Critical Mass - Care and Feeding For Once Attained

Top 782. Feb 21, 2005 7:42 PM

» bob90245 - Withdrawal Strategies Links Page

.
Withdrawal Strategies Links Page

-- posted by bob90245

Top 783. Feb 24, 2005 3:27 PM

» pbradford6 - Converting a Traditional IRA

February 23, 2005
GETTING GOING
By JONATHAN CLEMENTS

Beating the Taxman in Retirement:

A Guide to What to Withdraw and When
February 23, 2005; Page D1

It's never too late for revenge.

If you are a working stiff, the April 15 tax-filing deadline makes one thing painfully clear: You are pretty much tax toast. Sure, you can take advantage of tax-deferred accounts and make the most of available credits and deductions. But if you have a healthy income, you are basically at Uncle Sam's mercy.

All that changes once you quit the work force. Suddenly, you have a heap of control over your annual income -- and the chance to have a little fun at the taxman's expense. Here's how to make the most of your no-earnings years.

• Crying uncle. With any luck, you will retire with a hunk of money in both your retirement accounts and your taxable accounts. But unloading these investments will trigger vastly different tax bills.

If you have a Roth individual retirement account, or if you hold bonds and money-market funds in a taxable account, selling will cost little or nothing in taxes. Dumping winning stocks in your taxable accounts will be a tad more painful, with your long-term capital gains dunned at a maximum 15%.

The big hit, however, will be levied on your 401(k) and regular IRA. Withdrawals are taxed as ordinary income, which can mean paying as much as 35% to Uncle Sam. Indeed, if you aren't careful, you could get hosed on taxes during retirement, just like you were during your working years.
What to do? Pittsburgh estate-planning attorney and accountant James Lange says the best strategy is to spend down your taxable accounts first, while leaving your retirement accounts to grow tax-deferred for as long as possible. But there is an intriguing exception to this rule.

Let's say you retire at age 62. At some point in the next eight years, you will want to start taking your monthly Social Security benefit. Up to 85% of that money could be taxable. Similarly, after age 70½, you will have to begin minimum distributions from your retirement accounts, and that will also boost your taxable income. Put it together, and it looks like Uncle Sam has you on the ropes.

You will, however, have a little time before you start Social Security and before required minimum distributions kick in. During those years, the stocks and bonds in your taxable accounts will generate dividends and interest, and you may also receive a company pension. But beyond that, how much taxable income you have is at your discretion.

• Manipulating income. Want to turn this to your advantage? Suppose that, once you are in your 70s, you will likely be taxed at 25% or more, thanks to Social Security and required retirement-account distributions.

To soften that blow, you might tap your IRA and 401(k) even earlier. My advice: While in your 60s, withdraw enough from your retirement accounts each year so that -- when these sums are combined with your other income -- you get to the top of the 15% federal income-tax bracket, but no further. That will allow you to shrink your IRA and 401(k), reducing the amount that might get dunned at 25% later on.

If you are married filing jointly and take the standard deduction, you could have gross income of as much as $75,800 in 2005 and still be in the 15% bracket. Meanwhile, if you are single, the figure would be $37,900. If you are age 65 or older, both amounts would be modestly higher, because you qualify for a larger standard deduction.

You could, of course, spend these withdrawals. But if you don't need the cash, you might instead convert small chunks of your IRA to a Roth IRA each year. Once the money is in a Roth, it will grow tax-free and it won't be governed by the minimum-distribution rules that affect 401(k)s and regular IRAs.

Indeed, if you want to make your kids happy, you will leave your Roth untouched and instead bequeath the account to them. Your children would be subject to minimum-distribution rules. Still, they could spread their Roth withdrawals over their lifetime, giving them years of tax-free growth. "The Roth is the best asset you can inherit," Mr. Lange argues.

A Roth conversion makes most sense if you can pay the resulting tax bill with taxable-account money. If you have to dip into your IRA to pay the conversion tax, you can still come out ahead, Mr. Lange says. But the case isn't as strong, so you should probably convert only if you are anxious to avoid minimum-distribution rules during your lifetime or, alternatively, if you are sure that whoever empties the Roth -- whether it's you or your heirs -- will be in a higher tax bracket than you are today.

As you gauge how much income to generate in your 60s, don't forget about Social Security. As a rule, you should take reduced Social Security benefits at age 62 if you don't expect to live beyond your early 80s. Meanwhile, those with a better family health history might delay benefits until their full Social Security retirement age, thereby garnering a larger monthly check.
If you were the family's main breadwinner, also factor in your spouse's life expectancy. The reason: If your spouse outlives you, his or her survivor's benefit will hinge on the size of your monthly check.

How does this figure into the strategy described above? Starting Social Security will potentially boost your taxable income. At that juncture, you might want to curtail your annual IRA withdrawal so you don't push yourself into the 25% bracket.

-- posted by pbradford6

Top 784. Feb 24, 2005 4:45 PM

» allancoleman - Re: Converting a Traditional IRA

In response to Converting a Traditional IRA posted by pbradford6:

nice post six ,

it's called retirement planning and i do it every year . only I use the 25% tax bracket to fill up with Roth conversions after i've withdrawn my income necessary for that year .

at 62 , when i begin to take social security payments , i'll keep myself in the 15% tax bracket to avoid paying taxes on social security until i'm 65 , then i'll go back to filling up the 25% bracket again until I deplete my deferred accounts .

I think retirement / tax planning is as important as investment earning / planning . the biggest check i write every year is to the IRS . sad . second biggest check is property taxes and then third biggest is for health / home / vehicle insurance . and the increase in that check is getting more each year .

-- posted by allancoleman

Top 785. Feb 25, 2005 7:44 AM

» pbradford6 - Re: Re: Converting a Traditional IRA

In response to Re: Converting a Traditional IRA posted by allancoleman:

Thanks Allan. While reading this article from the WSJ I was reminded that you frequently advocating using this method.

Thanks for sharing the idea of using 25% rather than 15% bracket. You converted me, and last year I moved half of my wife's traditional IRA to a Roth. I hope to finish the conversion this year and start working on mine in the future. I really should stop working part time...it doesn't pay when you are transferring money!!! sad

-- posted by pbradford6

Top 786. Feb 25, 2005 8:06 AM

» allancoleman - Re: Converting a Traditional IRA

In response to Re: Re: Converting a Traditional IRA posted by pbradford6:

hi six ,

i think that retirement planning / tax savings is very under rated and the most important part of investing . since using turbotax , i have brought my ' effective ' tax rate from 22.44% in 2001 to 14.64% in 2003 . that's a savings of 7.8% . and the saying that " a penny saved is a penny earned " is very true . that 7.8% i saved spent just as well as if i earned it investing . plus i took NO stock market risk doing it . plus i'm on a program to reduce my tax rate to ZERO at some point in the future . you just have to nibble away at it alittle bit at a time every year with a roth conversion .

when i first retired i could have very easily have put myself in a very much lower tax bracket , but that would have left me with a huge problem at 70 1/2 when the IRS would have mandated required minimum distributions . i'm surprised that the govenment hasn't stopped this ' tax free ' program . cause those that take advantage of it will be in the ZERO tax bracket no matter how much money the withdraw from their retirement nest egg .

-- posted by allancoleman

Top 787. Mar 12, 2005 4:33 PM

» bob90245 - Make sure your money lasts

I just started reading a recent issue (March?) of Money Magazine. And I found this article that touches on themes very similar to my Retire at the Coffeehouse strategy.

Make sure your money lasts
A new strategy to tap extra cash in retirement is appealing -- but may be risky.
February 7, 2005: 10:18 AM EST
By Walter Updegrave, MONEY Magazine

NEW YORK (MONEY Magazine) - When it comes to tapping your retirement savings, conventional wisdom holds that you should limit yourself to modest withdrawals of just 4 percent of your portfolio's value a year, adjusted for inflation.

So if you have, say, $1 million socked away and inflation is running at around 3 percent, you'd take out $40,000 during your first year of retirement, $41,200 the following year, about $42,440 the next and so on.

That way you can keep up with increases in the cost of living yet still be reasonably sure your savings will support you over a retirement that could last 30 to 40 years.

Too stingy?

But do you really need to be so parsimonious? A recent, intriguing article in the Journal of Financial Planning by Minneapolis planner Jonathan Guyton suggests you do not.

By boosting the amount that older investors typically keep in stocks and applying strict rules about how money is withdrawn, Guyton's system could allow retirees to tap as much as 6.2 percent of their savings annually without running out of money for at least 40 years.

What's more, he tested this more generous withdrawal rate against one of the most volatile economic environments imaginable -- a stretch starting in 1973 that included a long period of exceedingly high inflation and two punishing bear markets but that also boasted nearly two decades of some of the best stock returns in history. (Guyton projected results for the remaining nine years to conclude that the draws would last 40 years.)

But are you comfortable with it?

Figuring out a way to boost income from savings during retirement is certainly a worthy exercise. But before you start loosening the purse strings, consider whether you'd really be comfortable with the strategy Guyton outlines.

Sustaining that higher 6.2 percent withdrawal rate, for instance, demands that you hold as much as 80 percent of your assets in stocks -- and a pretty volatile mix of stocks at that (see the chart, right). Even a more modest boost to a 5.4 percent withdrawal rate would still require devoting half your portfolio to stocks.

You'd also have to hold a very broadly diversified portfolio, with eight different asset classes. While I'm a big fan of diversification, most retirees, I suspect, aren't quite this meticulous about spreading their money around.

Adding another layer of complexity, Guyton's system involves strict adherence to a particular pecking order for withdrawals: First you sell off gains in profitable investments; then you pull money from bond holdings; as a last resort, you draw money from stocks that had a losing year.

"You want to avoid selling equities after a down year so you can give them a chance to recover," explains Guyton.

If your overall portfolio suffers a loss in any year, you'll also have to forgo your inflation increase the following year. And no matter how much the consumer price index might rise, you can never boost your draw by more than 6 percent in any year.

Nice theory, but in practice?

In theory, I agree with these rules. Limiting withdrawals during tough economic times, for example, makes perfect sense. I'm just not sure how diligently investors will follow them year in and year out.

I'm also wary of drawing conclusions from research based on any historical period, even one as challenging as 1973 through 2003. Before I considered using any system to tap more cash from my savings, I'd want to see what's known as a Monte Carlo analysis, basically a stress test of that withdrawal rate performed by running it through thousands of computerized simulations of different economic and investment conditions.

Guyton has told me he's considering doing just that. Until we see this more nuanced research, however, I suggest sticking with the traditional 4 percent withdrawal rate.

True, by limiting your draw you might end up spending less money in the early stages of retirement than you could have afforded in retrospect. But I'd much prefer to take that chance than run the risk that my savings might simply run out late in my life, just when I need the money most.

-- posted by bob90245

Top 788. Mar 28, 2005 12:49 PM

» bob90245 - Earn 57% more in retirement

Earn 57% more in retirement
Do-it-yourself portfolio management saves big bucks

By Paul B. Farrell, MarketWatch
Last Update: 6:40 PM ET March 27, 2005

ARROYO GRANDE, Calif. (MarketWatch) -- Congratulations, you're a disciplined investor who is on track to retire with a million-dollar nest egg. And you want the absolute maximum from your hard-earned money.

Here's the big secret to help you boost your in-the-pocket cash by 57 percent during retirement. It's quite simple: Kiss your financial adviser goodbye and manage your portfolio yourself using low-cost index funds. Skeptical? Stick with me, I've got a simple example so you'll understand the big secret America's financial professionals don't want you to know.

Let's assume you're retired with a million-dollar portfolio. Experts say you can comfortably withdraw $40,000 annually, four percent of your total each year, and still make it last a lifetime thanks to the offsetting growth in the remaining funds.

You may have other income, Social Security and a pension. And you may have some taxes. But in this example, we'll assume you're just living on $40,000 in after-tax money. You have two options for managing your portfolio:

Option A: Hire a financial adviser. You turn your million bucks over to a financial adviser. You'll be charged a management fee of one to two percent of your portfolio value annually. Let's also assume your adviser agrees to a 1 percent fee: $10,000 every year for managing your hard-earned million dollars.
Option B: Self-manage with index funds. If you're managing your own portfolio you save that $10,000 a year and can save, invest or spend it anyway you choose. Notice: Even though a "one percent" fee doesn't sound like much, that $10,000 is 25 percent of your annual $40,000 withdrawal, a very high price to pay for something you can easily do yourself.

But it gets even better folks! Using Option B you also get to pick all the funds in your portfolio. So forget the actively managed funds an adviser would likely put you in. Build a well-diversified portfolio of low-cost index funds, either index mutual funds or exchange-traded index funds.

Why index funds? Because the operating expenses of the best ones are substantially lower than actively managed funds, saving you lots of money.

Index funds lower your expenses

The math is simple: Investment-research firm Morningstar says actively managed funds have an average expense ratio of almost 1.5 percent. But index funds have expenses closer to 0.2 percent. That 1.3 percentage-point difference would cost you an extra $13,000 a year if all your money were invested in active funds versus index vehicles.

Add in the $10,000 management fee and that's $23,000 paid to your adviser and fund managers. It's only 2.3 percent of your million-dollar portfolio, but a huge 57 percent chunk of your planned $40,000 withdrawal.

America's financial advisers will argue that their services are worth the extra you'll pay them. They'll tell you they can pick actively managed funds that will beat your index portfolio. Of course, they'll have to beat it by $23,000 or more each year. If not, you'll have to live on less money. Or you'll have to withdraw more each year, and deplete your nest egg faster.

Unfortunately for the advisers, the facts suggest they aren't likely to succeed. Between 70 percent and 80 percent of actively managed funds fail to beat their indexes, and those that do aren't consistent winners. Only one fund out of more than 8,000 funds has beaten its market index every year for the past decade -- Bill Miller of Legg Mason Value besting the S&P 500.

On the other hand, the expense ratio is a valid predictor of future performance. A study conducted by Boston-based Financial Research Corporation a few years ago concluded that lower operating expenses "deliver above-average performance across all time periods," while all other factors, including star ratings, had little or no predictive value.

Jack Bogle put this fact in simple language when he launched Vanguard Funds in 1976 with low-cost index funds: "The manager that takes the least delivers the most." In short, indexing is the best solution for passive investors, a fact that most financial advisers, fund managers, commissioned brokers and Wall Street pundits don't want you to think about.

Here's how to do it yourself

So what's the next logical step if you decide you're going to do-it-yourself and manage your own portfolio? Build a lazy indexed portfolio. The spring issue of the "Coffeehouse Investor" newsletter tells you exactly what I believe you should do.

The "Coffeehouse" portfolio allocates 60 percent to stocks and 40 percent to bonds. The stock allocation is divided equally into six asset classes -- large-cap, value, small-cap, small-cap value, international and REITs. The bond allocation consists of an intermediate-term bond-index fund.

Using the appropriate Vanguard index funds to meet those goals, the portfolio generated a return of 14.2 percent in 2004. More impressively, in what has been a most difficult investment climate over the past six years, the seven-index-fund portfolio generated an annualized return of 7.9 percent, beating the Dow industrials at 4.7 percent and the S&P 500 at 1.2 percent for the same six years.

[bob90245 EC: To be fair, this was a bit of comparing apples and oranges. The coffeehouse portfolio had 40% in bonds which did well during the period and did not suffer bear market declines like an all-stock index such as the S&P500.]

Folks, after looking over these numbers you may still want to keep your financial adviser. But before you do, ask the hard questions about that $23,000 you may be unnecessarily throwing away.

-- posted by bob90245

Top 789. Mar 28, 2005 8:41 PM

» SCoe46 - Re: Earn 57% more in retirement

In response to Earn 57% more in retirement posted by bob90245:

Great article by Paul Farrell. I like his 60/40 allocation. The only change I would make is to follow bob90245's "slice and dice" for the international allocation. I like Paul Merriman's international Vanguard recommendations here and his justification for leaving out the REIT fund. The thing I disagree with Merriman is his recommendation to put all the 40% fixed income into the Vanguard shorterm corporate bond fund.I agree with Brinker that you should diversify your fixed income allocation also similiar to the funds in his balanced portfolio 3. Tips, Short term corp and GNMA's.

-- posted by SCoe46

I have copied the pertinent exerpts here:

Top 790. Mar 29, 2005 9:01 AM

» bob90245 - Re: Re: Earn 57% more in retirement

In response to Re: Earn 57% more in retirement posted by Kirk:

If someone wanted to benefit from rebalancing and asset class out performance, then they could easily break the Total Stock Market Index dollars into the S&P500 and Extended Market Vanguard Indexes and perhaps get a bit more return for the same price if they do the market weighting correctly.

Kirk, you and I focus on different things. I don't focus on outperformance and getting "correct" weightings. This brings to mind TMStock's conversation on the Slice and Dice thread. We can always tweak things based on what worked best in the past. However, we only get returns that occur in the future. And since we know that each asset class enjoys both it's days in the sun and suffers it's days in the doghouse, I prefer not place big bets one way or the other. This is why I prefer an equal weighting, or what William Bernstein orginally called "A Cowards Portfolio".

By the way, I just had this similar conversation over at the Morningstar message board yesterday. You can read it here .

Vig wrote: Larry Swedroe's Portfolio (per my interpretation from his 2002 book and utilizing only Vanguard funds) 6% Large (VFINX), 12% Large Val (VIVAX), 6% Small (NAESX), 12% Sm. Val (VISVX), 6% Inter Lrge Val (VTRIX), 7% Intern Sm (VINX), 3% Emerging Markets (VEIEX), 6% REIT (VGSIX), 12% TIPS (VIPSX), and 30% ST Federal bond fund (VSGBX).
bob90245 wrote:It all depends on who you're audience is. Obviously, a carefully crafted collection of funds (such as Larry Swedroe's) might have the edge in performance.
Personally, I favor the equal weighting of the Coffeehouse portfolio. For most people who want to Slice and Dice (S&D), the collection of 6 stock funds would be enough for most people to handle. Plus the equal weighting makes it much easier during the distribution phase in retirement and when rebalancing.
Vig wrote:So, if going the whole S&D road, why not go by Larry Swedroe's way instead? And, as Larry says "you need to wait long long time to see the effect of the value and small- cap tilts, of course.
bob90245 wrote:Vig, you may be hung up on this "tilt" issue. I don't see it that way. I see an equal weighted Coffeehouse portfolio as a way to diversify across multiple asset classes which is the whole point behind S&D. Bill Schultheis shows this best at his website.
Comparing Styles
Now I wouldn't mind using Larry's suggested 8 stock funds and creating an equal mix like this:
7.5% Large (VFINX)
7.5% Large Val (VIVAX)
7.5% Small (NAESX)
7.5% Sm. Val (VISVX)
7.5% Inter Lrge Val (VTRIX)
7.5% Intern Sm (VINX)
7.5% Emerging Markets (VEIEX)
7.5% REIT (VGSIX)
40% Fixed Income
Since Larry has Emerging Markets at only 3%, he probably wouldn't approve of such a high weighting. I might as an alternative, drop it and just use the remaining 7 stock funds.
8.5% Large (VFINX)
8.5% Large Val (VIVAX)
8.5% Small (NAESX)
8.5% Sm. Val (VISVX)
8.5% Inter Lrge Val (VTRIX)
8.5% Intern Sm (VINX)
8.5% REIT (VGSIX)
40% Fixed Income

-- posted by bob90245