Planning a tax-efficient retirement income is easier when you understand the R/D Factor™ and how to use it to minimize taxes. The R/D Factor (R/D = retirement distribution) is a measure of how well you did reducing your taxable retirement income by balancing your savings. The scale runs from 0 to 100, with 100 meaning that all of your retirement income is tax-free and 0 meaning all of your income is taxable.
The New Three-Legged Stool approach to retirement planning balances your savings between after-tax, tax-deferred, and tax-free accounts so that you can maximize the R/D Factor. Tax liability from after-tax accounts is not based on the amount of withdrawal. It is based on how the money is earned. Earnings classified as long-term capital gains or qualified dividends may be taxed at a zero rate if you plan your income properly. Distributions from tax-deferred accounts have the worst tax implications and must be planned carefully. Roth IRA distributions have no tax implications and are used to supplement your income when needed without concern from income taxes.
Your goal should be to reach an R/D Factor greater than 50. A tax planner that understands the R/D Factor can help you structure your income to minimize income taxes each year. This needs to be reviewed regularly as the financial markets change and your individual tax circumstances may require adjustments. Taxable income should be accelerated in low tax years. Higher tax years will require minimizing taxable income in other years in order to stay in a lower tax bracket.
A complete explanation of the R/D Factor and how to use it can be found in The New Three-Legged Stool: A Tax Efficient Approach to Retirement Planning. “R/D Factor Explained” is an abbreviated explanation that was published in our July newsletter.