Last update on September 25, 2013
Although Income Discovery is primarily designed for a current retiree, the tool can be used effectively for an individual who is a several years away from retirement. In this article, we recommend a method to model this case using the Income Phases and Incoming Cash Flows tabs. This method involves modeling earned income as Incoming Cash Flow and configuring the desired income for each phase as the cash flow for living expenses and taxes. Excessive cash flows from earned income that are not used to meet living expenses are deposited in the Systematic Withdrawal Portfolio (SWP) and they grow with rest of the SWP until the SWP is withdrawn from. The steps are outlined below:
Modeling a Pre-retiree Case
The first step in modeling a pre-retiree case is to click the button within the Income Phases tab, highlighted by the red arrow in the graphic below:
A popup window will appear asking for the name, length and % of desired income for the new phase. After choosing a name such as “Pre-retirement”, “Growth” or something similar, input the length of the phase. The above exhibit shows a client that is three years away from retirement.
Next, in the non-tax mode, the cash flow for living expenses and taxes in the pre-retirement phase will be defined as a percent of the Desired Income configured in the Income Parameters tab. In the tax mode, the phase income is configured as post-tax income as the tool calculates the taxes and adds them to the withdrawal.
After establishing the pre-retirement phase length and expense level, the next step is to switch over to the Incoming Cash Flows tab. This is where you input the pre-tax wages and earnings/income for your client during the pre-retirement years. In the case of a couple, the spouses may retire in different years and each spouse’s earned income can be entered as independent rows.
While operating in the tax mode and using effective tax rate based approach, it is important to properly configure the effective tax rate for each phase because during working years the tax rate is typically higher than the retirement phase.