New user Q / How Does Tax rate applies

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goixiz
Posts: 13
Joined: Sun Oct 25, 2020 12:42 pm

New user Q / How Does Tax rate applies

Post by goixiz »

I am retired and hance have income tax rate (12% because i plan to do some roth conversion) and plan to deplete savings account before i start selling funds for income - I have 3-4 years savings put away

How does the investment income input be calculated because it does not apply to my investment for the next few years.
What should i put in the input for that ??
jimr
Posts: 821
Joined: Thu Feb 28, 2008 6:48 pm

Re: New user Q / How Does Tax rate applies

Post by jimr »

The investment tax rate is used to tax all taxable portfolio returns in the year that they're earned. The idea is that the taxable portfolio is carried at a 100% cost basis. That means withdrawals from the taxable portfolio don't result in any taxes (since taxes were already paid on the gains).

For the tax deferred portfolio, the cost basis is consider to be 0%. Taxes are only charged when withdrawals (or RMDs) are made from the deferred portfolio (at the income tax rate). This means that year to year investment gains earned in the deferred portfolio aren't taxed at all until withdrawals are made.
alexazhook
Posts: 2
Joined: Wed Dec 28, 2022 2:49 pm

Re: New user Q / How Does Tax rate applies

Post by alexazhook »

I have been using FRP for several years but only just found the forum. My husband retired this year but he is older than I am so I would like to work a few more years (currently 57 years old). My numbers look good but after reading several threads I now think my taxable portfolio number is wrong.

For example, if I invested $500 in my taxable investment account, but my current portfolio value (WITH gains) of that account is $1500, which number should I be entering in the field on Summary View page? I entered $1500 but it appears I should be entering $500. The reason that seems confusing to me is the calculated gain would start THIS year (or whatever year I input the number) correct? So if my gain is expected to average 5% the model would say at end of next year I would have $525 value for purposes of seeing if I can outlast my money? What happens to the paper gain that has already occurred over the last 30 years of saving?

For my tax deferred accounts it makes total sense that the amount would equal what I have in the account. Same for my Roth 401K account. If the answer is, I should input the cost basis of $500 I just want to understand how the FRP accounts for the gains already there (although only on paper since, of course, I "lost" 22% of the gains since the beginning of 2021). Any insight is greatly appreciated!
jimr
Posts: 821
Joined: Thu Feb 28, 2008 6:48 pm

Re: New user Q / How Does Tax rate applies

Post by jimr »

...if I invested $500 in my taxable investment account, but my current portfolio value (WITH gains) of that account is $1500, which number should I be entering in the field on Summary View page?
I think most people tend to enter $1500 and just ignore the fact that taxes will be due on the unrealized gain. Keep in mind that the planner is just a model and like any model, it tries to get close to reality, but it never can quite succeed. The way taxation is handled is a good example of this sort of thing.

Some people try to get closer to reality by reducing the amount of the initial taxable portfolio by the taxes that would be due on the gains so far. For example, instead of entering 1500, they'd multiply the $1k gain by their investment tax rate (eg 1k x .15= $150) and subtract the result from $1500. That'd mean they'd enter a $1,350 portfolio balance to start with.

IMO, there's no right answer. The best approach depends on several factors including how much detail you're prepared to enter into your plan and the likelihood that you'll be able to add extra detail without introducing new errors in the inputs (eg from math mistakes, etc). Also, for someone just starting out this taxation issue is much less likely to matter compared to someone about to retire next year who's already got a large portfolio with substantial untaxed capital gains.

Jim
alexazhook
Posts: 2
Joined: Wed Dec 28, 2022 2:49 pm

Re: New user Q / How Does Tax rate applies

Post by alexazhook »

Got it. Thank you for reply. I will work about 2 more years full time and have a substantial amount of untaxed gains. I will use your tip to try and account for that by reducing the figure I enter in summary view by the amount I would pay for the capital gains. I use a lot of additional inputs and the geek in me loves FRP.
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