Since Social Security is such a major part of retirement income for all but the wealthy — and I mean households with a net worth well over $2 million — the time you spend on this Web site will be a very good investment.
When you study Social Security further you will learn that your benefits are not in direct proportion to your income. Instead, you are credited at three different rates. For 2008, for instance, workers are credited with 90% of earnings up to average monthly indexed earnings of $711. Earnings over $711 a month but less than $4,288 a month are credited at 32%. Earnings over $4,288 a month are credited at 15%. In effect, this works like a steep, hidden income tax, because income over $51,456 a year receives only one-sixth the future benefits as income under $8,400 a year.
Q: I read your column in the Houston Chronicle, and know you have, from time to time, listed Web sites with financial calculators, but I have not saved the info. Now I need them.
I want to calculate how long a sum of money (my nest egg) would last with a withdrawal rate of X dollars per month increased annually by X inflation rate, with a return rate of X. And for the return rate, should I use an estimated total return rate, or only the actual income being realized currently (my nest egg is invested in fixed income plus mutual funds)? — G.R., Houston
A: Calculations should be based on total return, not income return. One of the more flexible retirement income calculators on the Web is www.firecalc.com. In addition to allowing a variety of asset classes, it can also factor in the impact of management expenses, different starting times for Social Security benefits, possible increases or decreases in future spending, etc. The calculator is free, but donations help keep it running.
Another thing you can do is buy and learn to use a financial calculator. It can't factor in things like inflation, but it can give you a good sense of how long a sum of money will last if it earns a certain rate of return while you are making withdrawals. You can buy the Texas Instruments Business Analyst II calculator for $28.79 at Best Buy.
Q: I will receive an entirely unexpected amount of money from a gas well. I am also expecting a high tax rate in 2008 due to this money. If I invest it in Treasury bonds or roll it over into something else, will it alleviate any big income tax jump? — K.V., by e-mail
A: Over the last 40 years I've watched a lot of people try to minimize their income tax bill with an endless variety of strategies. Most have lost money rather than saved it. Some have suffered total financial disaster, as did the folks who invested in Texas real estate partnerships in the early '80s.
The thing we all need to remember is that taxes are always just a portion of our income. Sometimes a large portion, to be sure, but only a portion nonetheless.
My suggestion: Reinvest your after-tax windfall in equities. Start building a portfolio that will yield dividends and capital gains taxed at only 15%. You'll be amazed how quickly it will grow. Over time your average tax rate will fall. Eventually you'll be like Warren Buffett, collecting lots of income but paying at a rate of no more than 15%.
Questions about personal finance and investments may be sent by email to scott@scottburns.com or by fax to 505-424-0938. Please visit my website at www.scottburns.com to comment on any of my articles, find referenced web links or to discuss personal finance topics on my forums. Questions of general interest will be answered in future columns and on my website.
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