The Big Retirement Lie

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We are being Lied to

What if everything you were told about saving in your company retirement plan was bogus? What if the benefit of tax-deferred growth in your mutual fund based retirement plan was really a well-funded Wall Street marketing gimmick?

For decades now, you and I have been told to sock away our hard-earned money into 401(k)s, IRAs, 403(b)s, TSPs, etc. to reap the benefits of tax deferral and to just trust the system. Advisors, tax preparers, and CPAs jumped onto this Wall Street bandwagon of letting your money grow tax-deferred until you retire. The crux of their seemingly logical-sounding argument was that you'd be in a lower tax bracket in retirement, thus kicking the "tax can" down the road.

Were they right? Would paying the tax later in retirement be better? Or, was it just a big marketing gimmick for you to buy into the mutual funds peddled by Wall Street?

Would you agree the answer depends on future tax rates? Future tax rates are almost as unpredictable as future market prices. I think, however, an argument can be made that future tax rates will eventually be higher than today's historically low tax rates simply because they have to be (thanks to the national debt, deficits, Social Mecurity and Medicare imbalances, etc.)

Consider today's retiree or soon-to-be retiree. A middle-class married couple making $65,000 per year is currently in the 15 percent bracket. If this couple is currently contributing to their 401(k), in essence they are deferring the payment of taxes at a 15 percent rate. In only five short months (under current law) they will be in a 28 percent bracket, almost double their current rate. If they plan to retire in 2013 and intend to live off of Social Security, a pension, or investment income they will actually be in a higher tax bracket. Given this example, did kicking the "tax can" down the road actually work for them or will they actually be subjected to higher taxes during their retirement?

This big retirement lie could be harmful to retirees and soon-to-be retirees because they will live on less since they will be paying the government more, but it could actually work well for their younger counterparts contributing to their retirement plan. Here's how:

I'm Young & Far From Retirement, What Can I Do?
  • Maximize your Roth IRA/Roth 401(k) contributions this year and then switch to tax-deferred accounts once tax rates increase (2013 under current legislation).
  • Retirement savers age 30-45, take some of the money your contributing to your 401(k) and parlay it into a "tax-free retirement" by buying an inexpensive "Second to Die" life insurance policy on your parents (with a return of premium benefit). This strategy (which admittedly may draw some controversy) may provide you with a significant tax-free lump sum at or near retirement.
  • The two most critical factors to making money in the markets are: Risk management and true diversification. Get comfortable with these terms. Risk management means cut your losses short and let your profits run. True diversification means investing in truly different un-correlated asset classes. If all you own is mutual funds you'll do well when the market goes up, but you'll get killed when the market goes down.

I'm Retiring, What Can I Do?
  • Convert to a tax-free Roth while tax rates are ultra-low. If you're wrong you get a "do-over" because you can always convert back by next October (using a process called a Roth recharacterization).
  • Book your gains this year while the capital gains tax is low.
  • Look for appropriate investment tax shelters in 2013 like NREs - Natural Resource Exploration investments (though, as always, consider investment risks and fees).
  • Look for higher-yielding investments in order to generate more income offsetting the higher tax bill.
  • Higher income earners: Consider bunching your deductions this year (combine your deductions for 2012 and 2013 into this year's tax bill because your deductions may get phased out in 2013).
Robert Russell is CEO & CIO of the Ohio-based Russell & Company, a private wealth management firm specializing in helping affluent individuals ages 45 and up create and preserve their wealth. He co-hosts a radio show, authors The Rob Report blog, and is a frequent contributor to FOX Business and CNBC.



Securities offered through Kalos Capital, Inc., Member FINRA, SIPC. Investment Advisory Services offered through Kalos Management, Inc., 3780 Mansell Rd. Suite 150, Alpharetta, GA 30022, (678) 356-1100. Russell & Company is not an affiliate or subsidiary of Kalos Capital, Inc. or Kalos Management, Inc.

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63 Comments

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Tiffany

Check out this book: The Great Wall Street Retirement Scam by Rick Bueter.
One of the best books about money and retirement

July 26 2012 at 12:15 PM Report abuse rate up rate down Reply
donut999

Long rambling story I just could read in full especially after 2nd para about the crux of the matter. The real crux of the matter is tax savings at the time you participate in one of the programs. My wife's employer has a 403b plan. She can put up to $22,000 in each year and she does it every year. True beauty is employer matches 11.2%, not a typo. Non profit medical organization. Our current net effective tax rate is 15% so we save another 15%/$3,375 in taxes. This guy can kick that can down the road all he wants, but 26% return on first year investment compounding monthly for years grows nicely and there is no way in the world the future kicked can tax is going to chew it up.

July 25 2012 at 3:20 PM Report abuse rate up rate down Reply
Len

Well, at least the article wasn't barking "Gold as the best refuge during Armageddon. "

I have a better suggestion. Follow the billionaire engineers and scientists: Paul Allen (Stratolaunch Systems), Elon Musk (Spacex and Tesla Automobile) and Larry Page, Steven Schmidt and H. Ross Perot (Planetary Resources). They talk about trillions upon trillions being made over the next decade. When one realizes that people like Bill Gates and Warren Buffet look over Paul Allen's shoulder when he launches a new project, Larry Ellison (among others) watches each new Silicon Valley development closely, Plantary System's successful mining of nearby asteroids for platinum, palladium and rare earths is a potential quadrillion dollar enterprise, and Elon Musk's goal is nothing less than personally financing the trillion dollar manned expedition to Mars, it's worse than folly to dismiss them out of hand,

July 21 2012 at 1:52 PM Report abuse rate up rate down Reply
chris1011

It seems to me that it's Mitt Romney who hates America. He went to France as a Morman Missionary rather than face the Vietnam Era Draft (oh while picketing in Europe in favor of the draft - hypocrite). He ran a company that broke up American businesses and sent American Jobs overseas. He is using offshore banks to store his money in, taking away jobs and potential profits from US Banks (and maybe cheating on his taxes). He really can't think much of this country.

July 20 2012 at 4:12 PM Report abuse +1 rate up rate down Reply
1 reply to chris1011's comment
Setanta

ooooooooooo la la as IF we don't know WHAT ruMney IS and guess what dhiMMi ?
he AIN'T OBUMMER !!!!!!!!!!!

July 21 2012 at 7:00 PM Report abuse rate up rate down Reply
spaustatdj

Interesting that digitalmag uses average rate to come up with tax paid on reitrement income and then marginal rates for retirement contributions. Additionally no mention that the retirement distributions will make up to 85% of their social security payments taxable and use up any state exclusions availabe. So the marginal rate is more like 30-35% of those retirement distribtuions. Unless your company matches a 401k contribution, most taxpayer are better with a Roth. As a CPA, that what I recommend to most of my clients.

July 20 2012 at 1:42 PM Report abuse rate up rate down Reply
1 reply to spaustatdj's comment
digitalmag

The average Social Security payment sits at about $1100/month. If both member of a couple earn that much, their total income gets to $26400/yr. If they have $500K in 401K savings and withdraw at 4%, that bumps their annual income to $46400/yr. Taxes for that income would run $3165/yr using the standard deduction.

I suspect that with the average 401K sitting at about 60K right now, there is a lot of room for most folks to increase their contributions, before they ever reach the 500K mark. Roth IRAs work really well for those in the upper tax brackets, but they really don't help regular folks that much. They will pull the money out in much smaller amounts and will be taxed at much lower rates because of it.

The real challenge is how to live well on $46K/yr. That's why a strong plan to reduce costs is so important.

Another exciting aspect of future life:

Think about the effects of losing 30% of the highest payed workers over the next 15 years. Old retired people don't spend so much because they don't have so much and they have all the stuff they need. The future promises great job opportunities for younger workers, but tough times for business, as they lose their most prized workers and their most able consumers. We've never been through something like this before and unlike the Great Recession, there are no Princeton Professors to help us through it. it's going to get very interesting.

July 23 2012 at 3:09 PM Report abuse rate up rate down Reply
digitalmag

A few inaccuracies in this article:

The taxes currently payed by a couple grossing $65K and using standard deduction is $5955 or 9.22%, not 15%.
http://www.calcxml.com/calculators/federal-income-tax-estimator?skn=#calcoutput

Secondly, you can pull as little as you want from your 401K until mandatory withdraws kick in at age 70.5.

Retirement must include a plan to reduce costs as well as increasing income. Reduce debt, pay off the mortgage (move to a smaller house if necessary), the cars and the credit cards. Get to the point where you do not pay any interest to anyone. Every bill needs to be looked at, even things like your phone bill (the lowest currently is $1.90/month for a land line)

Use your 401K to reduce your current taxable income. Max it out if possible. The current max for people over 55 is about $23K for each. If you can do it, then you should. You can leagely contribute up to 90% of your gross income or the $23K max. All of the money that you contribute to your 401K is taxed at your maximum tax rate, which could be a high as 34%.

July 20 2012 at 9:01 AM Report abuse rate up rate down Reply
kafienkarl

Many here love the feeling they get when they blame Obama I get a similiar feeling when I blame the banks and financial institutions. The bank meltdown and the mortgage fiasco of 2007-2008 doesn't happen we would not be in this trouble. Thanks greedy banks and financial elite that love globalization.

July 20 2012 at 8:32 AM Report abuse +1 rate up rate down Reply
1 reply to kafienkarl's comment
Setanta

little ditty for the IQ challenged to REMEMBER-
diMs lied and OUR ECONOMY DIED.

July 21 2012 at 7:02 PM Report abuse +1 rate up rate down Reply
1 reply to Setanta's comment
he8

Two wars not paid for. Housing melt down on Cons (conservitive) watch. Deregulation started on Regans watch who lie's.

July 24 2012 at 11:15 PM Report abuse rate up rate down
accuscope

It was a mistake for me I can tell you that... I let my accountant talk me into putting money into a 401K... Massive mistake, I'm glad I did'nt put as much in as I could have, I've done far better with the money I didn't "lock" away... The money in my 401K is dead money by comparison.

July 20 2012 at 6:57 AM Report abuse +1 rate up rate down Reply
1 reply to accuscope's comment
Setanta

LOL and wait'll the USA goes the same way as argentina and don't think for one second thast THEY'RE NOT figuring a way to CONFISCATE MORE from THOSE THAT WORK AND SAVE.

July 21 2012 at 7:04 PM Report abuse +1 rate up rate down Reply
asbigasafrog

Could whichever plank now running Huffington Post and AOL sort out USA from UK articles. Once again I have clicked on an interesting headline, then waited the usual age for it to load only to find it has absolutely no bearing on anyone in the UK. I would add that you have the slowest loading pages of any site I know.

Retirement "pots" are for the wealthy who can afford the best accountants, avoid paying their own fair share of taxes and leave the tax burden to those on low or moderate incomes who cannot afford the best accountants to pay for everything.

Look to the multi national companies for the biggest tax avoidance schemes, they can afford the absolute cream in accountants ( usually ex IRS/Inland Revenue employees) and pay tiny amounts in tax,

Google Vodaphone and tax

July 20 2012 at 6:02 AM Report abuse +1 rate up rate down Reply
ha6ai

Thank you Obama, for screwing up everyone's retirement!!

The Obama economy is a disaster, and the Obama tax hikes are coming.

July 20 2012 at 4:40 AM Report abuse +3 rate up rate down Reply
2 replies to ha6ai's comment
chris1011

It seems to me that it's Mitt Romney who hates America. He went to France as a Morman Missionary rather than face the Vietnam Era Draft (oh while picketing in Europe in favor of the draft - hypocrite). He ran a company that broke up American businesses and sent American Jobs overseas. He is using offshore banks to store his money in, taking away jobs and potential profits from US Banks (and maybe cheating on his taxes). He really can't think much of this country.

July 20 2012 at 4:12 PM Report abuse rate up rate down Reply
he8

Obama is just paying the bills from pervious administrations. Its about time the rich start paying. They sure not creating jobs

July 24 2012 at 11:18 PM Report abuse rate up rate down Reply