Possible Bug

[pjddjp]

Hello,
Your program is just awesome.
You've been so kind in answering a couple of questions in the past, and I have a new question.
Please refer to the attached PNG image. Have a look at the highlighted line in the Detailed Output. For the life of me, I cannot figure out how the $79k in taxes was calculated. I did read the help files over again, and couldn't find anything. Could you help me understand?
Additionally, there's a kind of big tax law thing I wanted to mention. As you know -- and as the FRP "knows" -- premature withdrawals from tax-deferred account incur a 10% penalty, plus regular income tax. What I learned -- and what the FRP does not "know" -- is that such withdrawals are NOT penalized if the funds are used for higher education expenses.
Of course that doesn't help me understand where the $79k in taxes came from, so I'd be so grateful if you could explain.
Thank you!
Danny

[jimr]

Danny,

Thanks for the kudos and for the question.

First, yes, the IRA/401k early withdrawal rules have a few exceptions that avoid the penalty and the program doesn't have a way to automatically handle those. However, if a user knows they're not subject to an early withdrawal penalty, they can just set the "Min IRA/401k Withdrawal Age" to their current age and the program won't calculate any penalties.

For the taxes on withdrawal, you don't mention the income tax rate you're using, but one thing that sometimes trips folks up is that taxes are due on the total withdrawal amount ($249,843) not just the amount needed for spending ($169,893). So ~$250k times the income tax rate should be roughly $79k.

If that's not it, please let me know what you're using for the income tax rate, in case there's something else I'm missing.

Jim

[jimr]

Actually, based on other items in the table, it looks like you're using an income tax rate of 22% (at least once RMDs start).

$79k/249k is about 32%, so maybe the program is computing a 10% early withdrawal penalty and adding that to the (assumed) 22% income tax rate.

Did you by any chance set the Min IRA/401k withdrawal age to something other than its default value?

[pjddjp]

Hi Jim,
Thank you for getting back to me!
The min age setting is at 70.
I am still pretty confused. If you look at the row for Age 67, the taxable income is well below $200k, so where did you get the figure $250k?
Also, can you tell me what the $827k figure is all about?! (This is seen under "new taxable investment" and "additional withdrawal.")
Thank you!
Danny

[jimr]

The min age setting is at 70.

My guess is that you've misinterpreted this input. This input is the minimum age that you can take a penalty free IRA withdrawal. Any withdrawals made before that age have an additional 10% tax penalty added to them.

I am still pretty confused. If you look at the row for Age 67, the taxable income is well below $200k

250k was shorthand The actual number is $249,843 and it comes from the "Additional Withdrawal with taxes" column. The key here is that you have to pay taxes on the money you withdraw to pay the taxes on the original withdrawal amount. So the total taxable withdrawal is the amount you need plus all the taxes due on the total amount withdrawn. Also, since you've set the min IRA withdrawal age to 70 instead of your current age, an extra 10% penalty tax is due on all withdrawals.

Also, can you tell me what the $827k figure is all about?! (This is seen under "new taxable investment" and "additional withdrawal.")

I assume this is a one-time savings cash flow that you created in additional inputs with the start age and end age set to 67 (maybe selling a house?).

[pjddjp]

Hi Jim,
Thanks again for replying.
Yes, but the min withdrawal age really is a lot higher than my chronological age. I happened to have had it set at 70, but the legal limit for someone of my generation is actually 72. So how would it make sense to choose a lower age? I'd be basing my forecast on incorrect amounts, since the withdrawals would fail to account for the 10% penalty for withdrawal before age 72. Sorry -- am I totally missing something? (o:
On the other two questions, I get it now. In a year when taxable is exhausted, the necessary post-tax dollars ($183k) are mobilized from the tax-deferred account, which is debited by that amount plus the corresponding tax (22%) & penalty (10%), totaling 32%. In the next year, there is a financial windfall, while the taxable account is still exhausted. The proceeds are divided among current cashflow needs and additional investment. The additional investment shows up as a credit in the investment column and as a negative number in the withdrawals column. I think that's what threw me. From an accounting standpoint, clearly these balance, but, intuitively, I don't think of adding to an investment account as an instance of adding a negative debit, if you see what I mean. Also, the fact that GAP reasoning is used for those items doesn't seem consistent with the fact that the "New Investment" column isn't a sum of the other investment columns ("New" "Taxable" / "Tax Deferred" / "Tax Free" "Investments").
Now that everybody's screens have so much available real estate / resolution, have you considered expanding the user interface? This would make room for some little clarifications.
Oh, hey, by the way, in case you're interested, I've got the whole FRP programmed in Excel. (o: Your number one fan.
Cheers Jim,
Really appreciate this,
Danny

[jimr]

Yes, but the min withdrawal age really is a lot higher than my chronological age. I happened to have had it set at 70, but the legal limit for someone of my generation is actually 72. So how would it make sense to choose a lower age? I'd be basing my forecast on incorrect amounts, since the withdrawals would fail to account for the 10% penalty for withdrawal before age 72. Sorry -- am I totally missing something? (o:

Maybe I'm confused also. In the US at least, I believe 401k/IRA withdrawals have the same rules regardless of when you were born. As I understand it, withdrawals after age 59 1/2 don't have a penalty except for some special situations. I've never heard of a rule that says some generations pay a penalty unless they wait until age 72 to withdraw.

That said, I'm not a tax professional and you shouldn't regard anything I say as tax or financial planning advice.

[pjddjp]

Oh geez. You're right, of course. 70 is the age when RMDs start.
Anyway, thank you so much for the help, and I hope my confusion might prove to be useful in some way.