with financial wiz Judy Carlson Understanding Distribution Rates

What Just Ain’t So

“It ain’t what you don’t know that gets you in trouble.

It’s what you know for sure that just ain’t so.”

-Mark Twain

Julie just turned 62. Her entire career she has been maxing out her 401(k) plan and, with company matches and growth in the funds, she has finally reached $1 million. Julie is excited to retire, travel and spend more time with her husband, kids and grandkids.

Julie meets with her financial advisor, and for the first time in her life she learns 3 important financial truths:

  • With $1 million in her 401(k) plan, it will only distribute (provide) $30,000 per year to live on.
  • Her entire 401(k) – both contributions and gains – is subject to federal and state income tax.
  • The Social Security taxation formula will kick in, and 85% of her social security benefit will be subject to taxation at ordinary income rates.

Unfortunately, Julie spent her “accumulation” years saving money into an asset class (her 401(k) plan) without understanding “distribution” strategies.

Distribution rates are the rates at which you can withdraw money year-over-year from various asset classes without the risk of running out of money. Understanding distribution rates is the key to unlocking retirement income cash flow.

The 401(k) plan is named after a section in the Internal Revenue Code and was born out of the Revenue Act of 1978. Let that sink in. Contributions to 401(k) plans, IRAs and 403(b)s and the growth in those accounts “postpone” the taxes and the tax calculation. When you reach age 70 ½, the government requires you to take distributions from these accounts (RMDs).

Social Security can add $1 million to your retirement income if it’s not taxed. Today, an individual with combined income between $25,000 and $34,000 will pay tax on 50% of the social security benefit; with combined income greater than $34,000, she will pay tax on 85% of the benefit. The thresholds increase to $32,000 and $44,000 for joint returns.

Distribution strategies can literally make or break your retirement.