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April 26’s post explored the frequency with which your investment accounts can be expected to show real, inflation-adjusted losses. And the clear pattern was this: Look at your account annually, and it’s scary; losses are depressingly frequent. Stretch out your interval between measurements, and losses tend to melt away. Time—if you’ve got it—heals all losses.
What if you go in the other direction? What if you measure the progress of your investment account more frequently, rather than less? After all, who can resist reviewing their accounts frequently? As indeed you should.
Not surprisingly, it turns out the pattern holds when you shorten the interval to a month. The frequency with which investments have incurred monthly real losses is a bit greater than the frequency of annual real losses. Here are the results for the 999 months between January 1926 and March 2009. Stocks have suffered a real loss in value 41% of the time (compared to 33% calendar year losses). Bonds have suffered a real loss 44% of the time (compared to 39% calendar year losses). And a 50%-50% mixture of stocks and bonds has suffered a real loss 41% of the time (compared to 31% calendar year losses).
As in April 26’s post, stock performance is measured by the total return on the S&P 500, including appreciation, depreciation and dividends. Bond performance is measured by the total return on intermediate term Treasury bonds. And inflation is measured by changes in the consumer price index.
So what’s the message? Quoting the great philosopher, Betty Davis in “All About Eve”: “Fasten your seatbelts. It’s going to be a bumpy ride.”
Wednesday, May 6, 2009
Tuesday, May 5, 2009
State Taxation of Retirement Distributions
How will your state tax your retirement distributions? That’s a cost which you will need to take into account as you set your savings goal.
Most states have their own income tax. A few states, like Florida, have no income tax. (What fuels their government? Sunshine? ) Of the states that do impose an income tax, many have chosen the expedient scheme of piggy-backing onto the federal income tax system by starting the state tax calculation with the income and deduction figures from your federal tax return, and then adding and subtracting a few adjustments from there. So in these states, if a dollar of distribution from a retirement account is taxable for federal purposes, it will be equally taxable for state purposes, at least initially. And in these states, if—as with a well-timed Roth IRA distribution—it’s not taxable for federal income tax purposes, then it won’t be taxable for state income tax purposes either.
Some states have enacted a special benefit for their senior citizens. New York, for example, exempts up to $20,000 of otherwise taxable retirement income from state tax. Thank you, New York!
Imagine this scenario, which is not atypical. You work all your life in a high tax state, like New York or California. During all those years you are earning contributions to retirement accounts which are not being taxed. Some contributions are made by your employer, and some are made by you (think 401(k)). These contributions have gone into the Tax Time Machine, as described in January 29’s post. Then you retire to sunny Florida—which has no income tax—and you start taking distributions from these accounts. “Wait a minute,” says the state of California, “you earned those dollars when you were working here. We want to collect some of that tax revenue, no matter where you live. We’re coming to get you!”
Can California do that? No, they can’t. They tried to, a number of years ago, and in response Congress passed a law making it illegal for a state to tax retirement plan distributions to residents of another state, even if the non-resident had earned the contributions while living and working in the taxing state. This law applies to tax-favored retirement accounts, like IRA’s and 401(k)’s, but it doesn’t apply to many non-qualified deferred compensation plans.
(What’s a non-qualified deferred compensation plan? It’s a kind of retirement plan only available to highly paid employees. If you’ve got one, you know what it is.)
So as you do your planning, and project your tax costs, pay a bit of attention to your state’s taxing scheme.
Most states have their own income tax. A few states, like Florida, have no income tax. (What fuels their government? Sunshine? ) Of the states that do impose an income tax, many have chosen the expedient scheme of piggy-backing onto the federal income tax system by starting the state tax calculation with the income and deduction figures from your federal tax return, and then adding and subtracting a few adjustments from there. So in these states, if a dollar of distribution from a retirement account is taxable for federal purposes, it will be equally taxable for state purposes, at least initially. And in these states, if—as with a well-timed Roth IRA distribution—it’s not taxable for federal income tax purposes, then it won’t be taxable for state income tax purposes either.
Some states have enacted a special benefit for their senior citizens. New York, for example, exempts up to $20,000 of otherwise taxable retirement income from state tax. Thank you, New York!
Imagine this scenario, which is not atypical. You work all your life in a high tax state, like New York or California. During all those years you are earning contributions to retirement accounts which are not being taxed. Some contributions are made by your employer, and some are made by you (think 401(k)). These contributions have gone into the Tax Time Machine, as described in January 29’s post. Then you retire to sunny Florida—which has no income tax—and you start taking distributions from these accounts. “Wait a minute,” says the state of California, “you earned those dollars when you were working here. We want to collect some of that tax revenue, no matter where you live. We’re coming to get you!”
Can California do that? No, they can’t. They tried to, a number of years ago, and in response Congress passed a law making it illegal for a state to tax retirement plan distributions to residents of another state, even if the non-resident had earned the contributions while living and working in the taxing state. This law applies to tax-favored retirement accounts, like IRA’s and 401(k)’s, but it doesn’t apply to many non-qualified deferred compensation plans.
(What’s a non-qualified deferred compensation plan? It’s a kind of retirement plan only available to highly paid employees. If you’ve got one, you know what it is.)
So as you do your planning, and project your tax costs, pay a bit of attention to your state’s taxing scheme.
Monday, May 4, 2009
Your Own Retirement Goal
All rules of thumb are wrong.
For instance, you sometimes read that a reasonable retirement goal is to spend 85% of what you are spending during your working years. At least I think that’s the rule of thumb. Or maybe it’s that your retirement income should be 85% of what your income was during your working years. These are two different things.
Whatever. It really doesn’t matter what the rule of thumb is, because it doesn’t apply to you anyway. In a comment to April 27’s post, for example, David suggests that his expenses will actually increase during his retirement years. In his case, he expects to incur higher travel costs. If he follows a rule of thumb in setting a retirement saving goal, he may have to actually use his thumb for travel.
So it pays to set a retirement savings goal based on your own spending needs. And what are they? Well, you can start with what you’re spending today and think through appropriate adjustments. How do you know what you’re currently spending? You could look at that directly by combing through your checkbook for the last few years, but that might be pretty tedious. Perhaps it’s easier to get at that indirectly by looking at your income and subtracting out your savings.
Then you can think through all your categories of spending, and project whether they will change—up or down. Here are a few items that may change:
• Retirement savings. That’s one “expense” that goes away. No more 401(k) deferrals; no more IRA contributions.
• FICA taxes. These stop when you’re no longer working.
• Your mortgage. When will this be paid off? Perhaps it's a disappearing expense. Unless you’re one of those refinancing addicts who take out a home equity loan before each visit to the gas station.
• Health insurance. Maybe this will go up, if your employer is now subsidizing this cost but won’t after retirement. Or maybe it will go down if you expect to rely on Medicare.
• Food. Maybe you’re cooking for four now, but that will drop to two after the kids are grown. Or maybe you’ll then eat out more. Or maybe dining out will cost less as you come to enjoy those early bird specials.
• Commuting expense. Goes down. Way down.
• Clothing. The cost of business suits goes down. But then again, Bermuda shorts, floral shirts and white shoes can be expensive, too.
• Travel. It’s a conundrum. Just when you have the time for more travel, your financial resources get constrained. But you’re able to take advantage of last-minute deals on cruises to Mexico and such.
• Grandchildren. That’s a whole new category.
What did I miss?
For instance, you sometimes read that a reasonable retirement goal is to spend 85% of what you are spending during your working years. At least I think that’s the rule of thumb. Or maybe it’s that your retirement income should be 85% of what your income was during your working years. These are two different things.
Whatever. It really doesn’t matter what the rule of thumb is, because it doesn’t apply to you anyway. In a comment to April 27’s post, for example, David suggests that his expenses will actually increase during his retirement years. In his case, he expects to incur higher travel costs. If he follows a rule of thumb in setting a retirement saving goal, he may have to actually use his thumb for travel.
So it pays to set a retirement savings goal based on your own spending needs. And what are they? Well, you can start with what you’re spending today and think through appropriate adjustments. How do you know what you’re currently spending? You could look at that directly by combing through your checkbook for the last few years, but that might be pretty tedious. Perhaps it’s easier to get at that indirectly by looking at your income and subtracting out your savings.
Then you can think through all your categories of spending, and project whether they will change—up or down. Here are a few items that may change:
• Retirement savings. That’s one “expense” that goes away. No more 401(k) deferrals; no more IRA contributions.
• FICA taxes. These stop when you’re no longer working.
• Your mortgage. When will this be paid off? Perhaps it's a disappearing expense. Unless you’re one of those refinancing addicts who take out a home equity loan before each visit to the gas station.
• Health insurance. Maybe this will go up, if your employer is now subsidizing this cost but won’t after retirement. Or maybe it will go down if you expect to rely on Medicare.
• Food. Maybe you’re cooking for four now, but that will drop to two after the kids are grown. Or maybe you’ll then eat out more. Or maybe dining out will cost less as you come to enjoy those early bird specials.
• Commuting expense. Goes down. Way down.
• Clothing. The cost of business suits goes down. But then again, Bermuda shorts, floral shirts and white shoes can be expensive, too.
• Travel. It’s a conundrum. Just when you have the time for more travel, your financial resources get constrained. But you’re able to take advantage of last-minute deals on cruises to Mexico and such.
• Grandchildren. That’s a whole new category.
What did I miss?
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