Does a Million Dollars Make You Rich Anymore?

Millionaire 3

I remember being worth a millions dollars at the age of 37. I had a 6 nice figure income, was an officer in company that had just gone public and made INC magazine top 100. My 144 stock (restricted shares) were tracking the common shares and I was going to be rich, rich, rich! Sort of glad I never “spent” any of that, a year later in a dispute with the founder I resigned and in 6 months they filed for bankruptcy. The stock was worth nothing, had I had to start over again. I did have better experiences at other businesses where my employee stock purchase, ESOP plans and the sale of a business produced much better results.

So, the question is, does having a million dollars make you rich today? In 2016 there were 9.4 million individuals with a net worth between $1 million and $5 million. There were 1.3 million people worth between $5 – $25 million. Net worth is assets less liabilities. It’s possible that a $1 million net worth is now in the upper middle class. By the way, a million dollars in 1984 would be worth at least $2.3 million in 2017 just based on inflation alone.

So, can you retire on a million dollars? Well it depends on a lot of issues. Let’s look at some of the issues.

 A Million might not be enough:

  1. Let’s first define this $1 million as “liquid”, not including your principle residence. This means that you have $1M+ in a combination of your 401K, IRA, Roth, after taxable brokerage account and savings.
  2. Using a simple rule of thumb one might calculate that a standard 4% withdrawal rate will give you $40,000 a year
  3. But wait, can you count on a “guaranteed” 4% without running out of money, maybe, maybe not.
  4. Will it be easy to generate on average 4%, year over year? If you are in bond funds and an annuity (more bonds) you might have a challenge. If you are 70 years old and follow the old adage, have your age in bonds (70%), you just aren’t going to make it to be 95.
  5. Never disregard inflation, right now it is very small, but a 4% return is maybe only 2% with inflation. You need a 6% total return to get a 4% return after inflation.
  6. Now let’s calculate taxes. There are some very unfriendly places to have your $1 million, namely any tax referred account, like that 401K, IRA, bonds or an annuity. This is because each of these is taxed as ordinary income. The tax issue is more complicated because withdrawing money from your $1 million dollar net worth will trigger taxes on your Social Security, up to a maximum of 85%. We’ll figure out how all this works below.

Best Places to Have Your $1 Million (best to worse):

  • ROTH IRA – this is the best place because it is 100% tax free. A Roth withdrawal does NOT count towards determining Social Security tax.
  • After Tax Brokerage Account – This is your normal taxable account where you invested your savings over the years. It’s a good place because qualified dividends and capital gains withdrawn can be at 0% – 20% max. These distributions do count towards the determination of Social Security being taxable.
  • 401K, IRA, Bonds, Annuity – The distribution from these are always taxed as “ordinary income”.
  • Cash – This is a little tricky. If you had all cash you would save on taxes, however, with no investment growth your 1 million will not last nearly as long a having that money in a mix of the other places listed above.

Now let’s look at a few possible outcomes for your $1 Million. In this chart I’ve shown the effects of modest inflation and taxes on both a 4% and 6% average rate of return.

Chart

If you assume that you and your spouse were living on a nice fat 6 figure income before retirement and didn’t exactly “feel rich”. You now collect your, say $45,000/yr combined Social Security, plus another $30 – $40,000 a year in investment withdrawals you’ll be living on $75,000 – $85,000 a year after taxes.

I’m not sure you’ll feel like you are a “millionaire”!

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