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Understanding & Calculating the Retirement Income Gap

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What is the Retirement Income Gap?

The retirement income gap refers to the difference between the amount of money you will need to sustain your desired lifestyle in retirement and the income you expect to receive from guaranteed sources like Social Security and pensions. To determine the retirement income gap, you must first establish your annual income goal during retirement. This should cover your basic living expenses, medical costs, and any outstanding debts, such as a mortgage.

Calculating the Retirement Income Gap:

To calculate the retirement income gap, follow these steps:

  1. Determine Your Retirement Goal Income: Analyze your expected expenses during retirement, including living costs, healthcare, and fixed expenses like mortgage payments.

  2. Subtract Guaranteed Sources: Identify your guaranteed income sources, such as Social Security and pensions, and subtract them from your retirement goal income.

  3. Identify Additional Income Sources: Consider any other potential income sources, such as rental income or investment returns.

  4. Calculate the Gap: Subtract the total income from guaranteed and additional sources from your retirement goal income. The difference is the retirement income gap that needs to be filled.

Creating a Tax-Efficient Withdrawal Strategy:

To fill the retirement income gap and minimize tax liabilities during retirement, it’s essential to have a well-thought-out withdrawal strategy. Here are some compelling examples of how individuals can optimize their tax efficiency:

Example 1:  Maximizing Tax Efficiency John presented an example where an individual can minimize their federal tax liability to zero by adjusting their income sources strategically. By combining Social Security, long-term capital gains, dividends, and withdrawals from a Roth IRA, this person can legally avoid paying federal taxes. This approach showcases the power of leveraging different income streams to achieve tax efficiency.

Example 2:  Utilizing 401(k) to IRA Rollover If you have an active 401(k) and are retiring, consider moving the money to an IRA to control withholding and avoid overpaying in taxes. Unlike 401(k)s, which often have a mandatory federal tax withholding of 20%, an IRA allows you to manage your withholdings better. By calculating your effective tax rate, you can control your withholding more precisely, reducing the chances of overpaying in taxes.

Example 3:  Planning for Future Tax Changes John stressed the importance of considering future changes in tax laws and regulations that may affect your retirement income strategy. By staying informed about potential tax code modifications, you can adjust your plan accordingly to maximize tax efficiency.

Accounting for Long-Term Care Needs:

Let’s emphasize the importance of considering future expenses, such as long-term care needs. It’s crucial to plan ahead and protect your assets, ensuring you can access and utilize them efficiently when the need arises.

In summary, early retirement planning is essential, and it’s never too early or too late to start. Understanding and calculating the retirement income gap is crucial for ensuring a financially secure retirement. By developing a tax-efficient withdrawal strategy and accounting for potential changes in tax laws, individuals can optimize their retirement income and create a stable financial future.

Remember, seeking guidance from a financial strategist, like John and our team at Matthew James Tax and Wealth Management, can provide valuable insights and expertise to tailor a plan that suits your unique needs. Take the first step toward a secure retirement by contacting us below.

Plan wisely and Retire Happy!

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Disclaimer: This blog article is for educational purposes only and is not intended as financial advice. Always consult with a qualified financial advisor before making any investment decisions.

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