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Subject:  Re: FIRE Benchmarks Date:  9/24/2003  2:41 AM
Author:  warrl Number:  892 of 5232

I also disagree that the effect is insignificant. This has not been demonstrated. In a year in the historical record that dividends were 7%, a $1M portfolio with a 4% withdrawal would incur taxation on about $30,000. At 25% the tax would be $7500. At the very least, in any year where the portfolio is deemed to have survived by having a positive balance of $7500 or less, the portfolio actually failed.

Are taxes not part of your living expenses? Did you not plan for them when setting your withdrawal amounts?

What you try to do is achieve most of your rebalancing (as well as funding your expenses) by NOT reinvesting either dividends or interest, and by picking the asset category to sell from for current expenses.
So let's say that this is $20K dividends and $10K interest, and because stocks are doing well relative to bonds you reinvest the $10K interest into more bonds and stuff the $20K in your pocket. You still have to count the whole $30K as taxable ordinary income (or at least you did until recently). However to fund your $40K (4%) withdrawal you must then sell stock totalling another $20K. Let's say a quarter of this is principle; this leaves $15K taxable as a long-term capital gain. As I recall, the top tax rate for ordinary income is 33% while for long-term cap gains it's 20%. That would make the $15K equivalent, for tax purposes, to about $9K of ordinary income.

That's $39K of ordinary income you're paying income tax on. Whereas a wage-earner with $40K wages would be paying income tax on $40K, plus social-security tax on $40K. You're clearly paying less tax than he is.

Now in a year when stocks are doing less well, you get the same investment income; but you put both the dividends and interest in your pocket, and sell $10K worth of bonds - ALL of which is principle. So you only have $30K of taxable ordinary income.

See, taxes can be paid WITHOUT any additional withdrawals, and you'll be paying less in taxes than a no-investments worker with similar income.
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