Saturday, October 1, 2011

Taxes are going to be Lower at Retirement? Really?

Conventional investment advice has been telling investors to invest aggressively into Qualified plans for their retirement. There are many reasons for this advice, but primarily for this reason: "You will be at a lower tax bracket at retirement". It is good to know how some humans are blessed with the unnatural ability of clairvoyance. If an adviser has this ability, why just limit it to predicting Tax rates? Why not just use it to predict the performance of an investment?

This assumption of "You will be at a lower tax bracket at retirement" is simply preposterous. It assumes that taxes are in a state of Ceteris paribus. Ceteris Paribus is defined as "all things being equal" or "all things held constant". There is one thing that is in this state of Ceteris Paribus regarding taxes: When a person is alive, he will pay taxes, and when they die; they will pay more taxes. Since most plan on being alive during retirement, then the odds are very strong that taxes will be levied. The question still remains how much those tax rates will be at retirement.

401k type plans reward immediate behavior for the contribution into the plan. Annual contributions by the investor allows them to "write off" their taxes up to a annual contributory limit based on the particular qualified plan. Now do not forget the other added benefit to these plans: The ability to grow your money tax free!

At retirement, the plot reaches its climatic peak: The person withdraws their funds only to discover that they are taxed at the current tax rate based on the amount of withdrawal. The tax savings accumulated during the 40+ years of employment, pale in comparison to the tax liability assessed at withdrawal. Of course if a person lives one year after retirement, then they have saved money on taxes during the contribution years. Who works 40+ years and has an objective to die the 1st year after retirement?

Since most people live beyond their 1st year of retirement, the next question is this; how long will this money last? Taxes, Health insurance, living expenses all must come from these qualified accounts. Its obvious that a retiree's needs will be greater than just living expenses.

Since the tax rates have been the lowest they have ever been in the last 50+ years, it is safe to assume that taxes will rise. It is also safe to assume with the trillion dollar Federal Deficit, issues with Medicare, Social Security, Trillion dollar US debt load, these items must be paid with tax dollars. These things typically are paid with either income taxes or via payroll taxes.

Taxes levied will eat into those retirement funds, and over time the 401k funds will run out for the investor. A question to the reader: What things are in your financial plan to help prevent this financial disaster?  Ponder on that question based on the current state of affairs.


Robert Williams Jr