Susan’s getting close to retirement. She has money in two mutual funds and in a traditional IRA.
Susan loved the tax break she got annually on her IRA contributions while she was working.
But now she’s realizing she’ll have to pay taxes on that money when she starts withdrawing it.
Consequently, as she plans for retirement, she’s not sure which money to access first: her IRA savings, her mutual fund money, or a little of both?
Susan’s dilemma is a good reminder that our financial lives have three phases:
- Wealth Creation. In this stage, you’re “putting money into” savings accounts and retirement plans. You’re investing money in stocks. This is where you try to create and accumulate enough wealth to be financially independent. (Sadly, only about 5% of Americans ever achieve that goal.)
- Wealth Distribution. Here, like Susan, you’re about to start “taking money out” of your “nest egg” to live on after you leave the workforce.
- Wealth Conservation. Here the concern is legacy. The emphasis is on passing on your wealth to heirs and/or causes you believe in.
Susan is discovering that in Phase 2, everything has changed.
During wealth creation, everything she read said seemed to say, “Defer taxes until later. You’ll be in a lower tax bracket when you take that money out.”
Susan never considered that—typically—being in a lower tax bracket at retirement means having less income. She never asked herself, “Is THAT really a good retirement goal?”
Maybe you’re in the same place as Susan: the wealth distribution phase. If so, you’re thinking about ways to maximize your income, while minimizing the erosion of your wealth by inflation, income taxes, and estate taxes.
Like Susan, you need a wealth distribution strategy.
The bad news for those with traditional IRAs is that 100% of that money is taxable. When you withdraw those funds, you’ll have to pay taxes at whatever tax bracket you fall into.
Mutual fund monies are taxed differently, depending on how they are invested. Some of the fund may be taxed at ordinary income tax rates, some at long-term capital gains rates and still other parts not taxed until the gains are “realized.”
All this means it’s time to talk to an advisor. And it’s also time to review your investment risk profile (see below) to see if your investments are still appropriate for your new stage of life.
Susan might consider splitting her mutual funds into two “buckets”—one for spending and one to (hopefully) grow. With a plan like this, she could “spend down” the one bucket over 10-15 years.
Or she could use the money in her “spend bucket” to buy guaranteed lifetime income from an insurance company.
With this approach, you give them a lump sum of money. In return, they promise to pay you back your own principal, interest, and something called a mortality credit.
That’s the advantage of pooling your money with a large group of other people. This income stream is guaranteed to last for your lifetime (and the lifetime of your spouse, if you choose that option).
With her second “bucket,” Susan could invest, hoping to grow those assets, and therefore replace the other capital that she is using for her living expenses.
As far as Susan’s traditional IRA, it may be advantageous for her to do some Roth conversions (i.e., pay taxes on the money now, so that she won’t owe taxes on her distributions in retirement).
If tax rates go up, this could be a way for her to save money. But this isn’t a great strategy for everyone. Every situation is different. So, consult your tax professional.
Earlier, I mentioned your “risk profile.” I was referring to the RISA® Profile. (RISA® stands for Retirement Income Style Awareness®.)
This short quiz is FREE, and it can help you build a retirement income plan that aligns with your desires and personality. Email me at BMoore@argentadvisors.com, and I’ll send you a link where you can take it for free.
Argent Advisors, Inc. is an SEC-registered investment adviser. A copy of our current written disclosure statement discussing our advisory services and fees is available upon request. Please See Important Disclosure Information here.