Myth: Your Marginal Income Tax Rate Will Fall In Retirement

Posted @ 9:14 pm - Filed under 1031 Exchanges, Real Estate Investing, Purposeful Planning, Retirement, Retirement Income, 401(k)'s & IRA's, Tax Shelter

There are a few myths out there held as nearly doctrinaire by many. This one though packs a surprise waiting in ambush — timed to go off at retirement.

It’s held as almost the 11 commandment that once you retire, your income tax rate will drop significantly. This is so far from the reality, it’s akin to teaching summer brings cooling temperatures.

Ya can’t have it both ways. Those for whom the myth is almost a spiritual mantra, are the same ones who preach save and invest from the crib. Amass ginormous amounts of capital. Capital which will yield massive amounts of retirement income. Really? Massive income? Yet lowered income tax rates? Anyone see a problem here?

There’s only one reason for most folk’s income tax rate to fall in retirement: They simply didn’t Purposefully Plan — resulting in a retirement income capable of keeping food on the table, but sadly, not much more. Of course their income tax rate will fall.

So will their standard of living.

On the other hand, if they’ve been saving and investing for most if not all their adult working lives, their pile of gold should be relatively impressive. By impressive I mean a couple million bucks. I see this often, usually in the form of one of the qualified retirement plans. (IRA, 401(k)) (If they invested in real estate consistently, they did far better.)

If you as a taxpayer work hard, don’t live up to your eyeballs, save and invest prudently over a sustained period of time, a couple million bucks is without a doubt within your grasp. Even if we say the above mentioned couple have jobs peaking out at way over the median income, say $80,000 a year — they’re in for a surprise when they face April 15th for the first time after retirement.

Their retirement plan spits out income — cool. Their $2 Million at say, 7%, yields $140,000 a year in taxable income. Chances are they’ve paid off their home. They have precious little, in reality, probably no tax write-offs. No kids. No real estate. No tax free income. Nada, Zip, Zilch. Tax wise they’re naked as the day they were born.

And there’s not a dang thing they can do about it.

At today’s tax rates, you make the call. Are they gonna pay more in taxes than their peak years at just over half that amount? Duh.

Do ya think taxes are gonna go up or down in the next 10-30 years? Yeah, I know, not a clue. Me neither. With the Gray Bomb (Aging Boomers) growing in impact each year, Social Security becoming more and more of a land mine, and the last 95 years of income taxes trending up, do you really believe your taxes and tax rates are gonna be less than where you were workin’? Really?

Let’s Review

You don’t plan, ending up with very little income, and as you predicted, your tax rate goes down, maybe way down. Happy? Don’t answer, it’s a rhetorical question.

You manage to accumulate a couple million, which you then invest in very safe income producing vehicles. You’re now earning six figures yearly, something you never did on the job. The problem is, pretty much all that income is taxable to the max. Every time taxes go up, you lose. Inflation? You lose.

Changes in Social Security? You probably lose.

Remember the median income back in 1960? It was give or take around $6,000 or so. If I went back to the average 35 year old back then and guaranteed them a pretax income of $35,000/yr. in retirement, they would have taken it before I withdrew the offer. You know I’m right. Millions did exactly that.

How’s that been workin’ for them? Yeah, no kiddin’.

That’s exactly what folks back then did. Look where it got ‘em. They’d have to move up a notch to be up the creek without a paddle. They don’t even have a boat these days.

The Moral Of The Story

You better hope you’re in a higher tax bracket upon retirement, ‘cuz if you’re not, you screwed up big time. And if you are, you better have planned a whole lot better than Grandpa did. His whole ‘free & clear’ approach got him nowhere but in the poor house — free & clear of a life. So many folks who’ve retired in the last 30 years have now sadly realized they didn’t create a retirement, they gave themselves a life sentence.

1. Planning for a reduced income tax bracket is planning for retirement disaster.

2. Creating a nice retirement income sans allowing for tax planning? — See #1.

3. A Purposeful Plan which moves towards tax sheltered and tax free income is not optional.

4. Investing in real estate generally speaking will generate as much or more after tax retirement income as most folks do before tax.

5. Once you hit retirement — there’s no goin’ back.

The next time you hear or read how retirees don’t have to worry about their income, ‘cuz their tax rates are gonna be lower — smile — you know better now.

The sooner we talk, the sooner we can boost yer tax rate. Come on, you know that’s funny.

This entry was posted on Thursday, June 12th, 2008 at 9:14 pm and is filed under 1031 Exchanges, Real Estate Investing, Purposeful Planning, Retirement, Retirement Income, 401(k)'s & IRA's, Tax Shelter. You can follow any responses to this entry through the RSS 2.0 feed. You can leave a response, or trackback from your own site.