Mark D. Goldstein, CFP®
Certified Financial Planner
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|Because of our general hatred for taxes, there seems to be a tendency to overestimate their impact. Particularly among retirees at the middle income levels.
It's important that you understand a couple of key concepts...
Effective Tax Rates. This is your total tax divided by your gross income, and it's surprisingly low for most retirees living comfortably at moderate income levels.
Marginal Tax Rates. This is the amount paid on your last dollar of income. The mistake a lot of people (and often their advisors) make is using their marginal tax rate and applying it to ALL their retirement income, disregarding the substantial portion that would be taxed at a much lower rate... or exempt from taxes. The end result is a grossly overstated tax liability in retirement planning.
Now, take a look at the actual tax rates for 2018 (including the effect of new tax law changes) that apply to a majority of couples filing jointly...
Assuming a paid-up house, the median income needed to live comfortably in retirement is right around $4,500 per month ($54,000 annually). Obviously, if you live in an expensive area or have a more luxurious lifestyle, your numbers will be considerably higher and what I'm about to say may not be as applicable. On the other hand, for those that require less in retirement, this information may be even more applicable.
- 10% Taxable income $0 to $19,050
- 12% Taxable income $19,050 to $77,400
- 22% Taxable income $77,400 to $165,000
Okay, here we go...
For tax year 2018, the standard deduction for a married couple (age 65 or older) filing jointly has been nearly doubled to $26,600 ($24,000 if under 65). By the way, the personal exemption of $4,050 each has been eliminated, but a married couple still comes out ahead by about four grand in deductible income.
That adds up to at least $26,600 of retirement income that's not taxed at all.
What this means is that for our average retired couple... worst-case scenario... only $27,400 in taxable income is needed to cover their $54,000 retirement budget. And, given the new and improved tax rates listed above, the first $19,050 is taxed at just 10% and the remaining $8,350 ($27,400 minus $19,050) is taxed at 12%.
Bottom Line: This couple is only paying abut $2,907 in taxes annually ($242 a month) on the original $54,000 income. That's a worst-case effective tax rate of under 5.4%!
I say "worst-case" because many retirees will pay less. Why? Because the calculations assumed they weren't itemizing and there were no additional tax deductions or credits.
The Fate of the Middle-Class. Will the middle-class remain safe from tax increases? My guess is... probably.
Granted, we're absolutely drowning in a sea of debt ($21.44 trillion about an hour ago, plus well over another $100 trillion in unfunded liabilities) and there's widespread belief that taxes will go UP on most of us in retirement.
However, you've got one political party committed to lowering taxes, while the other party is committed to raising taxes only on the "wealthy".
Here's the deal. The middle-class is largely responsible for electing BOTH of them, and so I don't see how that reality leads to any major tax increases on middle income retirees.
INFLATION? Now that's another story!
To be continued.