the data, I’ll show you a sneak peek of our favorite retirement planning software that you should be able to get access to for free. Now, let’s look at the data.
Amount Saved for Retirement by Age 55
Let’s first look at a 55-year-old. Here are the assumptions that T. Rowe Price is making – the 55-year-old is going to be working another 10 years until they retire at 65. The savings benchmark ranges, these are going to be based on individuals or couples with incomes from 75 to 250,000. So I’ll show you each one of those so you can kind of match up what you might be compared to here.
So here are some of the assumptions that T. Rowe Price is making. This is a married couple, dual income. It’s not going to factor in social securities, house values, other assets, or even debt. What this is doing is showing how much you should have saved based on a multiple of income by these certain ages. For a 55-year-old, let’s say we start with this person who has an income of 75K per year. According to T. Rowe Price, the multiple that they should have saved is five times or 375,000.
If someone’s making an income of $100,000, then it should be six times. If you’re making $250,000 a year dual income by age 55, their recommendation is seven times income. You might ask well, why is it that the multiples higher for the person who’s making more? Usually the cost of living is likely higher for people with higher incomes. As you get into retirement ages, social security makes up a larger portion of income for people that have a lower income, so social security makes a bigger piece of the income pie.
Amount Saved for Retirement by Age 60 & 65
Let’s move on to the age 60 people and what the multiple would be. That multiple goes up for older folks as well because – according to this assumption for T. Rowe Price – at age 55, you’ve got 10 years left of savings before 65 when you start actually taking income over here. As you get older, the multiple is naturally growing or needs to be larger as you get close to age 65. For age 65, the multiples would be eight and a half percent to 11.5% depending on what the income is.
Seeing this so far, you’re either feeling good or you’re feeling bad, or maybe you’re indifferent, but however you’re feeling right now, don’t let it go to waste. You can either use the positive expectation of feeling like you’re doing better than average by looking to the future to start planning out that dream retirement even more and get more detailed with your specific situation…
Or, if you’ve got the negative emotion right now, you can use that to get serious about your own situation and gain more clarity using that DIY retirement planning software that we like a lot. In my opinion, it is one of the best consumer facing planning softwares out there that makes it easy enough to use by yourself just to get a better picture.
Take whatever energy you’re feeling right now and keep moving forward with your retirement planning.
Disclaimer: Since we don’t know your specific situation, none of this information should be construed as tax, legal, financial, insurance, financial advice, or other advice and may be outdated or inaccurate. It is your responsibility to verify all information yourself. This content is prepared for entertainment purposes only. If you need advice, please contact a qualified CPA, attorney, insurance agent, financial advisor, or the appropriate professional for the subject you would like help with. Streamline Financial Services, LLC or its members cannot be held liable for any use or misuse of this content.
Affiliate Disclaimer: This post may include affiliate links where we may earn a payment when you click on the links at no additional cost to you.
Disclosures: Securities offered through LaSalle St. Securities LLC (LSS), member FINRA/SIPC. Advisory services offered through LaSalle St. Investment Advisors LLC (LSIA), a Registered Investment Advisor. Streamline Financial Services is not affiliated with LSS or LSIA. LSS is affiliated with LSIA.
If there’s a chance you might receive an inheritance, knowing these four things is going to be important. Store these in the back of your brain for future reference.
Expect a Wait Time
Number one – settling an estate is a big task, so expect the process to take some time. When a person passes away, if certain things are not in order, it can make things a lot more difficult. Gallup says that less than half of the adults in the US have a will right now. However, even when things are in a proper estate plan, it can still take time.
If assets are held in a trust, the probate process doesn’t have to happen, which is nice, but even distributions from trusts can take a while. They can also be hard to understand depending on the type of trust. Because of this and some other factors that come into play along the way of the estate settling process, it can take months or even years to settle an estate. Just knowing that can help you manage expectations, not just for yourself but for siblings or other people involved.
Plan Ahead
The second thing is have a plan ahead of time before you actually receive the inheritance. Sometimes, getting an inheritance can feel like finding money, and maybe you haven’t factored this wealth into your retirement plan. Really, it is new funds now, but it doesn’t mean we shouldn’t have a plan in place.
There’s a researcher named Richard Taylor who found out that people who receive small inheritances are actually more likely to just spend it, whereas those who receive larger inheritances are more likely to invest it. Either way, the parent or relative who left this money to you wanted to give it to you for a reason.
Thinking in the order of priority of your financial life, it may make sense to check off the foundational financial planning things, like making sure you’ve got a few years worth of expenses in conservative assets, an emergency fund, or maybe having high interest debt paid off. Those are some of the things that can really make the biggest difference in your financial life. Consider those things first
If it is a lot of money, be sure to rework your retirement plan if you’re 50 or older. Build it into that sustainable withdrawal rate now. See what changes with your withdrawal rate. If you’re not doing this already, here’s a DIY retirement planner that helps you map out your retirement plan.
Don’t Forget About Taxes
The third thing is to not forget about the tax impact. If you’re inheriting an IRA, 401k, or other pre-tax money, it will most likely be taken out over the next 10 years or so. Every time you take money out of those types of accounts, you will probably have to pay tax on those monies. Be sure you don’t get surprised by the taxes, especially that first year after receiving an inheritance. Talk to an accountant as you’re working through this inheritance process.
Review Your Estate Plan
The next thing that receiving inheritance will often do is cause you to review your own estate plan. You’ll learn a lot about the process as you talk to different people, like the attorneys and advisors. Most likely, this will motivate you to make it as easy as possible for the people who are going to receive what you have after you pass away.
That might look like keeping clear records of all your accounts and estate planning documents (trusts, wills, powers of attorneys, and the advanced healthcare directives). Keep everything all in one place so that those in charge of your estate can find what they need easily. We’ve actually got a family planner that helps you do this if you’re looking for something like that.
Try to talk to your family about money while you’re still around to have those conversations. It’s obviously much harder to find answers from someone who has passed away than to have an honest conversation and talk about the expectations, or what people are expecting related to inheritance.
The best thing you can do for the people you’ll be leaving behind is to plan ahead, and when you get an inheritance, you’ve got a chance to change your life for the positive. Take the time, make a plan for your current finances, and set goals for a good future. It’s a really great way to honor and remember the person who passed away and left you this inheritance.
Disclaimer: Since we don’t know your specific situation, none of this information should be construed as tax, legal, financial, insurance, financial advice, or other advice and may be outdated or inaccurate. It is your responsibility to verify all information yourself. This content is prepared for entertainment purposes only. If you need advice, please contact a qualified CPA, attorney, insurance agent, financial advisor, or the appropriate professional for the subject you would like help with. Streamline Financial Services, LLC or its members cannot be held liable for any use or misuse of this content.
Affiliate Disclaimer: This post may include affiliate links where we may earn a payment when you click on the links at no additional cost to you.
Disclosures: Securities offered through LaSalle St. Securities LLC (LSS), member FINRA/SIPC. Advisory services offered through LaSalle St. Investment Advisors LLC (LSIA), a Registered Investment Advisor. Streamline Financial Services is not affiliated with LSS or LSIA. LSS is affiliated with LSIA.
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