Tuesday, April 14, 2015

The New Three Legged Stool and Your Social Security

I have just finished reading The New Three-Legged Stool subtitled A Tax Efficient Approach to Retirement Planning by Rick Rodgers. Since it was published in 2009, I wouldn’t assume that all the information in this book is up to date. Tax regulations change frequently. With that caveat, it is a good introduction to the complex world of tax planning for retirement and for estate planning. My immediate take away? Before implementing any of his strategies, I plan on speaking to an attorney and a CPA.

The old three legged stool consisted of a company or government pension, Social Security, and personal savings. It was assumed that roughly ½ of those personal savings would be realized when you traded your big house in an expensive location for a small house in a cheap location. Two of those three legs are gone. The defined benefit pension plan is almost extinct. The real estate crash of 2006-2009 wiped out a considerable percentage of the middle class net worth in this country. Folks who white-knuckled it through the stock market crash of 2008-2009 have seen their portfolios get well. Those who sold out at the bottom to preserve, “What was left,” have never recovered from that disaster.

Today, the author contends that the new three legged stool consists of tax deferred savings, such as the 401-K, tax free savings, that would be the Roth IRA, and taxable investment accounts. How you choose to juggle and use these assets in retirement can have serious tax implications. You are pretty safe spending money in your taxable investment accounts (if it has already been taxed). Consider using the principal from a maturing CD to fund the Mediterranean cruise rather than cashing out an IRA. When and how you take money out of that 401-K can get tricky. Be careful. Roth IRAs are the greatest thing since sliced raisin bread for the young, but they were too little too late to do me much good. The problem with the Roth is that it grows tax free forever, no matter what happens. Who wants to spend that money? Ever?

The author also includes tax strategies for maximizing your Social Security. The bad news is that if you have been diligent, responsible, and lucky you will be punished by the Government for your efforts. For most of the program’s existence Social Security benefits were not taxed. We were told Social Security is not a tax. This is your money that the Government is putting aside for your retirement. It will be returned to you with interest when you are old and feeble. Hah. Today up to 85% of your Social Security check will be taxed as regular income. I am not sure the gyrations required to beat down that 85% number are really worth the savings. Still it is something I should investigate in greater detail before pulling the trigger on Social Security. Right now I am planning on delaying that until age 66, my full retirement age.

I am worried about Social Security. While there is no immediate danger, after years of surplus generated by the Baby Boomers, the annual cost of Social Security will exceed income starting in 2017. If we don’t make any changes, Social Security will unable to pay full benefits starting in 2041. Social Security needed to find another $4.7 Trillion (2007 dollars) in general revenues, immediately cut benefits (starting in 2007) by 13%, or increase the Social Security take by 1.95% (starting in 2007). None of this has happened.

Today it is 2015.

Something is going to have to give; most likely some combination of the following.

1) Federal Insurance Contribution Act (FICA) taxes will need to go up from the current 12.4%. This will make America less competitive. Chinese labor doesn’t pay FICA taxes. Also FICA is a nasty regressive tax. The working poor, who don’t pay any income tax, still pay FICA starting with their first penny.

2) Payments to grandma will need to go down. I think the politician who suggests that grandma eat more dog food will not be reelected to any office. Social Security payments need to go up, not down. Too many people are completely dependent on this inadequate resource.

3) 100% of all Social Security will become taxable as regular income or simply stolen from workers after a lifetime of contributions by means testing.

4) The current $118,500 limit on Social Security taxes will be raised.

I don’t think the Baby Boom is going to get what has been promised, but I don’t think Social Security is going to be gutted anytime soon. There are just too many of us—AND WE VOTE. However, if you are younger than 50, you might want to limit your retirement planning to the new three legged stool. Make a special effort to grab any matching money offered by your employer for your 401-K and please fund your Roth IRA. I believe that Social Security will survive, even for the Millennials, but there are going to be some changes made to what has been described as the Ponzi scheme that works. If you are reading this blog, the chances are you will not like them.

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