by: Cory Carlton
While we’re working and saving and growing a family and we are thinking about putting money away for the future.
For college, for weddings, for cars, and for retirement.
Most people save in their company 401Ks because that is what we have been conditioned to do for decades. No one questions that advice. “If it was good enough for my grandfather then it is good enough for me,” said the baby boomer and gen xer.
Well, I would assume you’re reading this on your phone or computer instead of in the evening post left on your doorstep. Times have changed and the way we need to save has changed.
Let’s discuss one of the things you have not been thinking about when it comes to your retirement: where to save your money.
If you have been saving, that’s great. If you have not looked beyond 401Ks and IRAs, you’re missing the boat.
The “traditional” retirement vehicles defer taxes until retirement. You get a small tax-break now while you are saving but when you retire you owe taxes on the entire amount you have saved, which will be much bigger.
If you’re getting a match in your 401K that’s great. But if you are saving above your match then you are just adding fuel to the fire that is your tax bill in retirement.
A recent study showed that when people retire 74% of their retirement savings are made up of their contributions. You read that right. That means only 26% of the money in their retirement savings came from growth and interest.
For all the hype getting higher returns gets in the media it is far more critical where you save your money when you will be relying mostly on your savings and not growth. So that means you should be saving your money in a place that protects your savings, grows it, and helps keep your taxes as low as possible.
Saving in 401Ks and IRAs will make all your income in retirement taxable. If all your money is taxable in retirement that means the IRS will be able to impose more “stealth taxes” on you too. I’ll get more into that in a minute.
So where should you be saving your money? Glad you asked. Here are two options to consider…
Roth IRA or Roth 401K. No big surprise here. Tax-free is going to be your favorite word in retirement if you plan correctly.
Utilizing these tax-free options can save you hundreds of thousands of dollars in retirement. With these accounts, there are limitations on contributions and income but if you do a Roth conversion you just need to make sure you don’t convert too much in a single year.
The downside of these plans is that they generally risk your money and since how much you save is so important to your retirement you may not want to risk all your money.
Enter 7702 plans. I’ve talked about these before. They work well as a part of your overall financial plan.
They give you the same tax-free benefits of Roth accounts without any of the limitations or risks.
Since they don’t risk your money, they also tend to be able to have better long-term performance and lower fees as well.
So, we encourage people to try and get as much tax-free income in retirement as possible. How come? For starters, you could expect 60% more income in retirement by saving this way. I bet that sounds of interest to you.
The other comes back to the second thing you are not thinking about for your retirement: Medicare.
Your retirement and Medicare are directly related because your Medicare premiums are impacted by your income. The more income you have, the higher your Part B and Part D premiums will be.
This is one of those “stealth taxes” I mentioned a moment ago. Taxes on your Social Security would be another form of stealth taxes as well as getting rid of deductions.
Let me explain how this works. If a couple is making $250,000 a year in retirement, then they each are going to have to pay an additional $170 a month. That’s an extra $4,080 a year in premiums that they get no extra benefit for. The government has just decided they “make too much money” and they must pay more.
Now, let’s assume this same couple was able to use Roth accounts or the 7702 plan for half of their income. Making their taxable income $125,000 a year. That means they have no extra charge for their Medicare premiums. Even if they are still getting a total of $250K but only half of it is taxable, that is a huge savings.
This could impact your Social Security income too because that is taxed based on your modified adjusted gross income. But income from Roth accounts and 7702 plans don’t count toward that.
As the IRS is looking for ways to combat the national debt and the high volume of money printing that has gone on in recent years you better believe they are going to look for any way they can to increase taxes.
We believe that during your retirement you should not be subject to unknown tax rates and unknown stealth taxes.
The best way to get around that is to have as much of your income in retirement be tax-free.
One last thing on the Medicare planning. You will be able to choose either a Medicare Advantage plan or a Medicare Supplement plan.
Many of the Medicare Advantage plans have no premium. You just pay when you need care and there is an out-of-pocket max of around $7,000, which could be higher in the future.
With Medicare Supplements, you pay your monthly premium, the Part B deductible, and possibly a copay, and then that is it. We call it the “pay-as-you-go plan” because you prepay for your care and then have very few bills after the fact.
My grandmother was sick for a long time. She got on a Medicare Advantage plan because an agent told her it was the best plan because it had no premium. This was way before I started in the business. She hit the max out of pocket every single year and then had high drug costs.
My grandfather told me that their retirement would have been very different if my grandmother’s healthcare bills were not as high as they were. They had to move to the middle of rural Kentucky where the cost of living was lower to make sure they had enough money to last their retirement.
Had my grandmother been on a Medicare Supplement plan, things would have been very different.
I’m not saying that Medicare Supplements are better or the best, it just would have been a good thing for my grandmother and my grandparent’s retirement.
All this to say that you need to ensure you are saving your retirement money in the right place, not just where the HR person or guy on the radio tells you to save it.
You also need to make sure you work with a team that understands how retirement and Medicare work together. You know, a team like us here at Both Hands FG.