Q. My wife and I are both teachers (13 years). We are not counting on the Ohio state teachers’ retirement to be there when we retire. We are 35 and 36 years old. I have a Roth ($8,500) with American funds which I stopped contributing to years ago. My wife has a 403(b) with about the same amount, also with American Funds. She also stopped years ago.
We want to start contributing again. What percent of our income should we put into these funds? Which one should we contribute to, or should we fund both? From what I understand you pay taxes on your Roth now, or pay taxes on your 403(b) when you retire, hoping that you are in a lower tax bracket. Our employer does not match at all. —L.B., from Akron, Ohio
A. This difficult decision ultimately depends on guesswork. The best place to start is with your tax return and your marginal tax rate— that’s the tax rate you pay on the last dollars of income earned. A joint return couple can have taxable income up to $67,900 and still be in the 15 percent tax bracket. The next dollar is taxed at 25 percent, so it’s a big jump.
That $67,900 of taxable income is the amount of income after you have deducted personal exemptions (2x$3,650 if you have no children), after you have taken itemized deductions or the standard deduction for a couple of $11,400, and after any contributions to a qualified plan such as a 403(b) or traditional IRA. At least $18,700 comes off the top before you get to the $67,900 limit of the 15 percent tax rate.
- If your gross income is under $86,600 you are firmly in the 15 percent tax bracket— then the most beneficial course is to contribute to the Roth first. Why? Because your future retirement income would likely be taxed at a lower rate.
- If your gross income is over $86,600 -- so that all income over that amount is being taxed at 25 percent -- the most beneficial course is to contribute to the 403(b) plan first because your future tax rate will likely be lower and you'll avoid 25 percent taxes now.
The biggest unknown here is the funding and delivery of your future pensions. Without them, you probably won’t have a tax rate. With them, your taxable income will be significantly higher. This is an area many people approach as “all or none.” The reality is somewhere in between. It is very likely that the crediting rates for public pensions (which are generally much higher than private pensions) will be cut in the future. That doesn’t mean the pensions will disappear.
It means that pensions are likely to be smaller, as a percentage of your final salaries, than they were for teachers who retired recently. You would do well to save about10 percent of your gross income.
Q. Is there a calculator for a retiree who would like an idea if present holdings are adequate for remaining life? The retirees, husband and wife, are both 73; have been retired for six years; and receive Social Security. Other spendable income is interest, dividends and principal from cash equivalents for two to three more years. We also have a managed investment account allocated between equity (70 percent) and fixed income (30 percent) from which distributions will probably not be required for about three years. We have no pensions, IRAs or annuities. We also own real estate with no mortgages, including our personal residence and another residential property in another state, not treated as rental but occupied by a son. —B.N., Austin, TX
A. The best tool I know of for this kind of estimation can be found at basic.esplanner.com. Enter your data in this free program and it will calculate how much you can spend between now and death at age 100. In most cases there will be money left over since the odds are that you will die well before age 100.
Depending on the size of your managed portfolio there is a good chance that you can easily spend more, particularly if you convert a portion of your assets into life annuities. You can read more about the approach this program takes under “consumption smoothing” on my website or in “Spend ‘til the End,” a book on the subject I coauthored with Boston University economist Laurence J. Kotlikoff, the creator of the program.