Reduced Tax Strategy for RMD's ...

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NickK
Posts: 6
Joined: Tue Feb 13, 2018 10:12 am

Reduced Tax Strategy for RMD's ...

Post by NickK »

One strategy to reduce taxes on deferred taxable accounts is to make withdrawals in years where you have no taxable income even if you don't need the monies from the deferred tax accounts just yet. For example:
- retire at 60
- RMD start at 70.5
- taxable account balance = $500,000
- desired income (expenses) = $100,000/yr
- no SS or pension or other earned income (other than taxable account interest earnings. Dividend and capital gains are not earned income)

You can live off the $500,000 for five years if removing $100,000 per year. During those years, you'll have no/minimal earned income. At 65 you start withdrawing from tax deferred accounts and that amount may get larger based on 70.5 RMD. The larger the deferred tax amount withdrawn, the higher into the earned income tax brackets.

To keep taxes low, in some scenarios it makes sense to move monies from the tax deferred account into a tax free account (or taxable account) even though you don't need those monies transferred during the first 5 years (per the example above). The goal is to decrease the RMD to minimize the monies taxed in higher brackets. For example,

2018 Tax rates:
Rate......Individuals..............Married Filing Jointly
12%___$9,526 to $38,700______$19,051 to $77,400
22%___$38,701 to $82,500_____$77,401 to $165,000
24%___$82,501 to $157,500____$165,001 to $315,000
32%___$157,501 to $200,000___$315,001 to $400,000

Tax deferred withdrawals amounts resulting in taxable income over $77,400 (joint filings) are taxed 10 percentage points higher than under $77,400.

Given that looong setup ....

At first glance, it appears the way to handle this in FRP is to make fixed withdrawals in the "Additional Inputs" tab. That is a bit clunky and may not result in the desired analysis. I-ORP.com handles this but does not do Monti Carlo analysis.

Question: Is there a cleaner/better way to handle this analysis FRP?

BTW ... if you really want to complicate this, try adding in tax credits for health care insurance. Moving monies from tax deferred accounts increases earned income reducing the tax credit for health care. But that is a separate analysis.
jimr
Posts: 821
Joined: Thu Feb 28, 2008 6:48 pm

Re: Reduced Tax Strategy for RMD's ...

Post by jimr »

Using additional inputs seems like the best way to model this.

I'm not sure exactly how you're using additional inputs, but I'd probably use three entries. The first would be a 'Tax Deferred Savings' entry with a negative amount that represents the IRA conversion amount. The next entry would be a 'Tax Free Savings' entry with the same amount. Finally, the third entry would be an 'other expenses' entry that represents the taxes due on the conversion.

The interesting thing to me is that doing this barely moves the needle on both probability of success and median ending portfolio value. I suppose that makes sense since the total amount of taxes saved is relatively small in comparison to the total amount of spending over the entire plan (assuming you're modeling out to age 95).
NickK
Posts: 6
Joined: Tue Feb 13, 2018 10:12 am

Re: Reduced Tax Strategy for RMD's ...

Post by NickK »

jimr wrote: The interesting thing to me is that doing this barely moves the needle on both probability of success and median ending portfolio value. I suppose that makes sense since the total amount of taxes saved is relatively small in comparison to the total amount of spending over the entire plan (assuming you're modeling out to age 95).
Thanks for the quick reply.

Sometimes things like this become "sport" :D

In addition to success and ending value, I'd be interested to know how much it affects annual spending. Probably easy to figure in that it is the incremental tax rate that makes a difference. Either I spend it on taxes or I spend it elsewhere. The latter is more fun.

EDIT: For those who read this later, I also found similar discussion at: http://www.flexibleretirementplanner.co ... =17&t=1073
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