Question on how taxes on withdrawals are handled - bug?

[frp user]

Hello Jim,

I learned of your calculator on the Early Retirement Forum. I have used it for a number of trials, and am very impressed with it! But I have discovered either a bug in the program or a bug in the user.

I will describe:


1. I enter the funds in my taxable and tax deferred accounts.
2. I enter SS and pension amounts on the "Additional Inputs" page.
3. I enter retirement spending as the actual amount of after tax spending in my plan. I do not increase that spending amount by taxes as your instructions say not to, that the taxes are computed automatically according to the tax rate entered by the user.
4. Then I run the simulation.
5. I note the bar graph shows that taxable funds are used first to fund spending. Those funds are eventually depleted and only tax deferred funds remain.
6. Now here's the problem:
* I can see that taxes are properly taken from the SS and pension incomes.
* But the withdrawal amounts do not appear to include the taxes on those withdrawals.
* That's ok as long as the withdrawals come from taxable accounts.
* But the withdrawal amounts hardly change when they start coming from the tax deferred funds. But they should change because taxes must be paid on funds withdrawn from tax deferred accounts.
* Right?

Am I missing something?

Best regards,

[admin]

Thanks for the email and the kind words about the planner.

I looked at the code to recheck that the planner is doing the right thing and it looks ok (see code snippet below).

As a test (and to convince yourself), you might try adjusting the income tax rate to 40% to see how it impacts the probability of success.

Also, after reading your email, I tend to think the output is confusing and needs tweaking. Even though I deduct the taxes from the portfolio, I'm currently not keeping track of the extra deduction seperately. I only track the net amount of the withdrawal (after taxes). Do you think this is a big shortcoming? The problem is that I'd need to allocate another 8MB of memory to track another variable through all 10k simulation runs.

What would you think if I renamed that column to "Median AT Withdrawal" or "After Tax Withdrawal." Would that help? Do you have a favorite?

Jim

PS. I included the relevent snippet of the code below (the rest of it can be found here)

void ProcessAnnualWithdrawal(double netWithdrawalNeeded, int year)
.
.
// Need to pay income taxes on withdrawals from tax deferred funds
if (year >= iraWithdrawalStartYear) {
taxDeferredBalance -=
(shortfall + (shortfall * compoundedTaxRate));

.

[admin]

Now that I'm thinking about this more, I'm convincing myself that I have to get that output to show the gross (before tax) withdrawal amount.

I need to think about it a little bit more, but I bet there's a way to do it without affecting the program's memory footprint.

Thanks for the feedback!

Jim

[admin]

I updated the planner to include money withdrawn to pay income taxes in the withdrawal amount. There were no changes to any calculations and your probability of success should not be different with the new version. (You can tell you have the new version by checking for Version 1.0.2 when you click the help button.)

Because the tax deferred part of the portfolio starts to get tapped in different years in different simulation trials, you don't see a sudden jump in the withdrawal in a single year, but rather you see the withdrawal inching up around the year that the median balances show transition between using the taxable and tax deferred funds.

Please let me know if this all looks ok to you, and thanks again for the feedback.

Jim

[frp user]

Jim,

Wow, you are fast to respond and to fix! Thanks.

Yes, the changes in ver. 1.0.2 make a big difference to me. Now I can clearly see the contribution to taxes in the withdrawal amounts, and how it changes as different accounts get tapped.

Yours is the best MC calculator I've seen. I have played with another MC calculator that you may already know about from Pivot Point Advisors at http://www.pivotpointadvisors.com/retir ... ulator.asp, but to me yours is more comprehensive and user friendly.

The simulations I have done with your Planner are relatively close to what I get with FIRECalc. I like seeing two independent approaches reaching about the same conclusions.

Jim, thanks again for your great tool.

[frp user]

Hello again Jim,

Some another question/comment about your calculator:

On the main tab, "Summary View," in the table at the bottom, in the 5th column, a figure "% of Portfolio" is shown. The actual percentage figures exclude taxes. Wouldn't it be more appropriate that taxes be included since they too have to be withdrawn in order to pay them? Also, the figure would then have the same meaning as the SWR (Safe Withdrawal Rate) so often discussed in the literature.

Thanks again for sharing this great tool!

Best regards,

[admin]

On the main tab, "Summary View," in the table at the bottom, in the 5th column, a figure "% of Portfolio" is shown. The actual percentage figures exclude taxes. Wouldn't it be more appropriate that taxes be included since they too have to be withdrawn in order to pay them? Also, the figure would then have the same meaning as the SWR (Safe Withdrawal Rate) so often discussed in the literature.

I think you're right about this, but I'll need to look into where I get that number to see how big of a change it is. I'll let you know if I can make the change in the near term.

[admin]

It turned out that the changes were trivial (hmmm, that sounds dangerous as I write it).

Anyhow, I pushed the updates to the site and you should be able to see them if you close your web browser and restart it.

[frp user]

Yep, I can see the changes. Really looks good. Thanks.

I have now screwed up three times by hitting the browser back button instead of the tab on the planner sheet I want to go back to! Is there any way to preserve all the input settings to avoid having to re-enter them all over again?

[admin]

The ability to save settings is the feature that I get the most requests for. Unfortunately, it's a really tough one. The restrictions that make it safe for you to run Java applets inside your web browser are also what makes saving data nearly impossible. I can't even access your printer from within Java, let alone the hard drive. There was a feature called "signed" applets that was supposed to address this, but support for applet signing isn't universal.

Jim

UPDATE: There's a new standalone version of the planner coming soon that DOES support saving your inputs as well as a few extra features. Stay tuned.