Read The Transcript Below:

Steven (00:53):

Hello everyone and welcome to the next episode of the Retirement Tax Services podcast, Financial Professionals Edition. I’m your host, Steven Jarvis, CPA, and with me this week I have a very special guest, Dr. Wade Pfau. Wade, welcome to the show.

Wade (01:07):

Thanks, Steven. It’s a pleasure to be here.

Steven (01:09):

I’m really excited that you have joined me. We’re recording this a little bit ahead of time, but this is the first episode after the tax filing deadline. So naturally we want to talk about tax planning and how we can incorporate taxes into how we think about the future, and part of the reason I reached out to you, I mean you’re doing a lot of great work. We recently published an article together that Advisor Perspectives put out for us, but you also just put out the newest edition of your Retirement Planning Guidebook. This is something you go deep on. This isn’t high surface-level conversations of, hey, maybe think about taxes. You really know your stuff on this. So tell us a little bit about your background and your interest in this topic.

Wade (01:47):

Sure, so I’ve been primarily doing research in the retirement planning space for at this point about 15 years. I was at the American College of Financial Services for about 10 years and for part of that, I was the program director for their RACP designation. I’ve written a lot, kind of made my name in the area like is the 4% rule safe, that sort of thing, but with the Retirement Planning Guidebook, just really trying to make sure I have good coverage of all the different aspects of having a complete retirement income plan. And indeed the longest chapter in that book is the tax planning chapter. Just walking readers through the general way that taxes work in the US, the progressive tax system and so forth, and then how that leads to tax-efficient distributions and how to think about drawing from taxable accounts, tax-deferred accounts, tax-free accounts to get the most after-tax spending power for assets in retirement. And it’s a big really important issue because even compared to the conventional wisdom type strategy, which was you spend your taxable then tax deferred and tax-exempt, that’s a reasonably efficient strategy, but even compared to that, you can do so much better by just thinking a bit more strategically around how to coordinate those distributions in retirement.

Steven (02:58):

There’s a building process to this for you because sometimes what I find around these conversations is people either just go completely on the simplistic side, Hey, talk to your CPA about taxes, they’re important, or they go so deep they get way too overly technical and really we need to be somewhere in the middle or at least we need to help with a progression there. So starting with here’s how the tax code works and how just the basics go, and then building from there, because you’re absolutely right when we cover the basics and then keep layering on top, there is a lot of opportunity for, I like how you phrase that, your after-tax spending power. That’s what this is all about. It’s about people helping people accomplish their goals and having the finances to do it.

Wade (03:39):

Right. And there are so many considerations, so when people are working, they may not have much control over it, but even without getting into some of the retirement-specific issues like social security and Medicare premiums, just the whole idea of preferential income stacking, which is about how your long-term gains and your qualified dividends stack on top of your ordinary income, but you may not be able to control that much, although it matters post-retirement. It can be really shocking how just simple example, you take money out of your IRA, not only do you have to pay taxes on that, but if then that pushes part of your capital gains to go from 0% to 15%, the effective marginal tax rate you’re paying on that is 15% higher. You thought you were in the 12% income bracket, you’d be paying 27 cents on that dollar of income due to these nonlinearities in the tax code, and that one applies pre-retirement too, but when you’re just working, you may not really be able to control your income when you’re retired. There could be a lot more flexibility to use different sources, and different assets, and have better control over your taxable income. And so there’s much more ability to manage these types of issues in retirement.

Steven (04:47):

Well, and Wade, I’d be curious your experience because one of the things that I’ve seen is you’re absolutely right that during your working years you have less discretion, but building a taxpayer’s understanding of how these things work does change their experience, even if they can’t necessarily directly impact the outcome today because taxes is this unknown black box for most people. Not only does it feel unknown, but it kind of feels unknowable that it’s just something that happens to people. And so it’s endlessly frustrating, it’s endlessly painful, and I make the joke to my clients all the time that my magic wand is broken. I can’t make your taxes go away completely, but we can make the process less painful and we can help sand off the rough edges of your tax bill. And part of the way we make the process less painful is just giving them that little bit more clarity of here’s how this all works, and it’s not arbitrary that the rules don’t necessarily have a logic to ’em, but there’s a reason your tax bill ended up higher this year or lower this year, and when we can start giving them more realistic expectations, it’s not as scary anymore.

Wade (05:47):

Right, right. Yeah, I mean also part of that is just tax diversification, making sure you’re taking advantage of different types of savings vehicles and so forth so that you’ll have more flexibility at retirement as well. But yeah, absolutely. It can be a black box and being able to help people see through that black box and just have a basic understanding of what’s going on can have a huge impact on the control people feel over the decisions are able to make.

Steven (06:15):

Absolutely. You’ve put out the most recent version of your Retirement Planning Guidebook, which I would expect takes a lot of work just to update all of the numbers, all of the things that conceptually might be consistent year over year, but the numbers constantly change because their index for inflation or whatever it might be. But I’m curious, were there any things that stood out to you in this latest version, maybe higher-level concepts or approaches that might’ve changed or was it just, Hey, you know what, here are the new numbers and really it’s doubling down on these things that we’ve always been doing.

Wade (06:43):

The previous year in 2023, it was a lot more effort to just update everything for the Secure Act 2.0, which had all kinds of small, relatively minor, subtle type changes that show up everywhere. This year was partly just updating the numbers to 2024, but then also with the work we did and over the past year, I’ve been working a lot more with Joe Elssaser over at Covisum, and it seems like every time I put out a new edition of the book, I change the decision rules around the tax efficient retirement approach, and Joe was showing me how he uses the tax maps with his software to look at the effective marginal tax rate and to look at segments of income, determine whether they’re desirable or undesirable. And so the biggest change to the Retirement Planning Guidebook this year was just adapting that effective marginal tax rate management system as the way I explain how tax planning works and the tax maps. That’s such a brilliant concept to help people see how generating income impacts not just income taxes, but all the different tax or surcharges. Are there aspects of the tax code to really get a complete picture of what’s going on as they generate income. And so that was the big contribution. Joe helped me understand all that. That’s what was really the newest, biggest addition to the 2024 version of the book.

Steven (08:03):

That’s really interesting. Let’s talk a little bit more about this effective marginal tax rate. You started talking about it earlier of giving examples of, well, hey, it’s not just that you’re recognizing income in the 22 or 24% bracket, but what about the capital gains income that you’re pushing out of the 0% into the 15 or from the 15 to the 20? And so there are these different moving pieces, and it’s something I definitely talk about on a fairly regular basis of what does that next thousand dollars of income really mean for your tax bill? I try to help advisors really across the spectrum because we can’t, there just isn’t time of the day to go to the Nth degree on every single question that comes up. And so again, for me, this is about building blocks and layers that we can start. I really like our Desktop Reference Guide.

(08:47):

You can go out to retirementtaxservices.com and download a copy for free. It’s a basic outline of, okay, here’s my level of income for a couple that’s married filing jointly. Here’s my ordinary income marginal tax rate. It’s a starting point, but I’m always trying to reinforce that that’s not where we stop because there’s a reason that your planning guidebook is so thick. There are a lot of different rules and concepts and things that layer on the top of each other, so we got to make sure that we know how to progress through these stages of here’s my income, so here’s my marginal rate, but oh, I need to think about capital gains. Oh, I need to think about Medicare. Oh, I need to think about the order of distributions. And at some point we really do, if we want to get very precise with this, we do need to step in, have tools that we can use along the way.

Wade (09:34):

Right. Yeah, having that software becomes important too. The concepts, once you understand the concepts to actually then apply them to a personal situation, you have to be able to create those tax maps and so forth. And so it does require software, but there are so many non-linearities in the tax code where it’s not just that ordinary income’s not just income taxes, it’s the preferential income being stacked on top of that. It’s the social security tax torpedo with how a dollar of income could also generate having to pay taxes. A bigger percentage of the social security benefits. It’s those Medicare IRMAA surcharges where $1 is too much and you may be paying an extra $900 in Medicare premiums two years later. There are the Affordable Care Act subsidies and there are the required minimum distributions, which if you’ve got too much stored up in that tax-deferred account and really shock people about, well, they didn’t want to spend the money and they don’t have to spend it, they could reinvest it in the taxable account, but it could generate some very uncomfortable levels of taxation just as you’re forced to move that money out of the tax-deferred account.

(10:40):

And so putting that all together does become quite complicated for sure.

Steven (10:44):

Wade, how are you seeing advisors effectively learn these concepts and then bridge that gap to their clients? Because I mean, clients come to, whether it’s financial advisors or tax professionals, whoever it is, they want an expert in their corner so that they don’t have to go and learn all these things on their own. But it can be really challenging trying to one, learn all these concepts as an advisor and then distill it down to something the client can do something with.

Wade (11:11):

Right. And many financial advisors are not in a position where they’re able to provide any sort of tax advice, but this is an area where maybe a stereotype or at you, certainly you’re an exception to it, but the general idea in the advisory world is the CPA is always focused on minimizing this year’s taxes. They’re not really thinking about the broader picture about not just minimizing taxes over the lifetime, but just managing taxes over the lifetime in a manner that can get that most after-tax power from the assets, which in this context of retirement can mean paying more taxes today so that you can pay a lot less taxes in the future. But a lot of CPAs are not even geared to think about why would you ever voluntarily pay more taxes you have to today, don’t do that. Defer those taxes as long as possible, and that’s where with this sort of tax planning in the financial advisory world, there can be good justifications for generating more taxable income today because you can pay at a lower rate than you’d have to pay in the future if you waited until some subsequent point to generate that taxable income.

(12:14):

We have to pay taxes sometime. Let’s try to figure out when we can do that at the lowest possible rates, and that requires more strategic thinking. Financial advisors really do need to be able to partner up with CPA, who has that open-minded outlook about agreeing that this is important, so let me manage the tax advice portion of that that the advisor’s not able to provide, but that the advisor can help coordinate what is a good long-term strategy to vary the income from year to year.

Commercial (12:41):

Hey there, advisors, this is Jamie Shilanski. You might recognize my voice from my World’s to Conquer episode over at the Perfect RIAs podcast. I get a lot of questions from my financial advisors about what type of continuing education should they attend, how should they dedicate themselves to professional development this year and what conferences are really worth going to. Well, I’m going to let you in on a little secret. The one conference I will not miss is the Retirement Tax Services Summit this September. It is going to be held in Phoenix, Arizona, and this is the most sensational conference I go to and not because of all the fanfare involved in being in Phoenix, but instead about collaborating with like-minded individuals and these are people who have legal expert tax planning advice. These are people who do qualified accounts, big retirements. They are creating five and 10 year tax plans. They have guest speakers that talk about hyper-efficiency and the things that you need to know to keep you on the cutting edge of being a financial advisor. It is certainly where I will be. You don’t want to miss this conference, so make sure that you jump over to retirementtaxservices.com and register to attend this summit. I know it’s where I’ll be this September!

Steven (13:50):

It’s a great reminder about the typical CPA approach because definitely take a lot of pride in not being your stereotypical CPA, but for the most part, the tax preparation industry is really trained on looking in the rearview mirror. It’s what happened last year, and in fairness to them, that’s what their clients are asking them for. Most people go to their tax preparer and say, Hey, give me a big refund, so they help ’em get a big refund, and so it’s just a different mentality to really, it takes longer. It’s really easy for me to understand, oh, your goal is a big refund, so great. Let’s get you a big refund. Trying to decide what we do over the long term is a more involved conversation to say, what is not just the goal for your lifetime, but for your legacy? What are we trying to maximize for?

(14:30):

Because take a client who has every intention of leaving all of their wealth to charity, great. That’s a different conversation in a different strategy than if I’m trying to maximize the after-tax wealth to my children or to the second or third generation. There are different aspects here that create this huge opportunity for advisors who are willing to lean into it because this constant conversation about tax planning is not just an attempt to get other people to sign on to the tax nerd bandwagon that I like to ride. There is a real opportunity to have an impact on your clients, to grow your business, to attract new prospects. This is a wealth of opportunity in this area.

Wade (15:08):

Yeah, and this is where I think maybe part of what you were asking before, this is not commonly known information still at this point. I think there are a lot of advisors who are starting to focus more on tax planning. I mentioned the conventional wisdom, which was- spend your taxable accounts first, then tax-deferred, and then tax-exempt at the end, and the better answers are correlated with that, but you really don’t want to be taking too much out of that tax-deferred account in any particular year, so it’s better to smooth things over time and potentially do Roth conversions, and that’s a hot area now for advisors to get more education about, well, how can we use Roth conversion strategically? How can we blend the distributions from the different types of accounts to better control our adjusted gross income and all the modified adjusted gross income measures related to that impact all these other aspects of the tax code so that we can get that stronger after-tax spending power from the assets.

Steven (16:05):

Yeah. I really want to reinforce what you said there about this still is an area that relatively, I want to say relatively untouched by advisors, and that might seem counterintuitive to people listening because I see the word tax planning on, geez, every second website you see from an advisor anymore. Everyone’s leaned into, Hey, we need to talk about tax planning. But there’s a big difference between saying, Hey, I do tax planning and doing meaningful deep tax planning at the level that Wade’s talking about, and I see that in the questions I get from advisors, which I’m not, I don’t mean this negatively on the advisors who are asking these questions. I love that they’re asking them, but I still get dozens of questions on a regular basis from advisors that reinforce to me that we’re still working on the basics at times. And again, I really applaud those advisors for leaning into it. You got to start somewhere, especially for advisors who regularly listen to this podcast and surround themselves with advisors who are doing tax planning. You can start to kind of kid yourself into thinking, oh, well, everyone does this now. Everyone does not do this yet. You’re still on the leading edge if you are doing meaningful tax planning for your clients.

Wade (17:10):

That’s right. And just the whole idea of the software. I get many questions from advisors about what software can be used to do this type of tax planning, and there’s not a lot of options out there. Of course, Joel has working with him, gotten to know his software pretty well. There are a couple of other options out there, but still, I think a lot of advisors don’t even have access to software that can do this sort of distribution, tax efficient distribution planning because it is that there’s still fertile ground for a lot more activity in this area than what we’ve seen.

Steven (17:42):

Yeah, it’s a great point because I am starting to see more softwares pop up that include tax planning, and some of ’em are doing a really great job with it, but there’s still that gap between having a pretty picture to show somebody and then being able to effectively explain what that picture means are still two different things. At the end of the day, tax is math. It’s wildly complicated, just the rules they make up around it. So software can do the math for you all day long, and there’s what Joe’s doing and he’s doing some great stuff. There’s some great software out there that will even illustrate for you what this stuff looks like. But as the advisor, you still have to be able to understand this at a level that you’re communicating effectively with your clients in a way that’s going to help them take action because the prettiest picture in the world still isn’t going to motivate them to take action and to consistently follow that action unless they’ve got a guide to help them along the way.

Wade (18:34):

Right. It really requires long-term thinking and well, we’ve already made the point, but it often requires paying more taxes, and necessary today to open up better long-term opportunities and to avoid some of those non-linearities of the tax code in the future as well.

Steven (18:51):

Wade, whether it’s in your book or your other work that you’re doing, what’s one or two things that come to mind of tax planning opportunities that you’re not seeing consistently taken advantage of by advisors?

Wade (19:00):

Well, you mentioned that the charitable giving, and that’s the important about just taking advantage of whether it’s the qualified charitable distributions to not have that money go into the adjusted gross income, being smart about how to facilitate charitable giving. The examples I create in my book are more focused on the intended legacy is not the charity, but to probably adult children who may be in their peak earnings years, and so there is more of an effort to focus on minimizing taxes for the retired couple versus what their adult children may be paying unrelated to taxes. We have to talk about the importance of delaying social security to age 70, and some advisors still think it’s better to take it as soon as possible, but when you further add-in, okay, if I delay social security, this may open up windows to do more of this tax planning before social security starts. That just further compels the story of delaying social security and maybe doing some Roth conversions before that and being in a much better position so that you may not end up even as a mass affluent couple million dollars, maybe not having to pay taxes on 85% of your social security benefits. So those are opportunities.

Steven (20:09):

I’m just thinking of a conversation I had this week with a taxpayer because all of these things we talk about, we’re trying to educate and help advisors understand them at a broad level, but it really all comes back to applying it to specific situations, to understanding those specific client’s goals and how these things fit in those particular instances. I like that you’re talking about delaying social security potentially create those windows, but at the end of the day, it’s got to come back to those client conversations because this conversation that came up this week with a client, they specifically mentioned that their advisor had talked to ’em about delaying social security, and thankfully they had the perspective to say, Hey, I need to come back to this later, because they had just had a health scare. And so for them, the idea of delaying anything was really hard to grasp because it’s not just dollars and cents at that point.

(20:53):

It’s what about how it affects this person’s life specifically and their outlook on life and what they expect to come in the future. And these can certainly be challenging conversations to have at times when, especially when we talk about retirement planning and then the legacy planning that I just kind of casually mentioned of, okay, what’s your legacy planning? But when you’re talking to a client about their legacy planning, you’re talking about, Hey, when you die, what happens to your money? And those can be challenging conversations, and so we got to keep tying it back to their goals as well. Sorry to get on that tangent there. Just made me think of that conversation I had.

Wade (21:27):

Right, right. And it’s not pleasant conversations to talk about one’s mortality and so forth, which just further complicates it as well. Absolutely.

Steven (21:34):

Yeah. One of the things, again, we’d be curious your perspective, I do really like to make sure there we’re having these tax planning conversations that we can have specific goals to tie it back to, and when I’m talking to clients, it’s a client who is trying to maximize their after-tax legacy for their kids. I’ll use their kids’ names as I talk to them, or if it’s charity’s the goal, we’ll talk about the specific charity they’re trying to support, or if it’s just maximizing their cashflow during retirement so they can take that trip or buy that RV or whatever it is they’re doing. I love to be able to tie these conversations back to those specific activities that are specific to that client because then it makes the math more impactful. It makes the math more important. I can slice my spreadsheet a thousand different ways. That’s not what the client really cares about, they care about is this helping me accomplish those goals. And tax planning absolutely can help people accomplish their goals in a more powerful way

Wade (22:26):

That helps that money to last longer or then translate in another way if you don’t need as much to retire if you’ve got a tax plan in place as well.

Steven (22:34):

Yeah, absolutely. So, Wade, your book Retirement Planning Guidebook is available on Amazon. Where else can people find what you are doing and the great work that you’re adding to the industry?

Wade (22:45):

Well, yeah, I wear a couple of different hats for advisors. The main way to find out more about what I’m up to with be through our risaprofile.com website. That’s risaprofile.com. That’s about an assessment tool to help people get started with a retirement strategy for consumers. We’ve got Retirement Researcher, which is an educational website. But yeah, otherwise I’ve written four books and they’re all on Amazon. The Retirement Planning Guidebook really would be the best starting point with all that because is more of that overview of everything related to retirement income.

Steven (23:18):

Perfect. I appreciate you sharing that. These are definitely resources worth checking out as I’m recording this podcast. My copy of the newest Retirement Planning Guidebook is sitting at home on my desk because I’m away from my office. I’m excited to get back and dig into it, but definitely resources worth checking out. So Wade, really appreciate you taking the time to come on the podcast. Any other thoughts on tax planning and specifically around actions that advisors can be taking to better serve their clients when it comes to this topic?

Wade (23:45):

Well, thanks for having me on the show. And one other area we didn’t really touch on is just for another motivation to pay taxes in advance is just the penalty is created one for the widow in a couple. When you switch from that married filing jointly over to being a single filer via the tax situation can get really impacted negatively and the way social security benefits are taxed, you may suddenly face your space, say 40.7% marginal tax rate because you’re already in the 22% bracket when your social security is in that threshold range where a dollar of income is causing another 85 cents social security to be taxed too. So that’s another just important reason for advisors to be helping their clients think through a good tax-efficient retirement distribution strategy.

Steven (24:30):

Yeah, it’s a great reminder to tag on the end there. There are so many life events, so many stages that we’ll go through that will have an impact on our taxes that if we just let ’em happen to us by default, we’re going to get killed on taxes because go figure the way the tax code is written, if we don’t make choices, the aunt IRS is going to take her share. So we want to be proactive, we want to be intentional. We want to make sure that we’re helping our clients in every way we can to best accomplish their goals. Again, thanks for being here and for everyone listening. Until next time, good luck out there. And remember to tip your server, not the IRS!