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MaxiFi Finds Lifetime Taxes Cuts and Higher Lifetime Social Security Benefits, Raising John Doe’s Estate by $1.1 Million or 33 Percent!
John Doe is a 65-year-old retired widower. He lives where he was born — in Winona, Minnesota. John joined the military after high school, served for 20 years, managed a hardware store and retired last week — the day after his wife, Jane, suddenly passed.
John and Jane both grew up poor and saved like crazy. They were sure they’d never have enough. They also wanted to leave money to their three kids.
Frugality worked its financial charm. John is sitting on a $1.5 mil IRA, a $1.5 mil savings account, a $45K inflation-indexed annual military pension, and, if he takes Social Security immediately, a $3.5K monthly benefit. He also owns a $1 million house free and clear. Ok, free is too strong. Maintenance, insurance, and property taxes total $25K a year. John plans to leave the house to the kids and to withdraw his IRA in annual equal real amounts starting this year.
Having just watched this podcast, John plans to invest his assets in a safe TIPS ladder. TIPS stand for Treasury Inflation Protected Securities, which references US Treasury bonds whose coupon and principal payouts are adjusted for inflation.
TIPS yields are currently quite high. The 30-year TIP is yielding 2.69 percent above inflation, i.e., 2.69 percent real. The 10-year TIP is 1.96 percent real.
John ran MaxiFi Planner, my company’s economics-based financial planning software, assuming the default maximum age of life of 100 and a 1.96 percent real yield on his investments. MaxiFi, btw, has users plan to live to their maximum age of life for one very good reason — they might!
Note: In running MaxiFi, John specifies a 4.35 percent yield on nominal 10-year Treasuries — the prevailing rate as I write — and a 2.36 percent inflation rate — the rate implied, with the right application of Fisher’s Law, by the difference between the 10-year nominal and real Treasury yields.
John Runs MaxiFi and Learns He’s Rich!
John and Jane’s annual discretionary spending was $70,000. But MaxiFi tells John he can spend $121,179 each year, measured in today’s dollars. This is above and beyond his fixed spending — on housing and federal and state income taxes as well as Medicare Part B premiums.
John is amazed that he can safely spend so much. But he’s not a spender. $70K is the most he can manage to shell out without feeling excruciating guilt. After all, how could he stand to have a better lifestyle than Jane had enjoyed. And since he’ll now be spending the $70K just on himself, his own living standard will be higher in any case.
John Runs MaxiFi with a $70K Discretionary Spending Cap
John reads up on MaxiFi’s capacities, including its ability to do estate planning. He learns he can set a cap on annual discretionary spending, leading, of course, to a larger estate. With a $70K discretionary spending cap, John’s terminal estate rises from $1 million, which reflects the value of his house, to $2,896,957, with the extra $1,896,957 coming in the form of a bequest of regular assets.
John is beaming, knowing Jane is beaming. But then he spends more time at MaxiFi’s Learning Center and realizes he has the option to limit withdrawals from his IRA and spend more out of his regular assets. Doing so will mean leaving his kids less regular assets, but potentially far more tax-deferred (for up to 10 years) IRA assets.
MaxiFi forces John to take RMDs — required minimum distributions — starting at age 75. But if he withdraws only his RMDs, he’ll make smaller IRA withdrawals over the rest of his days and, therefore, pay lower taxes on his IRA holdings. Moreover, by using up his regular assets, he’ll pay less in taxes through time on regular asset income. Lower future IRA withdrawals and less regular asset income also translates into lower future levels of Adjusted Gross Income, which, potentially, means far lower taxation of his Social Security benefits as well as reduced Medicare Part B IRMAA premiums.
John says, to himself, “Let me set my desired IRA withdraws to zero. Yes, MaxiFi will override that setting each year to satisfy my RMDs, but doing so will still substantially limit my IRA withdrawals — to just my RMDs.”
John Runs MaxiFi with the Spending Cap Plus Limiting IRA Withdrawals to RMDs
John proceeds to click Settings and Assumptions, then Estate Planning, and set desired IRA withdrawals to zero. This raises his terminal estate to $3,145,117 — an extra $248,160! The new total comprises the $1 million house, $1,793,918 in regular assets, and $351,199 in IRA assets.
John’s beside himself with glee. He hates paying taxes and realizes that this increase in his terminal estate is due entirely to saving taxes. As he tells his neighbor, Harry, “Imagine being able to get Uncle Sam to provide my kids with over a quarter of a million dollars!”
But Harry is an accountant. “John, not to bust your bubble, but your kids will need to pay taxes on the IRA they inherit, whereas bequests of regular assets aren’t taxable. On the other hand, your kids can let the assets in the IRA accumulate for a decade before having to withdraw the entire account, all of which will be federal and state income tax taxable. There’s also the Minnesota estate tax, which will be about $20K. But, all in all, this seems like a good deal — just not as large as you think.”
John’s full beam goes to half beam. He also remembers why he hates accountants. But then John reads this article about using MaxiFi’s Roth Conversion Optimizer. Maybe Roth conversions would let him leave money to his kids tax-free (apart from the Minnesota estate tax) and save him even more taxes as well?
John Runs His New Plan Through MaxiFi’s Roth Conversion Optimizer
John can’t believe it. He clicks on a couple of buttons and, bingo, raises his real (today’s dollars) terminal estate to $3,864,532 — an extra $719,415! Compared to withdrawing smoothly from his IRA starting immediately and not doing Roth conversions, John’s raises his terminal estate by a whopping $967,575. That’s a one-third increase — all paid for by Uncle Sam and Aunt Minnie in the form of lower lifetime federal and state income taxes (including lower taxes on his Social Security benefits) as well as lower lifetime Medicare Part B premiums.
John rushes over to Harry’s house and screams — “Harry, you won’t believe this. My terminal estate is up to $3,864,532 and almost every penny is going to my kids tax free — in the form of inheriting my house and receiving a $2.8 million Roth IRA. And, Harry, I needn’t remind you, grand accountant wizard that you are, that the kids can let those inherited Roth assets accumulate tax free for 10 years and then withdraw the full amount — all tax free!”
Harry says, “Brilliant, John. Just brilliant. I’m going to start using MaxiFi in my practice. You got the feds and our state to pay your kids an extra million dollars. Brilliant.”
But then Harry says,
“John, not to bust your bubble yet again, but, you do realize that your Minnesota estate tax will be $112K. And how do you know MaxiFi is correct?”
John Maximizes His Lifetime Social Security and Moves to Wisconsin to Avoid MN Taxes
“Harry,” John says, “I figured you’d have a rejoinder. But I’ve got that one figured out too. I just sold my house. I’m buying an even bigger house 40 minutes away in La Crosse, Wisconsin. Wisconsin, as you surely know, since you are the smartest accountant in the neighborhood, has no state estate tax and a lower income tax. Come on over. I’ll show you MaxiFi. It’s simple enough for even accountants to run. Plus, I’m just getting going. I just realized that if I delay taking Social Security till 70, I’ll dramatically increase my lifetime benefits, thanks to Social Security’s Delayed Retirement Credit, which MaxiFi fully incorporates, and also face no taxes on Social Security benefits over the next five years while I do my Roth conversions.
And you can check every detail of MaxiFi’s results, including each year’s federal and state income tax calcs. In fact, there are seven specific ways to see on inspection that MaxiFi is getting everything and, what’s most important, internally consistently correct. In particular, you can see immediately that it does lifetime budgeting proving that I can afford to spend and bequeath what it says I can spend and bequeath! Lifetime budgeting, as you surely know Harry, requires that the present value of all your spending equals the present value of all your resources.
Economists may not have the personalities to be accountants, but they are good with budgets. And no household can engage in lifetime spending that exceeds its lifetime resources. MaxiFi’s lifetime budgeting is precise to the dollar.”
John knows his stuff. Delaying Social Security and moving to Wisconsin raises, according to MaxiFi, John’s terminal estate to $4,018,260 - another $154K. That’s a tax-free, $1,121,303 larger estate than he originally intended to leave — all thanks to MaxiFi’s money magic.
The first two charts below show John’s bottom line — a $1.1 million increase in his final estate, all measured in today’s dollars. The next three charts show the reason for John’s one third larger final estate — higher short-run, but lower long-term federal income taxes, state income taxes, Medicare Part B premiums, and lower short-run, but higher long-run Social Security benefits.
On a lifetime present value basis taxes fall and benefits rise on net — by huge amounts! The following two charts show this. They display John’s lifetime budget balance under his base and final plans. All amounts are reported in present value. I.e., future dollar amounts are discounted (made less of) because you can invest less than a dollar today and end up with a dollar in the future thanks to receipt of interest.
As Harry can see, both the base plan’s budget and the final plan’s budget balance. This is a critical way to confirm that MaxiFi is working and always works correctly. But the final plan has higher lifetime Social Security benefits, lower lifetime taxes, and lower lifetime Medicare premiums. These gains, accumulated at John’s assumed real return, are the sources of John’s $1.1 million higher terminal estate.
AI Can’t Get Within a Mile of the Right Answers
The following two charts are the result of my feeding everything typed above into Claude AI and asking it to make its own calculations. As you can see, it understates John’s base plan’s final estate by 31 percent and his final plan’s final estate by 28 percent.
Finally, you’ll see a chart that reflects Claude’s second try — after I fed it the identical data and requests, but in compact form. Claude now says the final plan reduces John’s terminal estate by over $1 million! Its terminal estate calculation is over $1 million too high for the base plan and roughly $1 million too low for the final plan.
This may be good enough for government work, but it’s not good enough to guide your finances. Here’s an article explaining why AI is so bad at making calculations that matter — difficult calculations. Were I an AI company, I’d be concerned about a class action suit based on its producing verifiably wrong financial calculations and giving verifiably wrong financial advice. AI’s initials need to be changed to GSGD — Genuinely Stupid and Genuinely Dangerous.
Base Plan with Spending Limit
Final Plan — Base Plan with Spending Limit, RMDs Only, Roth
Conversions, Delayed Social Security, and Move to Wisconsin
Base Plan — Lifetime Present Value Budget
Final Plan — Lifetime Present Value Budget
Here’s Claude’s second try after I fed it the identical data and requests, but in compact form.
I’ve been a pretty long time user of Maxifi Planner. Over the years Maxifi has added great legacy planning options, which is very important to me. Nevertheless, I haven’t had the guts to make that recommended upfront Roth conversion because of the huge tax payment in year 1. I’ve done everything I can to justify not pulling the upfront tax payment trigger, including purchasing other popular financial planning software applications and running a myriad of different scenarios in them. In the end, all my scenario testing did was to disclose logically inconsistent results within these other programs. This article has helped me move past my hesitation to make an early upfront Roth conversion. (But it’s still scary).