When I speak at a seminar, I ask how many people plan on retiring poor. Of course, no one raises their hand.
What they don’t know is that most tax planning works best if they retire poor. This is because most tax planning focuses on tax deferral. Tax deferral means you are opting not to pay tax now and will pay the tax in the future.
The most common example of tax deferral is the advice to maximize the contributions to a retirement plan.
Most retirement plans work like this:
The money you contribute is deductible.
The money you receive as a distribution when you retire is taxable.
The tax is deferred until a later date.
What’s the problem with this? The deduction is at your current tax rate while the distribution is taxed at your future tax rate.
If you plan on retiring rich, you will be in a higher tax rate when you retire. This means you are deferring your tax into a higher tax rate.
Example: If you are currently in a 25% tax bracket, and are in a 40% tax bracket when you retire, you are deferring your taxes into a higher tax bracket.
This type of tax planning works best if you plan on being in a lower tax rate when you retire.
Example: If you are currently in a 25% tax bracket, and are in a 15% tax bracket when you retire, deferring your taxes works much better.
If you plan on retiring rich, deferring your taxes will ultimately increase your taxes. Instead of deferring your taxes, create a tax strategy that focuses on permanent tax savings.
You may be wondering why tax deferral is such popular advice then? Because it’s easy! It is much easier to defer tax than it is to create permanent tax savings.
Creating permanent tax savings takes a little time and requires a much better understanding of the tax law. This is why my team and I always start with a tax strategy as a first step when working with clients – a tax strategy is key to minimizing taxes on a long term basis.
Focus on your wealth!
Tom Wheelwright Provision Wealth (Tom’s firm is my personal tax consultant)