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       Investor's Insight - October 26, 2006           
          "A Digest of Investment Opinion From the 
             World's Leading Financial Advisers"


by Scott Burns

Q: I have often heard that a couple should plan on re-
placing 70 percent to 85 percent of pre-retirement in-
come in retirement. I have questioned that guidance 
because I believe it is more important to replace ex-
penses than it is to replace income. Of my current 
income, I spend 30 percent for living expenses. I also 
spend 25 percent on taxes and save 45 percent.

This has been the case for the last five years. Why 
does it not make sense to replace expenses -- 30 per-
cent of income in my case -- plus an allowance for 
taxes and inflation? What am I missing? -- W.B., Dallas

A: You're not missing a thing -- the personal finance 
press and many financial planners are the ones missing 

I hope other active savers will take note. The convent-
ional figure of 70 percent to 85 percent comes from a 
study that is repeated at regular intervals at Georgia 
State University for AON Consulting, an international 
employee benefits consulting firm. Sadly, the folks who 
repeat the 70 percent to 85 percent figure have probably 
not read the footnotes and methodology of the study. If 
they did, they would learn that how much you save is of 
primary importance.

In fact, professor Bruce A. Palmer, the researcher for 
the study, has regularly pointed out that households 
saving a great deal of money before retirement will 
need a much lower income replacement rate because they 
are saving so much money!


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We don't have to replace income we are not spending.

The study is an exercise in reverse engineering. They 
start with pre-retirement earned income. Then they sub-
tract employment taxes, federal income taxes and state 
income taxes to get pre-retirement after-tax income.

Then they make two adjustments. They subtract savings 
based on national survey data. Pre-retirement savings 
ranged from 2.4 percent of income for a $20,000-a-year 
couple to 5.2 percent for a $90,000-a-year couple. 
Single earners saved about the same amounts. 

In fact, many pre-retirement couples save at much high-
er rates. Each additional percentage point reduces the 
replacement income needed for retirement.

The researchers also add or subtract to account for 
spending changes for age- and work-related items. In 
the most recent 2004 study, for instance, they found 
that expenses rose by $30 for a $30,000 annual income 
couple with one earner. But expenses for a similar 
couple with a $60,000 income declined by $1,516.

Those adjustments produce the "income needed for post-
retirement consumption" -- the 30 percent you spend 
on living expenses.

Then they calculate the federal and state income taxes 
you would pay to net your post-retirement spending. 
For many people, taxes virtually disappear. 

The fact that only 30 percent of your income is spent 
on living expenses makes you very unusual. You're 
probably saving more than necessary. You didn't say 
what your income was or whether you were married, so 
I can only give you a hypothetical example.

Suppose you earned $100,000 a year and paid $25,000 
a year in taxes. Your joint Social Security benefits,
alone, could exceed the $30,000 a year you spend on 
living expenses. That means your standard of living 
would rise when you retired, unless you simply hoarded 
the return on your many years of saving.

What most of us try to do is keep our standard of liv-
ing stable over our lifetimes, avoiding big drops as 
much as possible. We do this by saving and investing 
to smooth our spending.

You may have an opportunity to increase your standard 
of living now and when you retire.



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Q: My wife and I are both 74 and in very good health. 
We have an ample diversified portfolio with over half 
in tax-deferred accounts. We also have wills, now nine 
years old, that provide for a marital deduction trust 
in order to get the benefit of full marital deductions 
for estate tax purposes.

Our net worth is now well below the threshold for estate 
tax application due to tax relief provisions. But maybe 
the estate tax relief will go away in 2011. Or maybe it 
won't. Should we revise our wills now to eliminate the 
provision for the marital deduction trust? 
-- R.R., Richardson, Texas

A: The best comment I've seen on this issue came from 
Roger Lowenstein in the October issue of Smart Money. 
In it, he points out the absurdity of having both 
political parties spend so much time arguing over the 
estate tax, which affects only a small minority of 
Americans, when they should be dealing with issues like 
education and jobs, which affect all of us. 

As long as your total estate is below the estate taxation 
threshold, marital deduction trusts are moot but not 
financially harmful. I suggest a consultative visit with 
your attorney to review your wills and estate. 

You can discuss this issue or any other topic in the new 
Investor's Insight forum. Check it out here...

Investor's Insight Forum

(Investor's Insight reflects the opinions of experts. It does 
not recommend any specific investments, and no endorsement is 
implied or should be inferred. For more information, contact 
the individual firms cited).



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