PRC2018/Gold User s Manual

Transcription

1 Table of Contents INTRODUCTION... 4 PRC DESIGN PHILOSOPHY... 4 PRC as a PERSONAL FINANCE MODEL... 5 Our Vision for a High-Quality PFM... 5 OVERVIEW... 5 STRUCTURE... 7 COMMON FEATURES OF ALL PAGES... 8 SCENARIOS... 9 IMPORT and EXPORT CAPABILITIES... 9 Preserving User Data Through System Updates Preserving User Data Through Pralana Gold Updates Sharing Data Operating on Multiple User Files PAGE-BY-PAGE DISCUSSION SIMPLIFIED INPUTS HOME Names and Demographics Your Assumptions Regarding Inflation and Taxes Scenario Descriptions Other Buttons on the Home Page FINANCIAL ASSETS Initial Balances Asset Classes Asset Allocation Asset Class Taxation Management Historic Data Personal Loans Investment Loans INCOME

2 How Birthdays Affect Income Streams Today s $ to Future $ Converter Employment Income Streams Pensions Social Security Expected Taxable Windfalls Expected Non-Taxable Windfalls Other Income Streams Annuities Inherited IRA EXPENSES Property Rental Property Children Healthcare Discretionary Expenses Miscellaneous Expenses Consumption Smoothing Life Insurance ANALYSIS Run Analysis Spending Strategy Analysis Fixed Rate Comparison Rollovers Sensitivities Optimize Social Security (SS) FIXED RATE PROJECTIONS Tabular Projections Graphical Projections CONSUMPTION SMOOTHING LIFE INSURANCE

3 A Note Regarding Insurance Estimates in Your Working Years USER WORKSHEET PRINT-FORMATTED REPORTS KEY FORMULAS Total Spendable Income Adjusted Gross Income Total Income Total Expenses GETTING UPDATES GUIDANCE ON CONFIGURING EXCEL PRC FILE HANDLING IMPORTING YOUR DATA FROM AN EARLIER VERSION OF PRC Importing from another copy of PRC2017 or PRC2018 on the same machine (Windows or Macs) Importing from a copy of PRC2017 or PRC2018 on a different machine (Windows or Macs) YOU CAN DOWNLOAD AND MAINTAIN PRC ON SEPARATE COMPUTERS PRC CANNOT BE MOVED TO ANOTHER COMPUTER LIKE A TYPICAL EXCEL FILE Unlocking PRC on an Unregistered Computer EXCEL ERRORS WHEN LOADING THE PRC FILE FOR THE FIRST TIME CONDENSED MANUAL FOR INFREQUENT USERS File Handling Getting Updates Registration of Your Copy of PRC to Your Computer Importing and Exporting Common Features of All Pages Birthdays Financial Assets Recommended Sequence of Input, Review and Analysis Scenario Control Dollar Unit Control Specifying Contents of Custom Projection Pages

4 INTRODUCTION The Pralana Retirement Calculator (PRC) is a sophisticated high-fidelity tool designed to model your financial future in as little or as much detail as you desire and then provide useful outputs that will provide insight into the possible range of outcomes to help you make decisions. PRC is a complex and very powerful tool and is inherently more difficult to set up than a typical on-line retirement calculator. This manual is intended to help you get to know PRC and learn how to get the most out of its extensive capabilities. We ll begin by sharing the design philosophy of PRC with you, then provide an overview of its operation, then explain how it s structured, and then address the details. We ll also discuss possible errors and various ways PRC can be used. PRC DESIGN PHILOSOPHY Most of us understand that the future is inherently unpredictable, yet many of us still desire an effective tool to assist us in making key financial and lifestyle decisions that will shape our future despite the uncertainties. PRC meets that desire with this design philosophy: Since effective financial and retirement planning is not a one-time endeavor the tool must make the planning and analysis process as painless as possible for the user. This translates to an interactive tool that saves your data to enable you to re-visit and update your data as often as you wish without having to start over each time. The tool must provide a high degree of user control over key modeling assumptions, including life expectancy, inflation and characterization of investment portfolios, while also enabling the user to define income and expense streams in as much or as little detail as desired. It is easier to specify income events relative to your age rather than to a year, so virtually all income is started and stopped in conjunction with the owner s age. Taxes are a significant part of most people s financial life, so detailed treatment is necessary to get beyond a low-fidelity long-term projection. Consequently, detailed federal, state and FICA tax calculations are performed and included as another expense stream in making future projections. Further, RMD s from tax-deferred accounts are modeled and taxed properly, including early withdrawal penalties. The tool must allow the user to specify contributions to tax-deferred and tax-free savings but it is problematic for the user to accurately specify contributions to regular savings. Instead, contributions to regular/taxable accounts will always be calculated based on the difference between income and expenses. This ensures that all money is fully accounted for while accommodating ebbs and flows of both income and expenses. Since the future is inherently unpredictable, multiple analysis techniques are used to generate a range of possible outcomes based on the user s detailed inputs. Fixed rate projections are useful for comparing alternatives and getting a rough idea of where the user is headed based on fundamental assumptions; however, since fixed rate projections fail to account for the effects of 4

5 market volatility, Monte Carlo and historical analyses are incorporated to provide a range of likely outcomes based on a simulation of market volatility. All of these techniques are integrated within the tool to present the user with a comprehensive view of the future while avoiding nonsensical concepts such as your retirement number. To facilitate a decision-making process and sensitivity analyses, the tool should make it easy for the user to define and compare major alternatives as well as small variations. Consequently, the tool supports the detailed definition of three independent sets of inputs (scenarios) and presents side-by-side analysis results to facilitate easy comparison. Further, it provides supporting tabular outputs so the user can delve into the details and verify that the outputs make sense. Even further, it provides capabilities for interactively examining the sensitivity of the plan to changes in key parameters and to study the effects of rollovers from tax-deferred to Roth savings. A tool can facilitate some complex decisions, such as how to maximize our standard of living, determining how much life insurance we need and determining the right time to start collecting Social Security benefits. Consequently, the tool provides special capabilities to perform consumption smoothing, make life insurance recommendations to maintain the living standard of the surviving spouse and optimize the Social Security start age for each marriage partner. PRC as a PERSONAL FINANCE MODEL PRC2018/Gold is really much more than a retirement calculator and we think that the term Personal Finance Model (PFM) better characterizes its capabilities and intended use. The next paragraph captures our vision for a high-quality PFM and has been the guiding force in the development of PRC2018/Gold. Our Vision for a High-Quality PFM If a tool makes sense to you, is sufficiently transparent that you can understand what it s doing, is sufficiently flexible and robust to be able to model the nuances of your financial life, and you can understand and have confidence in what it s telling you, then you have a tool that can become a trusted friend. Regular use of a well-designed tool will lead to familiarity, and that will lead to ease of use, convenience and even more confidence. Once you get to that point you ll no longer have to play the field, trying to model your scenarios in various tools and trying to understand and normalize the differing outputs. Then you can get very quick turn-around on evaluating alternatives and what-ifs, and periodically updating your assumptions and reviewing long term projections for any warning signs. The tool will be there for you anytime you need it, and you ll be comfortable with the process. OVERVIEW PRC contains no magic and need not be intimidating to anyone. Like any calculator, what it does is just math. It collects certain information from you, does the math, and then presents the results. What makes it unique is its organized structure and the level of detail it is capable of working with to avoid large errors associated with simplifying approximations. Additionally, PRC never gives you a single answer because there is no such thing. Our financial future contains a number of unknowable variables which can have 5

6 dramatic effects on the size of our savings over a period of many years. Consequently, PRC is designed to address the uncertainties and, as a result, provides a range of possible outcomes based on your inputs. Armed with this information, you will be in the best position possible to make financial decisions. PRC is structured to lead you through the planning process step by step, allowing you to focus on one specific area at a time, save your inputs, and then move to the next area. It goes WAY BEYOND simply providing data input rows where you can enter income and expenses with corresponding start and stop dates. Rather, it leads you through the process of defining your income and expenses systematically and is capable of dealing with nuances associated with specific items. One result of this is more pieces of data for you to collect and input; however, this is YOUR information and you can probably collect it with minimal difficulty. The result, though, is a much higher fidelity model of your financial future than could be achieved by using just high level inputs, as is the case with most other calculators. Fundamentally, though, PRC does what virtually all calculators do: it collects the initial balance of your savings, your income, your expenses, and your assumptions, and then produces its projections. It begins with your demographics (current ages and life expectancies) and your basic assumptions such as inflation rate and future changes in tax rates and Social Security benefits. Then it gets into your income in enough detail to be able to generate an income profile for you and your spouse over your lifetime. Then it gets into your expenses, with separate pages for Property, Children, Healthcare and miscellaneous discretionary expenses, and generates an expense profile over your lifetime. It then uses these income and expense profiles to determine how much money you ll be able to save each year or, conversely, how much you ll have to withdraw from savings each year, and generates its projections based on this information and your assumptions. The generation of these projections includes the detailed calculation of federal and state income taxes and FICA taxes and the inclusion of them in your expense profile. Additionally, PRC performs a statistical analysis (Monte Carlo simulation) and another analysis based on historical rates of return and inflation, and then presents to you an integrated output of these analyses along with a projection based on fixed inflation and rates of return. Fixed rate analysis results are presented both in graphical and tabular formats and Monte Carlo and historical analysis results are shown in an effective graphical format. So, that s the top level. PRC also contains some advanced processes that exploit the data you ve already entered to provide extended utility. These include: Detailed modeling of rollovers from your 401k to your Roth IRA Consumption smoothing to help you attain a smooth and maximized standard of living over your lifetime. PRC uses a powerful algorithm to calculate the annual discretionary spending (sustainable living standard) a family can afford through their lifetime. Living standard refers to what a family is able to spend each year after meeting non-discretionary expenses (such as healthcare, income tax, etc.). One can view discretionary spending as a constant allocation of lifetime spending power for an evolving household, referred to as consumption smoothing. The term evolving comes from the fact that throughout family lifetime, expenses such as childcare, healthcare, education, and housing will vary. Despite expense variation, a constant sustainable 6

7 lifetime discretionary spending figure is determined. PRC s consumption smoothing algorithm includes Monte Carlo and historical analyses in the determination of its outputs. A sensitivity exploration page that allows you to make what-if changes to several key variables and immediately observe the effect on your savings over time. Life insurance recommendations Optimization of age at which you and your spouse will begin drawing Social Security benefits STRUCTURE PRC is organized hierarchically: At the top level, there s a Home page as well as pages for Income, Financial Assets, Expenses, Analysis, Projections and Reports. The Home, Financial Assets, Income and Expense pages are where all of your inputs are collected; the Analysis and Projections pages are where PRC s outputs are presented, and the Reports page is where you can initiate the generate of print-formatted reports. With the exception of the Home, Income and Reports pages, all of these have subordinate pages. Under Financial Assets, you ll find pages for Initial Balances, Management, Asset Classes, Taxation, Asset Allocation, Historic Data, Personal Loans and Investment Loans. Under Expenses, you ll find pages for Real and Rental Property, Children, Healthcare, Discretionary, Miscellaneous, Smoothing and Life Insurance. Under Analysis, you ll find pages for Analysis, Fixed Rate Comparison, Rollovers, Sensitivity Testing and Social Security Optimization. Under Projections, you ll find pages for Income, Expenses, Taxes, Summary, Growth, Withdrawals, Annuities and Rollovers, Custom1 and Custom2 tabular projections as well as Income, Expenses, Income vs. Expenses, Taxes, Withdrawals, Rollovers, and Net Worth graphical projections. If you re a previous Excel user, you re probably used to seeing the Sheet tabs along the bottom of the screen and all of Excel s menus along the top of the screen. None of this is necessary for you to use PRC and it is all hidden from your view when you receive it. This provides quite a bit more screen space for PRC data and, along with the partitioning of PRC s data into quite a few functionally-coherent pages as described above, greatly reduces the amount of scrolling you are required to do to navigate through PRC s inputs and outputs. Navigation between these pages is done via the links at the top of the screen. The current page is indicated by red font on the link name(s): when two rows of links are exposed, there will be one red link in each row. The top row indicates which of the top-level pages you re on and the second row indicates which subordinate page you re on. You ll also notice at least three icons on every page, two on the upper left and one toward the upper right. The upper-left-most one is the SaveAs icon. Just click it anytime you wish to save your work with a modified name. Alternatively, you can use the Microsoft shortcut Control-s to save the file with the current filename, which will probably be the normal case. The one just to its right is the Undo icon. By clicking it, you can undo your most recent input. The x icon toward the upper right is the Exit icon. Click that whenever you re ready to quit working on your file. If you ve made any changes since the last save operation, PRC will ask if you want to Save before it exits to be sure your work isn t inadvertently lost. 7

8 COMMON FEATURES OF ALL PAGES All PRC pages are color-coded in a similar manner: fields with a white background and bright blue font are your data entry fields; fields with a white background and dark blue font are descriptions or fields automatically filled in by PRC. Fields with a small red triangle in the upper right corner contain hidden comments that will appear when you place the cursor over that field. There are many of these throughout the various pages to provide guidance regarding the specific meaning of a field or to clarify potential user questions regarding that field. PRC tries to call you and your spouse by name everywhere possible, so it starts by asking for your names on the Home page. Thereafter, when you see input data that is unique to either you or your spouse, it will refer to the corresponding person by name. Many pages contain buttons that you can click to invoke some PRC operation. All of these buttons have a similar appearance, with 3-D effects and the function they perform written on them in dark blue font. Note that the Income, Real Property Expense and Rental Property Expense pages contains a row of buttons just beneath the big blue page navigation buttons. These buttons facilitate easy location of specific data types on these very long pages with a minimum of manual scrolling. Most pages are organized in a table format where you simply type in the data requested and PRC validates your inputs as you provide them to ensure the data you enter is in a proper range. In numeric data entry fields (such as years, ages and dollar amounts), a blank is treated as a zero or not applicable; however, please understand that a blank is created via the DELETE key (not via spaces which create non-visible non-numeric characters which will always cause errors in mathematical operations). Buttons are provided to help you clear the tables and also to copy the data from one column to some other column. Conditional formatting is employed to alert you to certain situations where some inputs fields are mutually exclusive (you can enter data in one but not both) or where an entry in one field demands a corresponding entry in another field. Considerable care has been taken to minimize the keystrokes and clicks required to get your data entered, so you won t find many pull-down menus, and you ll find check boxes for yes/no types of inputs and radio buttons for selecting mutually exclusive functions, such as whether to display results in today s dollars or future dollars. Most pages contain question-mark-in-a-box help icons that can be clicked to bring up guidance specific to that page or the corresponding section of a page. The clock for PRC ticks once per year. So, all income and expenses for a year should be entered as Jan 1 st values. Alternatively, if it is nearer to the following year, you can enter the starting year equal to the following year on the Home page and enter current savings figures (which may be nearer to the following year s starting values). 8

9 SCENARIOS With its extensive modeling, analysis and presentation capabilities, PRC is a powerful decision-making assistant. In mere minutes or even just seconds, it enables you to model different sets of assumptions and examine the long term results. We refer to a set of income profiles, expenses profiles and assumptions as a scenario, and PRC allows you to define and model three (3) nearly independent scenarios simultaneously and then perform side-by-side comparison of the results. Many of PRC s pages will contain the terminology Scenario 1, Scenario 2 and Scenario 3, and this is referring by name to one of the three scenarios PRC can model simultaneously. On many of the input pages, you ll find three columns of data with Scenario x in the column s title. What this is allowing you to do is define different values for the various data fields for each of the scenarios. Examples of this are retirement ages, life expectancies, inflation rate, asset allocations, and the list goes on and on. One important thing to keep in mind is that the components of a given scenario are defined over all of PRC s data input pages and that the Scenario 1 referenced on the Home page is the same Scenario 1 referenced on all other pages, and the same for Scenarios 2 and 3. In other words, to fully define Scenario 1, you need to provide its demographics and assumptions on the Home page, its income streams on the Income page, and its expenses on the various expense pages. PRC will analyze each scenario using three different analysis methods upon your command: fixed rate analysis, Monte Carlo simulation and historical simulation. The results will be presented to you in graphical form to illustrate a range of possible outcomes. You can read much more about this in the paragraph entitled Analysis. IMPORT and EXPORT CAPABILITIES As a user of PRC Gold it is crucial that you understand its import and export features, so please read the following carefully. PRC Gold is an Excel file, nothing more and nothing less, and it runs under the Microsoft Excel application just like any other Excel file; however, to protect Pralana s intellectual property, the file contains a protection mechanism that prevents a registered copy from being moved to a different computer than the one onto which it was initially loaded. If it becomes necessary or desirable to move it to a different computer or to take PRC Gold updates, the previous copy of the file will have to be replaced with a new copy of the file. The data inputs to the file can become very complex and lengthy, and you will probably not want to enter them manually more than once. For these and other reasons, the existence of capabilities to easily move user data into and out of the tool are essential and are a key part of the tool s design. These are the import and export functions. The export function is an automated process for extracting user data from the tool and writing it to a user-specified export data file. The import function is an automated process for reading the data from a user-specified file and storing it into the appropriate locations within the tool. These are complementary processes that work together to: preserve user data while performing system upgrades and/or updates to PRC /Gold itself 9

10 share user data between multiple computers and multiple copies of PRC /Gold enable a single copy of PRC /Gold to operate on multiple user-specific files or multiple scenariospecific files Let s now examine each of these in a little more detail. Preserving User Data Through System Updates We all know that it is essential to keep back-ups of important files; however, one thing that is unique about PRC Gold is that it cannot be backed-up as a normal file because it is always registered to run on only one computer. If it is moved to a computer other than the one onto which it was initially loaded and run, it will detect that case and generate a fatal error when you attempt to run it. Consequently, back-ups must be done via the creation of export data files. These are quick and easy to create with PRC 2018 Gold and can readily be moved to other computers and subsequently read by a copy of PRC Gold on that computer. To get a copy of PRC Gold onto the other computer, you simply login to the User Support page of the Pralana website from that computer and download a new copy. Then you bring it up (at which time it will be registered to the new computer) and import the back-up (export) file and go to work. Preserving User Data Through Pralana Gold Updates As we also know, it is often desirable to take software updates from time to time to get the latest fixes and/or new features. When we do this, the previous file is not modified; it is replaced with a new copy. More specifically, we download a new copy of the PRC Gold file and then migrate the data from the previous file into the new file. The previous copy will still exist and be unchanged. To perform such an update, you simply login to the User Support page of the Pralana website and download the new version. Then you bring it up (at which time it will be registered to the host computer) and import the data from the previous file and go to work. In this case, since the new and the previous PRC Gold files are located on the same computer, you can import the data directly from the previous copy or from an export data file. Sharing Data There are three primary situations where it may become desirable to share data between multiple computers: 1. You have a desktop and a laptop computer and from time to time want to use both of them to work on your data (your PRC2018 Gold license allows this) 2. You encounter a problem and elect to share your data with PRC Consulting LLC to assist with trouble-shooting 3. You and your financial advisor are both using PRC Gold and you wish to share data To accomplish the sharing operation, you simply create an export file from one computer, transport that file to the other computer via or some other media, and then import it to the other computer. Naturally, this process can work in both directions. 10

11 Operating on Multiple User Files Financial advisors who use PRC Gold will want to maintain a single copy of the PRC file with separate export data files for each client. This way, PRC file maintenance is easy (one file instead of many) and the client data files can quickly be read in, operated on, saved, and shared as desired. Naturally, the same concept works for individual users who want to create more scenarios than can be modeled within a single copy of PRC Gold. A typical work session might be to bring up PRC Gold, import a standard user template file to establish a standard client starting point, modify it as desired to customize it for a particular client, then create an export file specifically associated with that new client. To work on the plan of a client for whom we ve already established a baseline, just import the associated export file and go to work. When done, do an update to the export file and move on to another client or quit and shut down PRC. PAGE-BY-PAGE DISCUSSION SIMPLIFIED INPUTS When you first receive PRC, it will come up on the Guidance page and we recommend that you take a couple of minutes and read the information there. One of the sections you ll encounter is called If You re a First-Time User and it references a simplified start-up process for first-time PRC users. If you d like to use this process, just click the link labeled Simplified Inputs at the top of the page and you will be taken to PRC s Simplified Inputs page (you can also get there by going to the Home page and clicking the Guidance link at the top of the page, and then from the Guidance page click the Simplified Inputs link). The Simplified Inputs page enables you to start your PRC experience using simplified forms of assumptions, income and expenses (similar to the data used by most on-line retirement calculators) and to see by example how it should be entered into the more detailed PRC input pages. Here s a screenshot of this page: 11

12 The Simplified Inputs page allows you to make all of your inputs on a single page. The information being requested is shown in white font over a blue background and the corresponding data entry field is the adjacent cell with a light gray background. When you first receive PRC, some of those fields will already be filled in with an example. Just type over those numbers with your own data or select the field by placing your cursor in it and then press DELETE to get rid of it. You ll find that the information requested is common retirement calculator data and is self-explanatory. Note that the information to be entered in the center of the page contains two columns of data entry fields. One of these pertains to you and the other is for your spouse. If you re single, just use the column on the left and ensure that the right column is blank (by DELETING all fields containing any visible characters). Another thing to note is that PRC does not simply provide a table in which you enter income and expenses and the associated start and stop dates. Instead, it asks you when you expect to retire, what your preretirement income is, what your post-retirement income is, what your pre-retirement expenses are, what your post-retirement expenses are, and it then figures out when each of these income and expense streams begin and end. You will have the opportunity to modify the assumptions that PRC makes later when you start working with its detailed input pages. When you ve finished entering your data, you can then click the button labeled Populate PRC from These Simple Inputs and PRC will automatically take the data from the Simplified Inputs page and copy it into Home, Financial Assets, Income and Expenses pages and clear all previous data from those pages. The end result is that PRC s detailed input pages become populated with the simplified input data you provided via the Simplified Inputs page. While this process is executing, which may take 30 seconds or more, you ll probably see an Import in Progress message appear on your screen and you ll be prevented 12

13 from doing anything else. When it completes, you should then click the Go to Home Page button which will do the obvious. From there, you can examine the way your data was placed on the Home Page, and you can then use the dark blue navigation buttons along the top of the page to examine the Income and Expense pages to see how the rest of your data was placed into those pages. You should then click the Projections button to take a preliminary look at the projections PRC created with your data. After the Projections button is clicked, you ll then be presented with the subordinate projections buttons that will direct you to the various detailed projection pages. All of the information you are viewing at this point is based on a fixed rate analysis using the inflation rate and the average rate of return specified on the Simplified Inputs page. There are two basic things you will want to do at this point. The first is to start becoming familiar with PRC s other pages and how your data is entered into them. The other is to convince yourself that your data makes sense and that no errors are evident. If you need to make adjustments either because of a data entry error or because the Simplified Inputs form doesn t allow enough control, you can then make those adjustments on PRC detailed input pages and never visit the Simplified Inputs page again. As you make these adjustments, we recommend going back to the various projections pages to convince yourself everything there makes sense to you. When it does, you re ready to go to the Analysis page. So, click the Analysis button at the top of the screen and then the subordinate Run Analysis button (if not already light blue in color which indicates you re already on that page). Here, you ll see three side-by-side graphs with buttons above them saying Analyze Scenario x. If you ve just done the import from the Simplified Inputs page, the graphs will be blank and you ll see a message stating that the scenario results are currently invalid. This is the case because PRC has to do some time-consuming processing on your data to perform the analyses and must wait for you to tell it you re ready. So, when you re happy with your input data, click the Analyze button. PRC will then perform both a Monte Carlo simulation and a historical simulation on your data, which will take several seconds, and then update the graph with your results. Initially, all of your scenarios will be identical unless you made specific changes from PRC s detailed input pages. For further discussion on PRC s analyses, please proceed to the associated paragraph below. HOME The Home page is used to enter your name(s), demographic information and some basic assumptions about inflation, taxes and Social Security benefits. It is organized such that you indicate your marital status and enter your name and your spouse s name (if applicable) and your birthdates at the top of the page and then enter the various other demographics and assumptions associated with each of the three scenarios beneath that. When entering the scenario-specific information, you should probably enter all the data for scenario 1 first, then click the Copy Scenario 1 button at the top of the Scenario 2 and Scenario 3 columns to automatically populate those columns for you. Then, if and when you like, just manually overtype only the fields you wish to make unique to those scenarios. 13

14 The following is a field-by-field discussion of the data entry fields on the Home page, shown above. Names and Demographics Marital Status: Click the radio button associated with your current marital status. If you click Single, the data entry fields associated with the spouse will disappear and the data entered in those fields will be ignored. Your Name: Entering your name here will enable PRC to include it in column headers to help you see the data that is unique to you. Your Birthdate: Enter your birthdate in the MM/DD/YY or MM/DD/YYYY format. Your Age: PRC will compute your age as of Jan 1 of the specified starting year (not as of the current date). All PRC computed outputs are as of year-end, but the age column will reflect your age at the start of the associated year. Spouse Name: This field will be hidden if a Marital Status of Single is selected. Entering your spouse's name here will enable PRC to include it in column headers to help you see the data that is unique to your spouse. 14

15 Spouse Age: This field will be hidden if a Marital Status of Single is selected. This is your spouse's age as of Jan 1 of the specified starting year (not as of the current date). All computed PRC outputs are as of year-end, but the age column will reflect your spouse's age at the start of the associated year. Starting Year: This field tells PRC the year you wish the modeling to begin and it assumes January 1 of the specified year. This year will be the basis for determining today s dollars. The Demographics table is partitioned into two columns for each of the three scenarios: one for your data and another for your spouse s data, if applicable. You ll notice that the column headers are automatically filled in with the names you provided in the fields described above. The fields associated with your spouse will not be visible if Marital Status = single. Retirement age: This is the age at which you and your spouse, if applicable, plan to cease working on a full-time basis and is used by PRC for peripheral functions such as highlighting your retirement year on tabular projections and hiding portions of data input tables that are not applicable to you. This has no bearing on income or expense streams. PRC assumes retirement begins on your birthday in the year you (or your spouse) reach this age. This is NOT necessarily the age at which you start Social Security benefits. If you are already retired or even if you have never worked, set this equal to your age as of January 1 in the starting year. The row corresponding to this year will be highlighted in medium blue on both the Income Projection and Detailed Results Projection pages. If your spouse is already retired or has never worked, set this equal to your spouse's age as of January 1 in the starting year. The row corresponding to this year will be highlighted in light blue on both the Income Projection and Detailed Results Projection tabs. Life Expectancy: Enter the maximum ages to which you and your spouse expect to live. PRC will assume you and your spouse die on the birthday on which the specified Life Expectancy is reached. The row corresponding to your death year on both the Income Projection and the Tax and Savings Projection tabs will be highlighted in orange. The row corresponding to your spouse s death year on both the Income Projection and the Detailed Results Projection tabs will be highlighted in yellow. Your Assumptions Regarding Inflation and Taxes General Inflation Rate: This is the general inflation rate that PRC will use for fixed rate and Monte Carlo analyses. Real Healthcare Cost Inflation Rate: This is a rate relative to the general inflation rate that enables you to model healthcare costs that increase faster than the general inflation rate. Real College Costs Inflation Rate: This is a rate relative to the general inflation rate that enables you to model college costs that increase faster than the general inflation rate. Leave blank if you think college costs will increase at the same rate as general inflation. State of Residence: PRC2018 performs detailed state tax calculations for your state of residence, as specified here. This field contains a pull-down menu of the 2-letter state abbreviations, and you can just enter a blank if you live in a no-tax state. 15

16 If you plan to relocate to a different state in the future, specify the new state and the year you plan to move. If you plan to relocate at some point in the future, you can specify your new state of residence and the corresponding year in these fields. You can leave these fields blank if you don t plan to move. Do you want PRC to model an increase in federal income tax rates at some point in the future? PRC will apply a tax increase of the percentage and starting in the year you specify across all income levels. Just leave this blank if you don t want PRC to model a tax increase at some point in the future. PRC uses 2018 tax tables and deduction/exemption limits. Thus it s reference year is specified as If the Starting Year on the HOME page is set for any year other than the reference year, Starting Year tax figures are indexed based on the user-specified general inflation rate. Taxation for all years after the Starting Year are automatically increased based on the general inflation rate. Taxes for the current year are considered as expenses in that year (not paid in arrears on April 15 th of the following year, as is the customary reconciliation process). If you specify a tax increase, PRC will calculate the taxes as described, and then multiply the result by (1+ the tax increase rate specified). For example, if you specify a 10% increase, PRC will multiply the calculated taxes by 1.1 in the year the increase is to take effect and beyond. Do you want PRC to model an increase in FICA tax rates at some point in the future? PRC will apply a tax increase of the percentage and starting in the year you specify. Just leave this blank if you don t want PRC to model a FICA tax increase at some point in the future. Any specified increase will be handled mathematically the same as described for federal income tax increases. Do you want PRC to model a decrease in Social Security benefits at some point in the future? PRC will apply a benefit reduction of the % you specify, starting in the year you specify. Just leave this blank if you don t want PRC to model a benefits reduction at some point in the future. As an example as to how this works mathematically, if you specify a 10% reduction, PRC will calculate your benefits and then multiply that by (100%-10%), or 0.9. Scenario Descriptions This control allows you to name and provide a brief description for each of your scenarios. PRC will use the name you provide to label the scenario-specific data on the various input and output pages and will include both the names and the descriptions in the printable reports. Here s a shot of the control that allows you to name and describe your scenarios: When you provide meaningful names for your scenarios, you ll then see them included in the scenario header row on most other pages. 16

17 Other Buttons on the Home Page Just beneath the page navigation links at the top of the page there are six links in medium blue font that are associated with special functions. Hide Excel Menus: You can click this function to eliminate the MS Excel menus that will otherwise occupy the top portion of every screen and thereby devote the entire screen to PRC displays. None of the Excel menus are needed to operate PRC; however, if and when you should desire to see those menus, just press the Escape button on your computer. Import You can use this function to initiate the process of copying all of your input data from PRC2017 or another copy of PRC2018. When you click the Import link, you will then be asked to select the folder and file from which you want to import the data. Just select that file (a PRC2017 or PRC2018 Gold calculator or export data file) through the same process you typically use for selecting files, and then click Open. As the import proceeds, you may be asked whether you want macros to be enabled as the PRC import function opens the source file. If so, respond with "yes" and the import process will then proceed and may take up to 60 seconds depending on the speed of your computer (but it s considerably faster than the PRC2017 import). At that point, you should then see a pop-up message stating Import is complete. So, just click OK and your data will be ready for use. You should then visit all PRC input data pages and review the imported data for accuracy. We believe the import function works correctly in all cases, but this is a very complex process so it is certainly possible that some field or fields may not be imported correctly. Consequently, we strongly recommend a manual review of the import results. If you should find an error, you can correct it manually and proceed on, but we would appreciate an from you describing the problem so we can attempt to address it for other users. Be aware that the import process will invalidate any prior scenario analyses and you will need to tell PRC to initiate an analysis of each of your scenarios (via the Run Analysis page) whenever you re satisfied that your data has been imported and adjusted as desired. Each of the analysis results graphs will remain blank until this has been done. Create & Save Export File and Update Export File PRC2018 does not require the pre-formatted export data file needed by all prior models. Instead, it creates the export data file on the fly upon user request and allows the user to provide the filename and the directory into which the file will be saved. It will then make updates to that file upon request and it does all of this in a fraction of the time required by prior models. So, to create a new file, you ll click the Create & Save Export File link and then provide the directory and filename upon request. To continue using the same export file as with the prior export request, just click the Update Export File link. 17

18 Recommended Use of Import and Export Functions Due to the considerable improvements in the speed of import and export functions in PRC2018, we recommend the following procedure when using PRC2018: 1. Maintain a single copy of the PRC2018 Gold calculator file on each of your computers and use separate export data files for the various cases you wish to model and/or for separate clients. 2. Under this mode of operation, bring up PRC whenever you want to work with a model and then import the file you wish to work with. 3. When you re finished working with the file, just click Update Export File and it ll save your work to the same export data file you imported from in the previous step. 4. Whenever you want to create a different case file, just begin with the one currently loaded into PRC or import a template (that you created previously via another export of the data content of the PRC file), make the desired modifications within the calculator and click Create & Save Export File, and then give it the name of your choice. 5. Periodically copy all of your export files to a back-up media. Using this procedure, you ll always be prepared for a computer failure, to take maintenance or feature updates to PRC or to share your data with another computer, and you won t have to worry about maintaining multiple copies of the PRC file. Guidance Clicking the Guidance link will take you to the Read Me page that you ll see whenever you download a new copy of PRC2018. This contains some basic information that all users need to be aware of as well as several links to functions that you may need occasionally but not frequently. Global Clear This button will clear all user data input fields throughout the entire PRC file. PRC will always ask to be sure you want to do this before it starts the clearing process because there s no recovery from this once it s been done other than to close the file without saving. Since PRC contains numerous data entry fields which are scattered throughout the file, it is advisable for you to perform a Global Clear prior to entering your data to ensure there is no residual data from the example scenarios with which PRC is delivered. Change Log This button takes you to PRC s Change Log where you can review the specific changes associated with each PRC release. User Support You can click this to go to a User Support page where you can view guidance on configuring your system to run with PRC, access the PRC User's Manual, and submit a question or report a problem. View License 18

19 This button takes you to a page where you can view the PRC License that describes your rights and restrictions as a PRC user. Simplified Inputs This button takes you to PRC s Simplified Inputs page where you can make all of your data inputs on a simplified form similar to those on typical on-line retirement calculators. See the section above on Simplified Inputs for more information. Zoom: You can use this function to increase or decrease the magnification level on all PRC pages at the same time. When you click the button, you ll see a pop-up display that asks what zoom level you want. PRC will assume the value you enter is a percentage value, so it isn t necessary to enter the % sign. FINANCIAL ASSETS Financial Assets span eight pages, and these are associated with the eight buttons that appear underneath the major navigation buttons when you click the FINANCIAL ASSETS button. Whenever you leave the financial assets pages for some other section of PRC and then return, you will always be returned to the same subpage from which you departed. The paragraphs that follow describe each of the Financial Assets subpages in detail. Initial Balances This page allows you to specify the amount of money in each of your accounts as of the beginning of the Starting Year (as specified on the Home page), and these initial amounts will be applied to all scenarios (i.e., PRC does not support separate initial conditions for each scenario). There are separate sections for any 529 Tuition Plans you may have already started, Tax-Deferred accounts, Roth IRA accounts, Inherited IRA and Inherited Roth IRA accounts for both you and your spouse, Regular investment accounts and regular cash accounts (the latter two are generally your taxable accounts). You can use the left-hand column to enter account descriptions for your own use. Even though the table on this page allows you to enter initial balances for multiple accounts within each savings category, PRC will add these together and maintain only six sets of account balances in doing its projections (in addition to inherited IRA accounts which are discussed under the Income page): 529 Plan, Your Tax-Deferred, Spouse Tax-Deferred, Roth and Regular Investments and Cash. Take a look at the screenshot below and you ll notice a few additional data entry fields for some of the account types. After-Tax Contributions to Tax-Deferred Accounts For your and your spouse s tax-deferred accounts, there s a column for entering the portion of the account balance associated with any after-tax contributions. PRC has the ability to model after-tax contributions to and roll-overs of these funds beginning with the starting balances specified here. 19

20 Unrealized Capital Gains For your regular investment accounts, there s a column for entering the portion of the account balance associated with unrealized capital gains (i.e., untaxed growth). PRC models taxation of the growth of the regular investment account and, consequently, requires knowledge into the portion of the account taxed as simple interest, realized capital gains, unrealized capital gains and the potion that is taxexempt. This process requires knowledge of the initial conditions and that s what gets entered here. The remainder of the associated details are entered on the Financial Assets/Taxation page. Capital Loss Carryovers For your regular investment accounts, there s a column for entering capital loss carryovers from prior years. PRC models the taxation of the growth of the regular investment account and, although it doesn t model the sale of these assets at a loss, it does model the carryover of losses you may have experienced prior to the model s starting year that were not fully tax-deductible due to the annual $3000 limit on capital losses. If so, you can enter the amount of those capital loss carryovers here and PRC will use that as a starting point. Note on Inherited IRA s and Inherited Roth IRA s If you have already inherited one of these accounts at the start of the modeling period you will need to enter the balance of each of these accounts as of the end of the year prior to the specified starting year. On the Income page, you can then describe the distribution method/duration associated with these accounts. 20

21 Asset Classes PRC goes way beyond simply asking you to specify your expected rate of return on your savings accounts. First, it allows you to define up to 10 asset classes in which you will make investments, and for each of these classes, it allows you to specify real (after inflation) rates of return and standard deviations. Second, it allows you to specify how your money is allocated to these asset classes for Tax-Deferred, Roth and Regular accounts. Based on all of this information, PRC computes an aggregate rate of return for each of your accounts and then uses that value in doing its projections and simulations. The information described in the previous paragraph is actually entered via two separate pages: the 10 asset classes are defined on the Asset Classes page and the allocation of the funds in the various account types to those asset classes is done on the Asset Allocation page. So, let s first describe the Asset Classes page in detail and then move on to the Asset Allocation page. Asset Class: In this column, you can enter a brief description for up to 10 asset classes. Examples of these might be money markets, stocks, bonds, and so on. Real ROR: This is the average rate of return after inflation is removed. Standard Deviation: This is a statistical term that quantifies the amount of annual variation in the average value specified in the Real ROR column. It is used by PRC s Monte Carlo simulations. As with all other pages that contain data unique to each of the three scenarios, buttons are provided to copy the scenario 1 data to both scenarios 2 and 3. So, you can start by entering the data for scenario 1, copying it to scenarios 2 and 3, and then overtyping selected fields to create unique data for the other scenarios. Many users may simply want to use the basic asset classes of Cash, Stocks and Bonds. If so, just click the Load Default Asset Classes and Data button, and PRC s default classes, rates of return (ROR) and standard deviations (SD) will be loaded into all three scenarios. You can then make adjustments to the default data (the numbers are similar to long term averages in each category) as desired. Warning: This will overwrite all previous entries on this and the Asset Allocation page. Here s an example. In the table on the Asset Class page, you can identify up to 10 asset classes into which you can have investments and any combination of these asset classes can be included in each of the regular, tax-deferred and Roth savings categories. Consider the screenshot below which shows an Asset Class Table. 21

22 With this table, you can specify Real Rate of Return (Real ROR) and Standard Deviation for each asset class, with different values for each of the three scenarios. To load this table initially, you have the option of clicking the button labeled Load Default Asset Classes, Settings and Allocations, and it will set up asset classes of simply Stocks and Bonds with canned ROR values. Then, you can type directly into the table to adjust any and all values as you desire. The objective on this page is to define your asset classes and the characteristics of those classes, and this information will then be used by PRC on subsequent Financial Assets pages. Asset Allocation Once your asset classes have been defined as described above, you can go to the Asset Allocation page to specify the distribution of the money in your regular, tax-deferred and Roth accounts across those asset classes and any account-related investment/management expenses. Further, you can specify different allocation for up to five different time periods and you can vary the allocations on a per scenario basis. NOTE: PRC rebalances your portfolio every year to maintain the asset allocation specified in this table. This is a very busy page, so let s take a look at the screenshot below and go through it systematically. 22

23 Layout of the Asset Allocation Page The page consists of these major sections: Columns for each account type for each scenario A row for the management expenses through which you can specify the expenses for each account type and scenario A table for specifying up to five time periods A table depicting the calculated aggregate ROR for each account type within each scenario Data entry tables for ROR on your Cash account for each scenario Data entry tables for the asset allocation for up to five time periods for each account type within each scenario Account Types There are four columns for each of the three scenarios, and each of these is associated with one of the four account types: cash, regular, tax-deferred and Roth. Management Expenses There is one row for management expenses and it spans all scenarios and all four account types for each scenario. In the cells at the intersection of this row and these columns you can enter the expected management expenses for each of your account types as a percentage of the account balances. Note, though, that cash account expenses is actually grayed out based on the assumption that these expenses 23

24 will always be zero. The overall ROR for each account type will be reduced by the amount entered in this row. Time Periods There s a five-row, one-column table in the upper left portion of the page through which you can specify the first year of up to five different time periods in which you wish to define different asset allocations. The first period is automatically set to the model s starting year, and you can specify the other four dates or leave any or all of them blank. Calculated Aggregate ROR for Each Account Type Note that this section of the page contains one row for each of the five time periods. The gray fields with the bold font are the aggregate ROR s for each account type calculated based on your asset classes and allocations (described below), and these values will be zeroes for any unused time periods (i.e., those with no start year entered into the Time Period table). Data Entry Tables for Cash Account Note that the section of the page depicting the calculated aggregate ROR for each account type also contains three columns of cells with white backgrounds. Since asset allocation doesn t make any sense relative to cash accounts, these are fields that enable you to simply specify the real ROR you expect on your cash account for each time period within each scenario. The value can be negative if you expect it to be less than the inflation rate. Data Entry Tables for Asset Allocations These tables occupy most of the page and are the place where you specify the asset allocation for each account type within each scenario. For each of the five possible time periods, the table contains 10 rows, one for each of the asset classes defined on the Asset Classes page with the descriptions you entered there. You cannot make any changes to those asset classes on this page; they are there strictly for your reference. Note: To keep the tool s complexity under control, the same asset classes and allocations apply to all tax-deferred accounts (i.e., your TD account, your spouse s TD account, your inherited IRA account and your spouse s inherited IRA account) and likewise the Roth accounts (i.e., the joint Roth account, your inherited Roth IRA and your spouse s inherited Roth IRA). If you entered start dates for any of the periods 2-5 you ll notice that those start years have been copied into the Start column one the left side of the corresponding asset allocation table. If you want to use the same asset allocation throughout the entire modeling period, you can just enter blanks into the time period table and then ignore all but the first asset allocation table. If you do choose to specify multiple time periods, note that they must be ordered sequentially. The fields with the white backgrounds are the data entry fields. You should use them to specify the percentage of the funds in each account type to be allocated to each of the asset classes listed. You can allocate your funds to only a single asset class or you can distribute the funds across as many as you like. The only requirement is that your percentages must add up to exactly 100%. If they do not, the field labeled Aggregate Real ROR s for the savings category (at the top of the page) in error will turn bright red, indicating you have an error that must be corrected. 24

25 Control Buttons As with other pages, you ll notice the familiar buttons for copying scenario 1 data to scenarios 2 and 3 as well as a button for simply clearing the whole table. These work just as described on other pages. Calculations The percentage values shown in the Aggregate Real ROR s rows are computed by PRC based on the individual ROR s associated with each asset class (as defined on the Asset Classes page) and relative weighting of the various asset classes based on the allocations specified on the Asset Allocation page. These aggregate ROR s are used by PRC in performing fixed rate projections. The formula for calculating the aggregate ROR for each savings category is similar to the following: ROR x % Allocation (for Asset class 1) + ROR x % Allocation (for Asset class 2) + ROR x % Allocation (for Asset class 3) + ROR x % Allocation (for Asset class 10) - Management Expenses (for the account type) = Aggregate ROR Calculation of Aggregate ROR during Monte Carlo Analysis Similar to the process described above for fixed rate analysis, PRC s Monte Carlo analysis process also uses the (mean) ROR specified on the Asset Classes page and the allocations and management expenses specified on the Asset Allocation page to simulate market volatility (i.e., annual variations in ROR); however, it also uses the standard deviation data specified on the Asset Classes page. On an asset class basis, PRC uses the specified mean ROR and the associated standard deviation and calculates a random ROR for each year of a projection for each of 500 test cases (see the Monte Carlo Analysis section for the details), assuming a normal distribution. It then uses the Asset Allocation table to translate this information into year-by-year aggregate ROR s for each savings category (i.e., regular, tax-deferred and Roth). Calculation of Aggregate ROR during Historical Analysis PRC s historical analysis process uses the asset classes specified on the Asset Classes page, the historic ROR s for each asset class as specified on the Historic Data page, and the asset allocations specified on the Asset Allocation page to simulate market volatility (i.e., annual variations in ROR). It uses the historical ROR (from the Historic Data page) instead of the average ROR specified on the Asset Classes page. On an asset class basis, PRC uses the historical ROR to establish the ROR for each year of a projection for each of many test cases (see the Historical Analysis for the details). It then uses the Asset Allocation table to translate this information into year-by-year aggregate ROR s for each savings category (i.e., regular, tax-deferred and Roth). 25

26 Asset Class Taxation Tax-deferred accounts grow with no taxes being due until the funds are withdrawn and then those withdrawals are taxed as regular income, regardless of the asset classes involved. Roth accounts grow tax free and the withdrawals are not taxed, regardless of the asset classes involved. Regular accounts are different and the asset classes they comprise can be taxed differently. For example, some of the growth can be simple interest, non-qualified dividends or short-term capital gains, all of which are taxed as regular income in the year they re earned; some of the growth can be qualified dividends which is taxed as long-term capital gains in the year it is earned, some of the growth may be tax-exempt and is never taxed, while some of the growth may be asset appreciation which is taxed as long-term capital gains only when the funds are withdrawn. The Taxation of Assets in Regular Savings table enables you to specify how your asset classes should be taxed. The same taxation parameters are then applied across the entire modeling time frame. As suggested in the prior paragraph, the tool doesn t allow any variations in the taxation characteristics of a given asset class over time; however, there is a way to get around this: You can create a second instance of this asset class by simply adding it as an additional entry on the Asset Classes page and then come back to the Taxation page and specify the alternate parameters. To complete this process, you ll need to go to the Asset Allocations page and make corresponding changes there. Take a look at the screenshot of this page: As with the Asset Allocation page, the asset classes defined on the Asset Classes page are automatically copied for reference purposes and cannot be changed on this page. The growth within each asset class can be taxed as simple interest (Interest), taxed as long term capital gains, or it can be tax exempt (Tax Exempt), or it can be some combination of these, and the taxation characteristics can vary by scenario. Further, long term capital gains can be realized each year or they can be "unrealized capital gains" that are taxed only when the associated funds are withdrawn. Consequently, PRC allows you to define the percentage of each class associated with realized long term capital gains (Realized CG), which are realized and taxed as long term capital gains each year, and with unrealized capital gains (Unrealized CG), which are realized only when withdrawn. So, using this table, simply specify the percentage of each 26

27 asset class to be taxed via each of these four categories, where the total must necessarily be 100% (if not, the associated cells will be highlighted in bright yellow to draw your attention to the problem). It is very likely that your regular investment account contains some unrealized capital gains at the very beginning of the modeling period. For this reason, PRC provides a column for you to define the corresponding amount on the Initial Balances page. This should be entered as a dollar amount. Beginning with this amount, PRC will project the growth of the unrealized capital gains (UCG) within the regular investment account and when withdrawals from this account occur it will determine the portion of those withdrawals that is the UCG and calculate the taxes accordingly. PRC will default to spreading the withdrawals across all taxation categories in accordance with the percentages specified in the table above; however, you have the option of telling PRC to take all withdrawals from the UCG category via the setting selected on the Financial Assets/Management page. When PRC makes withdrawals from the regular investment account that are determined to be unrealized capital gains, that dollar amount will appear in the Reportable Capital Gains column of the Taxes projection page (which also includes income treated as capital gains and capital gains from the sale of property) and it will be an input into the Federal Income tax calculations. Note: To avoid circular dependency issues, capital gains resulting from withdrawals from the regular savings are reported and taxed in the year after they actually occur. For example, if you observe a negative cash flow in 2025 that is not offset by an RMD, then a withdrawal from Regular Savings will have to be made to cover it. The capital gains on that withdrawal will be reported and paid in Let s consider another example. Assume the starting year is 2017 and that you leave the Unrealized Capital Gains field blank on the Initial Balance page, meaning that none of your Regular Savings is due to capital appreciation as of the end of But let s assume that from this point forward, 50% of the growth of Regular Savings will be due to capital appreciation and the other half due to interest based on your entries into the table referenced above. Finally, let s assume you have a $100,000 balance in Regular Savings but that you have a $10,000 negative cash flow for several years. Now let s examine what happens as PRC projects the future: In 2017, your Regular Savings earns $5000 and 50% of that ($2500) is due to capital appreciation; however, due to your negative cash flow, a withdrawal of $10,000 is required and the year-end balance of the account is $100,000 - $10,000 + $5000, or $95,000. None of the $10,000 withdrawal is taxable as capital gains because you previously stated that none of the initial $100,000 was due to capital gains; however, by the end of 2017, $2500 of the $95,000 (or 2.6%) was due to capital gains. In 2018, your Regular Savings earns $4750 and 50% of that ($2375) is due to capital appreciation. Due to your continuing negative cash flow, though, another withdrawal of $10,000 is required and the year-end balance of the account is $95,000 - $10,000 + $2375, or $87,375. This time, 2.6% of the $10,000 ($260) withdrawal is taxable as capital gains; however, to avoid the circular calculation issue mentioned above, this $260 capital gain will not be reported and taxed until Now that you understand the scenario laid out in this example, you re in a position to understand the circular dependency issue: Cash flow is determined by subtracting expenses from income, and the 27

28 expenses include income taxes. These income taxes include capital gains taxes. The negative cash flow causes the withdrawal which then causes the capital gains tax. In other words, cash flow and reportable capital gains are interdependent and, therefore, affect each other. If PRC s formulas for these variables referred to each other in the same year, a circular (i.e., unending) dependency would occur. The solution is for the reporting of capital gains to be delayed by one year. A more complex solution to compute these taxes in the year in which they occur is technically possible; however, it would be iterative in nature, make the tool more difficult to maintain and add to the length of time required to do Monte Carlo and historical simulations, all with minimal effect on the long term outcome. Consequently, PRC uses the simple solution. Management The Management page enables you to specify a number of things fundamentally related to the management of your financial assets. This includes: specification of withdrawal priorities during periods of negative cash flow, scheduling of withdrawals from tax-deferred and Roth accounts, set-up of Substantially Equal Periodic Payments from tax-deferred accounts, a control to command PRC to harvest long term capital gains (or not) when it becomes necessary to make withdrawals from the regular investment account, specification of floor and ceiling levels for the cash account, a control to tell PRC the desired timing for calculating annual growth on your accounts, set-up of a generic charitable trust, and a control to delay RMD s from 401k s beyond age 70. The Management page is a rather long page, but here s a screenshot of the top portion of the page. Withdrawal Priority Table Throughout the entire modeling timeframe, PRC computes the difference between your income and your expenses to determine how much to contribute to or withdraw from savings. When it is necessary 28

29 to make withdrawals from savings to cover your expenses, PRC will always take them from the cash account until reaching the specified "floor". Upon reaching the floor, it will take any subsequent withdrawals from your other accounts in the order specified for each scenario using the control shown below. In the screenshot above you ll notice that the table allows you to specify different withdrawal priorities for each of three selectable time periods for each of the three scenarios. The withdrawal order is selected using a pull-down menu as shown for scenario 1 in this example. It allows you to put these accounts in any order desired: regular investment, your tax-deferred, spouse tax-deferred and Roth. The inherited traditional and Roth IRA accounts are always last priority and proceed in this order: your IRA, spouse IRA, your Roth IRA and spouse Roth IRA. Designer s FYI: PRC s data fields are arranged to achieve a balance between usability and maximizing the speed of PRC s import function. The Withdrawal Priority Table is one place where you might notice an odd feature which results from this design choice. All of the data in the Withdrawal Priority Table is treated as a single data table and all fields are overwritten whenever an import is performed. Consequently, the period 1 start year field cannot be write-protected. Still, it is crucial that it always be equal to the model s starting year. Therefore, PRC s formulas simply ignore that field and always use the model s starting year as the first year of Period 1. So, you can leave it blank and everything will work fine. Tax-Efficient Withdrawal Strategy In an article published in the Journal of Financial Planning entitled Tax-Efficient Retirement Withdrawal Planning Using a Comprehensive Tax Model, the authors describe a study performed to compare the long term results of using a variety of withdrawal strategies. They conclude that the one they call the tax-efficient strategy, or TD D, produces the highest final savings balance. It s characterized by low withdrawal rates early in retirement, sequenced as follows: tax-deferred assets up to tax deductions, the rapid depletion of taxable assets, tax-free assets, and tax-deferred assets, preserved throughout the planning horizon. PRC2018 supports this withdrawal strategy and you ll find it as the last item in the pull-down menu referenced above. It s identified as: TD(D), Regular, Roth, Your TD, Spouse TD. Designer s Note: In tests conducted to date, PRC doesn t fully corroborate the results of this study. As time permits, further investigations may be done. You may find it interesting and useful to conduct studies of your own and we d like to hear from you if you ever care to share your results and conclusions. 29

30 Scheduled Withdrawals Table The Scheduled Withdrawals Table allows you to specify up to five withdrawals from your or your spouse's tax-deferred and Roth accounts on a per scenario basis. The funds withdrawn from taxdeferred accounts will be treated exactly the same as a Required Minimum Distribution: they will be taxed as regular income and be deposited in your cash account and if this causes that account to exceed its ceiling level the balance will be deposited in the regular investment account. Penalties will be applied if they occur before the owner is 59. This provides you with a mechanism for effectively funding certain expenses out of specific accounts and overriding the typical withdrawal order. Description: a brief description of the planned withdrawal for your use only. Annual Amt: the annual amount of the scheduled withdrawal. Inflate?: If this box is checked, the annual amount will be interpreted as today s dollars and annual inflation adjustments will be made to keep the amount constant in terms of today s dollars. If it is not checked, the annual amount will be interpreted as future dollars and no annual inflation adjustments will be made. Start Year: This is the year the withdrawals are to begin. Stop Year: This is the last year of the withdrawals. For one-time withdrawals, set this equal to the Start Year. For indefinite withdrawals, leave this field blank. Source Acct: This contains a pull-down menu that allows you to select the account from which the withdrawals are to be taken. In this example, you can see that a one-time withdrawal of $10,000 is scheduled from Joes tax-deferred account in the year 2020 and the description says it ll be used for a down payment on a new car. This description is strictly for the user s benefit and is ignored by PRC. If you plan the purchase of a new car in 2020, you ll need to do that via the Property Expense page (click the Expenses button at the top of the page and then the Property page button). That purchase will generate an expense which would be offset by this withdrawal if the two occurred in the same year. So, this mechanism effectively (but not literally) allows you to pay for certain expenses via withdrawals from specific accounts rather than the normal process of creating a negative cash flow and then relying on the withdrawal priority to determine the account used to cover the deficit spending. 30

31 Potential Error: Insufficient Funds Available for the Specified Withdrawal You need to be aware that, as a user, you can create a situation that forces the PRC model to take corrective actions. The ability to schedule withdrawals from a specified account is a desirable feature but it creates the opportunity for you to specify a source account that may not contain any or enough money when the time comes to make that withdrawal. If and when that occurs, PRC simply does not model that withdrawal; however, when this situation occurs, PRC will highlight the relevant cells on the tabular projection pages to help make you aware of the issue. Here s an example of the way this appears on PRC s Summary Projection page: In the screenshot above, you can see the highlighted cell where a withdrawal was scheduled but did not occur. In the screenshot below, you can see the highlighted cell indicating that a run-time error was detected relative to calculating the Roth account balance. If and when you see this, you ll need to investigate the source of the problem. There are only two possibilities: a failed withdrawal or a failed annuity purchase. Substantially Equal Periodic Payments (SEPP) This table implements Internal Revenue Code (IRC) section 72t, which allows early withdrawals from taxdeferred (TD) accounts without the normal 10% penalty. SEPP payments are computed by one of three methods (amortization, annuity or minimum distribution) and run for five years or until the owner reaches age 59, whichever occurs latest. The IRS does not allow SEPP payments from qualified retirement plans while you are still employed by the associated plan sponsor, but PRC does not enforce any such rules. You should research IRC section 72t yourself to ensure your understanding of all the 31

32 rules. PRC allows you to specify one SEPP period for your TD account and another for your spouse's. It also allows you to specify one of two payment calculation methods: fixed or RMD. The amortization and annuity methods both result in fixed payments, so PRC simplifies the process by just asking you to specify the amount in terms of today s dollars. The minimum distribution method calculates the amount based on account balance and the owner's life expectancy according to IRS mortality tables. Withdrawal amounts are treated like RMD's: they are taxed as regular income and deposited in your cash account and if this causes that account to exceed its ceiling level the balance will be deposited in the regular investment account. Here s a screenshot of this table: In this example, Joe is planning SEPP payments from his tax-deferred account which begin in the year 2038 and to be paid via the minimum distribution method. Barb is planning SEPP payments from her tax-deferred account in the amount of $5000 per year beginning in the year Regular Savings Withdrawals Control Based on your cash flow and the setting specified in the Withdrawal Priority Table described above, it may become necessary to make withdrawals from your regular investment account. This control allows you to tell PRC to take those withdrawals across all taxation categories in accordance with the percentages specified in the Asset Taxation table described above, to take them exclusively from unrealized capital gains or to avoid taking them from the unrealized capital gains for as long as possible. This affects tax calculations: If "Distribute withdrawals evenly" is selected, withdrawals will be made in proportion to the interest, realized gains, tax exempt and unrealized capital gains categories specified on the Taxation page; if "Withdraw capital gains first" is selected, all withdrawals will be made from the unrealized capital gains category, and the taxes on these withdrawals will be determined accordingly; if "Withdraw capital gains last" is selected, no withdrawals will be taken from the capital gains until all other categories of growth have been depleted. Here s a screenshot of this table: In this example, PRC will take withdrawals as unrealized capital gains first (and exclusively if sufficient unrealized capital gains exist in the account) in scenario 1, will distribute withdrawals across all taxation categories in scenarios 2 and will take withdrawals as unrealized capital gains last in scenario 3. Cash Account Floor and Ceiling Settings Cash flow is calculated very simply by subtracting total expenses from total income. Positive values represent positive cash flow and negative values represent negative cash flow. Regardless of the case, 32

33 that positive or negative value will always be applied to the cash account first, in turn driving that account s balance up or down. This table allows you to specify floor and ceiling amounts for your cash account in terms of today s dollars. All negative cash flows are taken from the cash account until the floor is reached, and thereafter the withdrawal priority order is used; all positive cash flows as well as withdrawals and distributions from tax-favored accounts are deposited in the cash account until the ceiling is exceeded, after which the excess is deposited in the regular investment account. Consequently, the balance of the cash account will always remain in the range established by these floor and ceiling levels. If for whatever reason you don t wish to model a cash account, just set floor and ceiling levels to zero by entering blanks in these fields. Here s a screenshot of this table. In scenarios 1 and 2, the ceiling is $10,000 and the floor is $5000, but for scenario 3 they re both set to zero and no money will ever accumulate in the cash account. Account Growth Setting The common approach to calculating growth of an account in any given year, and the approach used by all prior versions of PRC, is to multiply the previous year-ending balance by the rate of return. This is a reasonable approximation but it has these flaws: 1. When the account is generally increasing in value due to new contributions, the common approach will tend to understate the amount of growth in each of these years. In reality, growth of an account occurs throughout the year. For example, simple interest may be earned on daily balances and applied on a monthly basis; if you purchase new shares of stock, you ll realize appreciation and possibly dividends from those new shares. The common approach fails to account for this element of growth because it relies strictly on the closing balance at the end of the prior year. 2. When the account is generally decreasing in value due to withdrawals, including negative cash flows from any account and RMD s from tax-deferred accounts, the common approach will tend to overstate the amount of growth of those accounts in each of these years. Since simple interest is applied based on decreasing daily or monthly balances, use of the previous year s ending balance will again fail to account for this element of reduced growth. Similarly, if stocks are being sold throughout the year to cover a negative cash flow or to pay RMD s and the associated taxes, use of the previous year s ending balance will again fail to account for it PRC2018 contains an alternative algorithm for calculating growth which seeks to account for both positive and negative cash flow scenarios. Based on the factors other than growth that drive the account balance up or down (i.e., contributions and withdrawals), this algorithm assumes they are evenly distributed over the year and uses an estimated account balance at the middle of the year (rather 33

34 than at the end of the previous year) as the value to multiply by the rate of return to arrive at the annual account growth. Let s consider two examples and make this assumption for both: The balance of Account A at the end of the prior year was $100,000 and the annual rate of return is 5%. Using the common (original) approach for calculating growth we would get growth = $100,000 x.05 = $5000. Now, let s take a look at two alternatives: Example 1: In this example, let s assume that income exceeds expenses by $10,000 and that these excess funds are going into Account A. By the middle of the year the balance of Account A will have increased by half of the $10,000 (i.e., $5000) not counting any interest/growth. Using the alternate algorithm, we would get growth = $105,000 x.05 = $5250, or $250 more than with the baseline approach. Example 2: In this example, let s assume that expenses exceed income by $10,000 and that this negative cash flow is being covered by withdrawals from Account A. By the middle of the year the balance of Account A will have decreased by half of the $10,000 (i.e., $5000) not counting any interest/growth. Using the alternate algorithm, we would get growth = $95,000 x.05 = $4750, or $250 less than with the baseline approach. So, you can choose which of these alternative growth models you wish to have PRC use in doing your projections. This control allows you to specify whether annual account growth is to be based on the year-ending balance of the prior year or the mid-year balance which takes into consideration contributions to and withdrawals from the account. If you select this latter option, PRC will figure the growth based on the prior year's ending balance plus half of the current year's contributions minus half of the current year's withdrawals. Here s a screenshot of this portion of the page: Clicking the Growth at start of year button will cause PRC to use the baseline model and clicking the Growth at middle of year button will cause it to use the more advanced model that bases growth on an estimated value of the account in the middle of the year. 401K/IRA Mixture Control Required Minimum Distributions (RMD s) must be taken from your tax-deferred accounts when you reach age 70 and ½; however, if you re still employed by the company sponsoring your 401k, you can delay your RMD from that 401k until you retire. PRC models all of your tax-deferred accounts as one, so it doesn t have any direct ability to control whether or not RMD s are generated for a particular 401k account; however, this control gives you the ability to tell PRC that some percentage of your (and/or your spouse s) tax-deferred account is not subject to RMD s at age 70. Here s a screenshot of this portion of the page: 34

35 In this example, PRC has been told that 10% of Joe s TD account is not subject to RMD s at the normal start age of 70. PRC will respond to this by taking only 90% of the calculated RMD from that account until Joe reaches the retirement age specified on the Home page. Thereafter, it ll take the whole 100%. This control applies across all scenarios. Charitable Trusts This table allows you to set up the modeling of the funding and payouts from a charitable trust. PRC does not attempt to model the details of specific types of trusts but, rather, provides the basic controls through which you can tailor its capabilities to a variety of trust types and details. PRC does not maintain the balance on the trust but it does model the establishment of a trust in the past or future, along with subsequent tax deductions and annuities (i.e., payouts). The contribution amount will always be withdrawn from the regular investment account. The deductions and payouts can vary every year, so PRC simply provides you with a table through which you can manually specify the annual amounts. The deductions will be included in your itemized deduction calculations and the payouts will be taxed as regular income. Here s a screenshot of this portion of the page: In this example, $250,000 is contributed to a trust in the year 2020, of which $175,000 is tax deductible. It results in annual taxable payments of $10,000. PRC places a 30-year limit on the payment duration. Historic Data PRC analyzes your scenarios using three different methods: fixed rate, Monte Carlo simulation and historic data simulation. Fixed rate analysis is the simplest of these methods and uses the rates of return as determined based on user entries on the Asset Classes and Asset Allocation pages, along with the inflation 35

36 value specified on the Home page. Monte Carlo simulation uses the average inflation value from the Home page but instead of using fixed rates of return, it generates random rates of return based on the mean rates of return and standard deviations specified on the Asset Classes page and the asset weighting specified on the Asset Allocation page. Of particular interest to us at this point, though, is the historic data simulation. This simulation does not use the rates of return or standard deviations specified on the Asset Classes page or the inflation value specified on the Home page. Instead, it uses historic inflation data and historic rate of return data associated with the relevant asset classes as defined on this page. Here s a cropped screenshot of the top portion of this page: The Historic Sequence Data Table contains nominal (inflation effects not removed) rates of return for up to 10 named historic sequences. Five of these are hard-coded and cannot be changed by the user, and these correspond to the following: Standard & Poor s total stock market returns since 1871 (Robert J. Shiller, Professor of Economics, Yale University), 3-Month T-Bill total returns since 1928, 10-Year T-Bond total returns since 1928 ( a cash sequence with 0% returns, and a Historic Inflation sequence corresponding to historic inflation back to 1871 (Robert J. Shiller, Yale University). The remaining five sequences can be defined by the user by simply doing a copy and paste from some other data source, and a small field is available at the top of the column for 36

37 the user to add a brief description of the sequence (shown below as User 1, User 2, User 3, User 4 and User 5). As you can see in the screenshot below, this data, along with provisions for you to enter your own historic data, is shown in the Historic Sequence Data Table. The table is organized with total nominal returns per year for each of 10 asset classes. The columns (classes) with the gray background are hard coded and cannot be changed by the user; however, the columns with the white background can be modified by the user. So, if you have historic data that you d like to use in PRC s historic analysis, you can use this page to input that data. You can also replace the column headers (currently shown as User1, User 2, etc.) to your own names. The Historic Sequence to Asset Class Mapping Table provides a mechanism for you to associate the historic sequences with the asset classes you defined on the Asset Classes table. This table is extremely simple, with only two rows: the first row is a list of your asset classes and the second row defines the associated historic sequence. Each field in the second row contains a pull-down menu containing each of the sequences defined in the Historic Sequence Data table. To make an association, you simply click a cell in the second row of each column and make your selection. You only need to do this for the asset classes that you have included in your allocations on the Asset Allocation table. For example, if you re only using assets of Cash, Stock and Bonds, and 100% of your investments are allocated across these asset classes, you only need to associate historic sequences to these asset classes and you can safely ignore the rest. 37

38 Warning: It is possible to get into a situation where one or more of the historical sequence names in the Historic Sequence to Asset Mapping Table are out of sync with the actual sequence names in the Historic Sequence Data table. This could occur if you change the name of the sequence in the Historic Sequence Table (for example, you change User 1 to User n) and then don t go to the Historic Sequence to Asset Mapping Table and use the pulldown menus to make a corresponding change. PRC will not make that change for you automatically. If and when this situation occurs, PRC will detect it and highlight the offending fields to alert you to the problem. Additionally, it will generate an error message if and when you attempt to initiate a scenario analysis while this condition is present, and then abort the analysis. Here s an example: The first thing to notice is that the table contains a row with one column for each of the asset classes you defined previously. Beneath that is another row labeled Historic Sequence. Each of the cells in this row contain a pull-down menu, like the one shown under the Money Markets asset class above, with which you select the historic sequence you wish to associate with your asset classes. When PRC performs the historic analysis on your plan, it will use the historic sequences for these asset classes to establish the annual aggregate rate of return to use for your regular, tax-deferred and Roth savings categories rather than the fixed returns specified on the Asset Class table; however, it will always use the asset allocation you specified in the Asset Allocation Table to combine the returns of particular asset classes into an aggregate return. When performing the historic data simulation, PRC will use as much historic data as is available with two limitations: 1. There must be historic data for all asset classes for which you have allocations dating back to at least 1928 to have sufficient data to conduct a valid simulation. If you attempt to initiate an analysis and this condition is not met, PRC will generate an error message stating that there is insufficient historic data available. If you see this message, you will need to come back to the Historic Data page and remedy the problem by either getting more history data or changing the association between your asset classes and the available historic data sequences. 38

39 2. PRC will use the same amount of historic data for all asset classes, and this will necessarily be the amount associated with the class with the least amount of data. Personal Loans On this page, you can define and characterize pre-existing personal loans you have made to someone else. In other words, PRC helps you model loans already in place but it doesn t provide any capability for establishing similar loans in the future (we figured that this may be a reality for many people, but that it would generally not be part of a person s future plan). The principal paid on these loans is treated as non-taxable income, the interest paid on these loans is considered taxable as regular income, and the outstanding loan balance is included as part of your Net Worth. Here s a screenshot of this page: PRC provides the capability to model two pre-existing personal loans, called Loan 1 and Loan 2 and the details of these loans can vary between scenarios 1, 2 and 3. There s a separate data entry table for each loan, and a loan amortization table which depicts the details of both loans for the selected scenario. Current Balance: The loan balance at the beginning of the specified starting year. Monthly payment: The monthly payment of principle and interest. APR: The annual percentage rate on the loan. # of Remaining Payments: The number of monthly payments remaining on the loan. 39

40 Early Pay-Off Year: If the loan involves a balloon payment, the year of that payment can be specified here. Investment Loans On this page you can model up to two loans that are not specifically associated with the purchase of physical property, such as investment or margin loans. Here s a screenshot of this page: The upper table is the data entry table where, for each of the three scenarios, you can enter a brief loan description along with the loan amount, the loan origination year (which can be in the past), the annual interest rate, the term of the loan, the duration of any interest-only period and whether the interest on the loan is tax deductible. Based on your inputs, PRC will then model the loans and fill in the lower table with the details. Please note that the lower table only displays the details for one scenario at a time, as determined by the radio buttons just above the table. In the year the loan is originated, the loan amount will be added to your Regular Savings and all loan expenses will be treated as Miscellaneous Expenses and shown in the corresponding column on the Detailed Results page. If the term of the loan is the same as the interest-only period, a balloon payment will be generated in the last year of the loan and it will also be considered a Miscellaneous Expense. If the Tax Deduction box is checked, the interest on the associated loan will be included in the Deductions and Exemptions column on the Detailed Results page. 40

41 The balance of the loans modeled on this page will be combined with the balance of all mortgage loans modeled on the Property page and then included in the Total Loan Balance column on the far right side of the Detailed Results page and treated as a lien on your Net Worth. INCOME The Income page enables you to specify your family income streams in great detail. This includes three streams of employment income, two pensions, Social Security benefits, ten taxable windfalls and ten nontaxable windfalls, five other income streams of a miscellaneous nature, two annuities, an inherited traditional IRA and an inherited Roth IRA, and you can do all of these for both yourself and your spouse. Further, you can do all of this for each of three independent scenarios. The layout of the page is obvious and the separate areas related to the above items are clearly labeled. The column headers contain your name and your spouse s name, as entered on the Home page. Also, buttons are provided that allow you to clear the entire Income table or to copy the scenario 1 data to scenarios 2 and 3. If your data is almost identical across all scenarios, you ll probably just want to fill in scenario 1, copy it to the other scenarios, and then manually type in the details unique to scenarios 2 and 3. As a result of the high degree of fidelity with which PRC allows to define your income profile, the Income page is quite long from top to bottom. To minimize the amount of scrolling you have to do to find specific fields, several scroll buttons are provided just beneath the page navigation buttons near the top of the page. These buttons contain hyperlinks that, when clicked, will take you directly to the associated section of the page. Here s a screenshot of those buttons (the light blue text). How Birthdays Affect Income Streams Since PRC is aware of birthdays it s able to model partial-year income streams, and the convention is that age-related income streams begin and end on the birthday of the owner. As a quick example, let s say your birthday is on July 1 and you plan to stop working when you re 62 and start your pension when you re 62. You d set the stop age of your employment income stream to 62 and the start age of your pension to 62. When you examine your income profile, you ll notice half a year of employment income and half a year of pension income in the year in which you turn 62. Another example is that of a married couple where both husband and wife have their own Social Security benefits but the husband s benefits are the higher of the two. If he dies before she does, she ll (in effect) get his benefits rather than her own during her survivor years. In the year in which he dies, PRC will model the Social Security income stream to accurately reflect both his and her benefits up to the point of his death and then only her survivor benefits thereafter. A final example relates to the final year of the last-surviving spouse. If that person dies sometime during the year (as opposed to January 1), then only a partial year of income will be modeled in that final year. 41

42 Today s $ to Future $ Converter Some of the fields on the Income page are required in terms of future dollars; however, PRC provides an easy-to-use converter to assist you in converting today s dollars to future dollars for cases where you only have the requested data in terms of today s dollars. The converter icon is the yellow, double-headed arrow near the upper left-hand side of the page. You use it by clicking in the cell where you want to enter your data, then enter your data in today s dollars, then click the converter icon and simply answer the two questions it poses: 1) what future year do you want today s dollars converted to and 2) which scenario are you entering data for? The latter question is relevant because the conversion process uses the general inflation rate associated with the specified scenario. As soon as you do a carriage return or click OK after entering the scenario number, PRC will convert the value you entered in today s dollars to future dollars in the selected field. You can use this converter for any field on the Income page. Employment Income Streams Start Age and Stop Age: These fields enable you to specify exactly when the income stream begins and ends. The start age can be left blank if the income stream is currently active. The stream will begin on the day the owner reaches the specified start age and will end on the day the owner reaches the specified stop age. $Annual Gross Income: The annual income in terms of today s dollars. Annual Percent Increase: The annual rate of increase of the income stream. $ Personal Contribution to Tax-Deferred Accounts (Pre-Tax): The dollar amount to be deducted from this income stream that you or your spouse plans to contribute to a tax-deferred retirement plan on a pre-tax basis. Taxes on this income and all associated growth will be deferred until withdrawn. With PRC2018, it is possible to specify contributions to tax-deferred savings without the owner having any earned income. This is based on the assumption that the marriage partner will have income from which that contribution is made. If it turns out that total contributions exceed total income, the spendable income will be a negative number. PRC will work fine with this but will highlight this condition for you by creating a bright yellow background in the spendable income column on the Income Projection page. $ Personal Contribution to Tax-Deferred Accounts (After Tax): The dollar amount to be deducted from this income stream that you or your spouse plans to contribute to a tax-deferred retirement plan on an aftertax basis. These contributions will grow tax-deferred until withdrawn and they can be rolled over to a Roth IRA after retirement. $ Company Matching on Tax-Deferred Accounts: The dollar amount that your employer or your spouse s employer will contribute to your tax-deferred retirement plan. $ Personal Contribution to Roth Accounts: The dollar amount to be deducted from this income stream that you or your spouse plans to contribute to either a Roth IRA or a Roth 401k. Taxes on this amount of income will be due in the year the income is earned. 42

43 $ Company Matching on Roth Accounts: The dollar amount that your employer or your spouse s employer will contribute to your Roth accounts. $ Post-tax Income Contributed to a Defined Benefit Plan: You can use this field to specify the size of your contribution to a defined benefit pension plan with post-tax dollars. The funds will come from your aftertax income and will not be contributed to any savings. Rather, they are assumed to help fund your Defined Benefit Pension detailed in the pension section of the Income page. $ Pre-tax Income Contributed to a Defined Benefit Plan: You can use this field to specify the size of your contribution to a defined benefit pension plan with pre-tax dollars. This will be treated like a 401k contribution in that it reduces Adjusted Gross Income but has no effect on FICA; however, the funds on this line will not be contributed to any savings. Rather, they are assumed to help fund your Defined Benefit Pension detailed in the pension section of the Income page. Disable SS contributions? This control enables you to specify that this income stream is not subject to Social Security taxes. Self Employed? This control enables you to specify that this income is subject to self-employment taxes. Here s an example: In this example, both Joe and Barbara have employment income. Joe s continues until he s age 64 and Barbara s continues until she s 61. He currently earns $125,000 which increases at 3% per year, and he contributes $12,500 of this to a tax-deferred retirement plan with $6250 of company matching. She currently earns $40,000 which increases at 3% per year, and she contributes $4000 of this to a taxdeferred retirement plan but receives no company matching. All scenarios use the same values. Pensions This section of the Income page is designed to help you model some rather complex pensions, including those that include roll-overs to a traditional IRA and/or a Roth IRA as well as reimbursing your contributions to the pension as specified in the employment income streams described above. You can also specify survivor benefits, if any, as well as a Certain and Continuous period of a specified duration. 43

44 User Description: This is the field directly beneath the Pension# label that enables you to specify a textual description of the pensions. As always, create a blank by using the DELETE key. Start Age and Stop Age: These fields enable you to specify exactly when the pension begins and ends. If the pension continues indefinitely, just leave the Stop Age field blank. As always, create a blank by using the DELETE key. The stream will begin on the day the owner reaches the specified start age and will end on the day the owner reaches the specified stop age. If you want to model a lump sum pension, just set the start and stop age to the same value. Annual Taxable Amount: Enter this in then-year dollars. You can use the converter if your pension is specified in terms of today's dollars. To do this, enter the amount in today's dollars in the amount field to the right and ensure that field is selected, then click the yellow converter icon near the upper left corner of this screen, answer the pop-up questions, and your today's $ value will be replaced with the equivalent value in future $. Maximum COLA: The annual taxable pension amount will be increased each year by this amount or by the inflation value specified on the Home page, whichever is less. % of Taxable Rolled Over to Traditional IRA: Taxes on this amount will be deferred until withdrawn from the IRA. For a given pension, this and the option to roll over funds to a Roth IRA are normally mutually exclusive (you can do one or the other). % of Taxable Rolled Over to Roth IRA: Taxes on this amount will be paid in the year received. For a given pension, this and the option to roll over funds to a traditional IRA are normally mutually exclusive (you can do one or the other). Annual Non-taxable Amount: This is the reimbursement of employee contributions to this pension, if any. Contributions are assumed to have been paid with after-tax dollars, so this portion of the pension is not taxed. Survivor %: Under this pension option, this percentage of all components of this pension will continue after the death of the pension owner for the lifetime of the beneficiary spouse. This and the C&C Period are mutually exclusive (you can specify one or the other, but not both). Certain & Continuous Period: Under this pension option, all components of this pension will continue for the owner's lifetime or the specified period, whichever is greater. This and the Survivor % are mutually exclusive (you can specify one or the other, but not both). Here s an example: 44

45 In this example, both Joe and Barbara are expecting to receive pensions in the future, and Joe is modeling three different variations on his pension to compare long-term results. Joe s pension of $100,000 in future year dollars will have a maximum COLA of 3% and is expected to begin at age 65, and Barbara s pension of $25,000 in future year dollars has no COLA and is due to begin at age 62. For scenario 1, Joe wants to model his pension as purely regular income with a 50% survivor option in the event that he dies before Barbara. For scenario 2, Joe wants to model his pension with 50% regular income and 50% rolled over into a Roth IRA (taxable when received but no taxes on its subsequent growth), again with the 50% survivor option.. For scenario 3, Joe wants to model his pension with 100% of it being rolled over into the Roth IRA but with a 10-year Certain & Continuous option rather than the 50% survivor option. Social Security PRC goes way beyond simply asking you to specify benefit amounts and start ages. It wants to know these things: 1. The benefit amounts you and your spouse expect to receive at your Full Retirement Age based solely on your own work records (or alternatively, the amount you re currently receiving). 2. The ages at which you and your spouse expect to start receiving benefits (or alternatively, that the benefits have already started). 3. Who, if anyone, is doing a File & Suspend? Based on these few inputs, PRC will compute your benefits and your spouse s benefits, including any applicable spousal benefits, with appropriate reductions or increases relative to the FRA amounts based on the specified start ages. It models File & Suspend as well as Restricted Applications (both described in more detail below) based on the data provided. This automated approach yields the following benefits: It enables easy what-if exercises: by simply changing your and your spouse s start ages, you can quickly observe long term effects on your net worth without having to figure out and then enter the corresponding changes to benefit amounts. It enables PRC to compute the optimum ages for you and your spouse to begin taking SS benefits (for more information, see the Analysis/SS Optimization page). File & Suspend and Restricted Applications Social Security rules related to File & Suspend and Restricted Applications have changed some in recent years, and these are implemented in PRC. Here s a brief summary: 45

46 File & Suspend allows a spouse to begin collecting spousal benefits at the spouse s FRA on the primary worker s record while allowing the primary worker s benefits to grow at the rate of 8%/year x the number of years benefits are delayed beyond FRA (these are referred to as delayed retirement credits). New applications for this benefit were eliminated as an option as of April 30, The File & Suspend option is still available for anyone who did it prior to April 30, If File & Suspend is in effect, a spouse can receive spousal benefits of up to 50% of the primary worker s FRA benefit amount (spousal benefits are not affected by delayed retirement credits). If File & Suspend is not in effect, the primary worker must be receiving benefits for a spouse to receive spousal benefits. Since File & Suspend is intended to allow a spouse to get spousal benefits based on the marriage partner s record, only one marriage partner can do it. Hence, PRC asks you to specify which person will do it, if either. Restricted Applications allow a person restrict an application to spousal benefits only (rather than their own benefits). This allows that person to receive spousal benefits on a spouse s record while allowing the person s own benefits to grow at the rate of 8%/year x the number of years benefits are delayed beyond FRA. To be eligible for a restricted application, the person must have reached age 62 by December 31, As long as that age requirement is met, the actual application can occur at any time. If the age requirement is not met, any application for benefits is deemed to be an application for either individual or spousal benefits, whichever is larger. Field-by-Field Description of Social Security Income Inputs Full Retirement Age: This is determined and filled in by PRC automatically for your reference. Age at which you plan to start collecting benefits: This field is entered via a pull-down menu which provides three basic options: 1. Benefits have already started 2. Not eligible for benefits 3. The age in the future at which the benefits will begin Annual Benefit Amount: If your benefits have already started, simply enter the amount you re receiving. If your benefits will begin in the future, enter the amount you would receive if you retired at your FRA. You can use one of SSA's benefit calculators (see to get an estimate based on your actual earnings record and your estimated future earnings (if you are affected by the Windfall Elimination Provision, you will need to use the WEP Online Calculator rather than the Retirement Estimator). These values should be entered in today's dollars and based only on the earning record of the associated person. Leave blank if this person has no benefits of their own; PRC will calculate spousal benefits based on the other spouse's work record. PRC will perform the necessary calculations to determine how your benefit will vary depending on your planned start age. You can start benefits as early as age 62 or as late as age 70. If you start earlier than your FRA, your benefits will be reduced by some amount each year and, conversely, if you start benefits after your FRA, they will be increased. In any case, PRC will begin Social Security benefits on the birthday of the recipient in the year the start age is reached. 46

47 This field will be grayed out if you specified in the previous field that you are ineligible for benefits. Real Benefit Inflation Adjustment Assumed: In theory, the Social Security Administration will increase benefits each year at the rate of general inflation and PRC assumes that as its default approach; however, if you want to base your model on some other rate you can enter the real rate of inflation (the amount above or below the specified general inflation rate you entered on the Home page) in this field. This is an inflationary adjustment relative to the general inflation rate. If you think Social Security benefits will not keep up with general inflation, then enter a negative number in this field. Who will File and Suspend? This field allows you to specify which marriage partner, if any, is doing a File & Suspend, and it is done via a pull-down menu. If neither has done a File & Suspend, just select Neither. GPO-Based Spousal Benefit Reduction Amount: This helps PRC model the Government Pension Offset provision (which tries to ensure that a person cannot receive full benefits from SS as well as a separate retirement program). This provision establishes some middle ground between full spousal benefits and no spousal benefits, based on the government s rules. For a person who is not a participant in Social Security or did not participate for some amount of time, SS spousal benefits may be reduced under the GPO provision. If appropriate, you can enter that reduction amount in this field. Examples Here s an example of PRC s Social Security income modeling: PRC has determined that both Joe and Barb have a full retirement age (FRA) of 67 which is shown with a light gray background, indicating that it s a computed output rather than an input field. Beneath that, we can see the user inputs for each scenario. For all scenarios, we can see that both Joe and Barb will receive benefits of $30,000 and $22,000, respectively, on their own records. For scenario 1, benefits will begin at their respective FRA s. For scenario 2, Joe s benefits will begin at age 65 and Barb s will begin at 63. In scenario 3, Joe will wait until age 70 and Barbara will start her benefits at age 65. Continuing with this example, let s take a look at the Income Projection to see what PRC has done with this data: 47

48 The screenshot above shows scenario 1 projections. Above the block arrow near the right side, you can see that SS benefits began at $30,000 when Joe turns 67 and then increase by $22,000 when Barbara reaches age 67. The screenshot above shows scenario 2 projections. Above the block arrow near the right side, you can see that SS benefits begin and remain at $42,510 ($26,010 + $16,500) when Joe reaches age 65 and Barbara reaches 63. The screenshot above shows scenario 3 projections. Above the block arrow near the right side, you can see that SS benefits begin when Barbara reaches age 65, and they increase when Joe claims his benefits at age 70. Now, let s take a look at another example. This time, let s assume that Joe and Barbara are older and have already retired and started collecting SS benefits. Here s the corresponding Income page: 48

49 For scenarios 1 and 2, the benefit amounts are $25,000 for Joe and $15,000 for Barb and the start ages fields indicate that these benefits have already started. For scenario 3, Joe s benefits are the same as in scenarios 1 and 2, but Barb isn t eligible for benefits. Consequently, her benefit amount field is grayed out. Social Security Disability Modeling PRC does not specifically model Social Disability benefits. If you need to do this, we recommend using one of the Other Income streams and set taxation to Non-taxable. Expected Taxable Windfalls This section enables you to identify up to 10 separate taxable windfalls for both you and your spouse. In the fields provided, simply enter the amount (in future year dollars) and the associated year. That amount will be taxed as regular income in the year it is received. If you know the amount in terms of today s dollars and need to convert it to future dollars, you can use PRC s built-in converter feature described above. Expected Non-Taxable Windfalls This section enables you to identify up to 10 separate non-taxable windfalls for both you and your spouse. In the fields provided, simply enter the amount (in future year dollars) and the associated year. Any amounts entered into this table will be excluded from your Adjusted Gross Income (AGI). If you know the amount in terms of today s dollars and need to convert it to future dollars, you can use PRC s built-in converter feature described above. Other Income Streams This section allows you to define up to five additional income streams for you as well as for your spouse. Each of these is very flexible such that you could use these streams to define such things as distributions from trusts, alimony and child support. The specific inputs fields are describe below: Description: Allows you to add two or three words of description to each income stream Annual Amount: The annual amount of income in terms of today s dollars. Start Age and Stop Age: Use these fields to specify exactly when the income begins and ends. You can leave Stop Age blank if the income stream continues indefinitely. Annual Growth %: Use this field to specify how the income stream grows each year. Survivor %: This percentage of the annual amount will continue after the death of the owner. 49

50 Taxation: Click in this field and then use the pull-down menu to specify either Non-taxable, Taxed as Regular Income or Capital Gains. If the field is left blank, PRC will assume it is taxed as regular income. If it is non-taxable, the income will be excluded from your AGI. If it is to be taxed as regular income, it will be included in your AGI in the year it is received. If it is to be taxed as capital gains, it will be included in your AGI but taxed accordingly. Here s an example of how you could use the Other Income section: In this case, we re only using scenario 1. You can see that we re telling PRC that Joe an income stream of $5,000 per year from age 50 to age 55, and that income will increase at 3% per year. Since the Survivor % is set to 100%, this income will continue to Barb even if Joe dies. This income will be taxed as regular income. You can also see that Barb has an income stream of $20,000 that will begin at age 38 and continue indefinitely. Since it has a Survivor benefit of 50%, it will continue to Joe at 50% of its initial value even if Barb dies and it will be treated as regular income. Finally, notice that there is a pull-down menu in the Taxation row. You can use this to specify whether this income is to be treated as non-taxable, regular or capital gains income. Annuities PRC2018 does not attempt to model the nuances of any particular type of annuity or the investments associated with any annuity but, rather, it models annuities generically. With that said, it can model each of these types of annuities: 1. Fixed 2. Variable 3. Fixed-indexed 4. Immediate 5. Deferred As a user, you have the following controls over the way PRC models an annuity: Investment amount, date and the account from which the funds are to be withdrawn (this is irrelevant if the annuity was established prior to the start of the modeling period) Pay-out start year Pay-out end year 50

51 Pay-out annual amount and associated COLA Duration of taxable payments (to enable payouts to be fully taxable for a while and then nontaxable thereafter) Taxation percentage (to enable payouts to be partially taxable for the entire duration; mutually exclusive with the duration of taxable payments field Survivor % CC period Brief discussion on the taxation of annuities All payouts from annuities associated with or purchased with funds from tax-deferred accounts are fully taxable as regular income. Non-qualified deferred annuities are subject to the earnings and interest first rule which requires that all pay-outs are assumed to be the growth portion of the account until the account balance is equal to the principal amount, and thus fully taxable. Thereafter, all pay-outs are non-taxable. Pay-outs from fixed and immediate annuities (and possibly other types) may include interest as well as the return of principal, and all pay-outs include the interest as well as the return of principal. Therefore, the pay-outs are partially taxable. Field-by-field description Please refer to the screenshot below and we ll address each of the data entry fields for annuities. Purchase Age: This is the age of the owner when the annuity is to be purchased. You can leave this field blank if the annuity was purchased prior to the model s starting year. Purchase Price in Today s $: This is the cost of the annuity in today s dollars. You can leave this field blank if the annuity was purchased prior to the model s starting year. Source Account for the Purchase of this Annuity: This field contains a pull-down menu that allows you to select the account you want to use to purchase this annuity. You can leave this field blank if the annuity was purchased prior to the model s starting year. Age When Pay-out Begins: This is the age of the owner when the payments should begin. 51

52 Age When Pay-out Ends: This is the age of the owner when the payments should end. Leave this blank if they continue indefinitely. Annual Annuity Payment in Today s $: This is the annual income you expect to receive from this annuity, in today s dollars. Annual Real Rate of Return: This is the annual adjustment in the pay-out amounts, relative to inflation. Leave blank if the payments increase at the rate of inflation or enter a negative number if they increase at less than the rate of inflation. For example, if this is a fixed annuity with no cost of living adjustments and inflation is 3%, you d enter a -3%. Duration of Fully-Taxable Payments: As stated above, non-qualified deferred annuities are subject to the earnings and interest first rule which requires that all pay-outs are assumed to be the growth portion of the account until the account balance is equal to the principal amount, and thus fully taxable. Thereafter, all pay-outs are non-taxable. You can model this in PRC by entering into this field the number of years of those growth-only portion (while leaving the Taxable Percentage of Annuity Payment field blank). Taxable Percentage of Annuity Payment: Some or all of the income from the annuity may be taxed, depending upon the source of the funds used to purchase it. PRC does not attempt to determine this automatically, so you ll need to use this field to tell it the percentage of the income to be taxed as regular income. If your pay-outs are taxable for some period of time and then become non-taxable, enter the duration of the taxable period in the field above and leave this field blank. Survivor %: If the annuity has a survivor percentage option, enter the percentage of the pay-out amount that will continue after the death of the owner. Leave blank if the annuity has a Certain & Continuous option. Certain & Continuous Period: If the annuity has a Certain & Continuous Period, enter the duration in this field. Note that this is mutually exclusive with the Survivor % field above, so leave blank if the annuity has a survivor percentage option. In the screenshot shown above, you can see that Joe plans to purchase an annuity at age 50 for $100,000 using funds from the regular investment account, and it will yield $5000 in annual income in today s dollars starting at age 70 and those payments will not be adjusted for inflation. The payments will be taxed as regular income for the first five years and will non-taxable thereafter. You can also see that Barb plans to purchase an annuity at age 55 for $75,000 using funds from her tax-deferred account, and it will yield a $4000 in annual income beginning at age 70, all of which is taxable. Both of these annuities continue at 100% after the death of the owners. The screenshot below illustrates the purchase of these annuities. 52

53 This is one of PRC s tabular projection pages. You can see the purchase of the $100,000 annuity from the Regular Investment Account in year 2020 when Joe turns 50 and the purchase of the $75,000 annuity from Barb s tax-deferred account in year 3034 when she turns 55. Example: Modeling a Qualified Longevity Annuity Contract (QLAC) A QLAC is an insurance product that you buy up front in exchange for a guaranteed stream of income that will begin at some point in the future and last for the rest of your life. These payouts are not affected by market conditions and are guaranteed by the insurance company. Another benefit is that they can help you project what your income will be in your retirement years while reducing the size of your Required Minimum Distributions (RMD s). QLAC s are easy to model with PRC2018: You simply specify the age at which you plan to purchase the contract, the amount of the contract in today s dollars, the account from which these dollars will be paid (either your tax-deferred account or your spouse s), the age at which at the payments begin, the amount of those payments in today s dollars, the amount of any inflation adjustments expected, the way the payments are to be taxed (100% taxable) and the appropriate survivor option. In the screenshot below, you can see that Joe is purchasing an annuity at age 60 for $125,000 and it will results in payments of $6000 per year beginning at age 70. They will increase at the rate of 3% to keep up with inflation, all payments are taxed as regular income and Barb will continue to receive these payments if Joe predeceases her. 53

54 Potential Error: Specifying a Source Account with Insufficient Funds to Purchase an Annuity You need to be aware that, as a user, you can create a situation that forces the PRC model to take corrective actions. Buying annuities using funds from a user-specified account is a useful feature but it creates the opportunity for you to specify a source account that may not contain any or enough money when the time comes to simulate that purchase. If and when that occurs, PRC delays the purchase of the annuity and treats it as a normal expense in the subsequent year. When this situation occurs, PRC will highlight the relevant cells on the tabular projection pages to help make you aware of the issue. Continuing the previous example, let s assume that the annuity being purchased by Barb is $125,000 instead of $75,000 in today s dollars, which exceeds the balance of her tax-deferred account. Here s an example of the way this appears on the Rollovers and Annuity Purchases page: 54

55 And here s the way this appears on the Summary Projection page: On the picture of the Summary Projection page you ll observe two highlighted cells. The one on the right side of the page highlights the account (Roth in this case) and the year in which a run-time error (insufficient funds to purchase the annuity as specified) was detected. The one on the left side of the page highlights the Total Expenses cell containing the purchase cost of the annuity being rolled over as a normal expense in the following year. If and when you encounter highlighted cells on a projection page, you should first realize that they re an indication of an error detectable only while the projection is being generated and then you should seek to find and resolve the source of the problem. Hints: There is only one problem source of a highlighted cell in the Total Expenses column: an annuity purchase was specified but the source account contained insufficient funds. There are two problem sources of highlighted cells with account columns: Insufficient funds for purchasing annuities and insufficient funds to support scheduled withdrawals as specified on the Financial Assets/Management page (see the corresponding section in this manual). Inherited IRA This section enables you to identify and describe the traditional and Roth IRA s that you have already inherited or expect to inherit in the future, and they are both done via the same data table. IRS rules require that distributions from an inherited traditional or Roth IRA must begin by the end of the year following the owner s death and can be spread over a 5-year period or the beneficiary s life. PRC allows you to specify the distribution period with the following choices: lifetime or 1-5 years, and those distributions begin the year after the inheritance occurs. Here s a screenshot of the table in which you specify an inherited traditional or Roth IRA: 55

56 Description: This is a very brief textual description of the IRA. Amount (Then-Year $): This is the amount of the inheritance in then-year dollars (i.e., dollars valued in the year of the inheritance). Leave this blank if the inheritance has already occurred as of the starting year. Year the inheritance occurs: If the inheritance is expected in the future, enter the year in which it is expected. Leave this blank if the inheritance has already occurred as of the starting year. Distribution Period: This field contains a pull-down menu that allows you to specify 1, 2, 3, 4, 5 or Lifetime. Distributions from this IRA will begin in the year following the inheritance and will be distributed over the period of years specified here. You will need to make an entry in this field even if the inheritance has already occurred as of the starting year. If you enter an initial balance in the Financial Assets Initial Balances page, PRC will highlight this field if you fail to enter a distribution period, and the account balance will grow indefinitely with no distributions. In the example shown above, Joe inherited his Dad s traditional IRA at some point in the past and it is to be distributed over Joe s lifetime. Since it was inherited prior to the starting year specified on the Home page, the account balance as of the end of the prior year is entered on the Financial Assets/Initial Balances page and the amount and year fields are left blank on this page. Barb expects to inherit her Mom s Roth IRA in the year 2020 and it will be worth $100,000 at that time and is to be distributed to Barb over the course of five years. EXPENSES In the pages discussed above, we ve shown how you define your demographics, your income, and your investment and the associated rates of return, etc. This leaves just one crucial area that must be defined before PRC can perform an analysis: your expenses. Like other areas, PRC goes way beyond simply providing a table for you to laboriously enter each expense along with start and stop dates. First, expense categories are partitioned into eight separate, functionally coherent pages. Within each page, special formatting is provided to facilitate easy but thorough definition of the related expenses. The eight expense-related pages are associated with the eight buttons that appear underneath the major navigation buttons when you click the EXPENSES button. Whenever you leave the Expenses pages for some other section of PRC and then return, you will always be returned to the same subpage from which you departed. The paragraphs that follow describe each of the Expenses subpages in detail. Rental Property is included in this section despite the fact that it could be viewed as INCOME because of the fact 56

57 that it has both income and expense components and is very similar to the Property page which clearly falls into the expense category. Property The Property page is used to enter detailed information related to your property, such as your home(s), car(s), boat, etc. PRC can accommodate up to 10 properties and you can include the properties you currently own as well as any you expect to purchase in the future. PRC can model mortgages, taxes and insurance, operating and improvement expenses for each property as well as closing costs, sales commissions, lump sum payments and excess annual payments, and it creates an expense profile for each property such that the expenses are included only during the period of time you expect to own each property. It also calculates your capital gains for subsequent incorporation into your detailed tax calculations. Further, PRC enables you to specify your property information independently for each of three scenarios. To minimize your typing, PRC provides buttons that copy the contents of Scenario 1 into Scenario 2 and/or into Scenario 3, after which you can then simply enter the specific changes you desire to make each scenario unique, if desired. Each column in the Property table is described in detail below. Acquisition, Loan and Sale Information Asset Description: Simply a brief description of each property Asset Type: Use the pull-down menu to specify either Primary Home, Vacation Home or Other. This is used to determine whether the interest paid is tax deductible and whether some or all associated capital gains can be excluded from your income when the asset is sold. If you select either Primary Home or Vacation Home, PRC will assume the interest paid is tax deductible. Year of Acquisition: For assets you currently own, enter the year they were acquired. For assets you plan to buy in the future, enter the year you plan to make the purchase. Cost Basis for Assets You Currently Own: This applies only to properties you already own and is the price you paid or the property s value at the time you acquired it. This will be used by PRC in computing capital gains. Current Market Value: Enter the current market value for assets you currently own as well as those you plan to buy in the future. For the latter, this will be the basis cost used in capital gains calculations. Refinance Year: This feature only deals with refinancing done prior to the starting year. If you have refinanced a prior loan, please enter the year this was done; otherwise, leave this blank. PRC does not model refinancing to be done in the future. Asset Value at Time of Refinance: If you have refinanced the loan on an existing property, enter the value of the property at the time it was refinanced; otherwise, leave this blank. The Refinance Year and the Asset Value fields will turn yellow if one is filled in while the other is left blank. PRC cannot compute the loan numbers without valid inputs in both of these fields. % of the Value You Are Financing: Enter the amount of the purchase price you are financing. Leave blank if you are not financing. 57

58 APR: Enter the Annual Percentage Rate (APR) of existing loans or estimated APR of loans you expect to get for future purchases. Leave blank if you are not financing. Length of Your Loan in Years: Enter the length of your loan if you are financing. If you have an existing loan, enter the total length of the loan at the time it was originated. Leave blank if you are not financing. Purchase Closing Costs: Enter a percentage of the market value that will be included in the expense of the acquisition. Real Appreciation Rate: This rate is relative to the inflation rate you specified on the Home page. Therefore, just leave this blank if you expect this asset to appreciate at the rate of inflation. Enter a negative number if you expect the asset to depreciate over time, such as most cars and boats. For Homes only, the Market Value will escalate at this rate from the Starting Year forward. All other property types will escalate in price at the inflation rate until they are purchased. Thereafter, they will appreciate or depreciate based on the rate specified here. Year You Expect to Sell: By specifying a sale date, PRC will terminate all expenses associated with this property on that date. You can leave this field blank if you don't plan to sell the property. Sales Closing Costs: Enter a percentage of the sales price that will come out of your equity at the time this asset is sold. This can include sales commissions and other closing costs. Lump Sum Early Pay-Off Year: If you specify an early pay-off, the loan balance at the end of the prior year will be an expense in the pay-off year. Excess Annual Payments: PRC will apply any amount you specify here to the outstanding debt on the property each year until it is fully paid for. For mortgages than began prior to the start of the modeling period, PRC will apply the excess payments from the beginning of the mortgage if the Retroactive? box is checked; otherwise, the excess payments will begin at the beginning of the modeling period. Note: The check box feature is an enhancement implemented after the initial release of PRC2017 and is not incorporated into the Import/Export function. The import function will always un-check this box. Interest-Only Period: You can specify an interest-only period, in years, in this field and PRC will compute loan expenses such that only interest is paid for this number of years and then principle payments will be amortized over the remaining term of the loan. If the total term of the loan is the same as the interestonly period, a balloon payment will be modeled in the final year of the loan. Other Costs and Annual Operating and Maintenance Costs Actual or Expected Property Taxes: This MAY be included in your monthly payments to the loan company which holds it in escrow until the taxes are due. Regardless, they should be separated from principle and interest in this table because they are affected differently by inflation and are always deductible. Actual or Expected Insurance: Similar to property taxes, this MAY be included in your monthly payments to the loan company which holds it in escrow until the insurance premium is due. Regardless, this should 58

59 be separated from principle and interest in this table because it is affected differently by inflation and is not tax deductible. Operating & Maintenance Costs: This column of the table is highlighted with a gray background because the values are calculated by PRC and are write-protected. They are simply the sum of the values entered into the ten columns of the associated row under the major heading of Annual Operating Costs. You can change the column headers to best match your needs, but we envision that they will capture things like annual maintenance costs, gasoline, utilities, and the like. Improvement Costs This section of the table enables you to model improvements to these properties (one improvement per property). Year: This is the year the improvement is to be made. Investment Amount: This is the cost of the improvement which will be treated as an expense in the year the improvement is made but will PRC will also assume that the value of the property is increased by this amount. Unlike most other pages, the data associated with each scenario on the Property page is contained on tables arranged vertically rather horizontally simply because of the large amount of data contained in each of these tables. Medium-blue-colored scroll buttons are provided to help you scroll quickly between the tables associated with either scenario 1, 2 or 3. Beneath all of the scenario-related input tables, you can find another large table containing PRC s calculated property expense profile and related data, including loan amortization. This table is always associated with the scenario selected by radio buttons located near the top of the table. Within the table you ll find the following columns of information for each of the 10 possible properties being modeled, with year by year data in the rows below: loan balance, monthly payment, value, equity, taxes, Insurance and maintenance & operating expenses. On the left side of this table, you ll find a summary spanning all 10 of the properties with the following data: annual expenses, annual windfall (from the sale of any of the properties), reportable capital gains, net expenses (annual expenses minus annual windfall which, in effect, assumes you're applying the proceeds from the sale of one asset toward the purchase of another one in any given year), tax deductions and total equity. This is a very wide table, made necessary to display all of the details for each of 10 separate properties; however, to facilitate viewing without the need for lots of left/right scrolling, the section of the table just to the right of the summary section (on the far left) shows the details of a selected property. Property selection is done via the up/down arrows: as you click on either the up or down arrow, the property number shown will change as will the description of the property at the top of this section of the table. Here s an example: 59

60 You can see that PRC supports the modeling of up to 10 property assets and it is capable of dealing with assets you currently own as well as those you plan to purchase in the future. This includes such details as down payments, mortgage payments, sales commissions, calculation of capital gains taxes and depositing the proceeds from the sale of a property into your regular savings. If you look closely at the screenshot, you ll notice that the first two rows show that the owners are selling their current home in 2042 and are not financing their retirement home. The current home has a 15-year mortgage that started in 2004, so it ll be paid off long before the home is sold in The details of that mortgage are shown in another table located at the bottom of the page, and here s a cropped screenshot of that: Additionally for all of the properties shown on the first table shown above, there s a corresponding table where related expenses can be entered, such as property taxes, insurance, operating expenses and improvements. The beauty of putting those expenses into this table is that these expenses are included into your plan only while you own the associated property. Here s a screenshot of this table: 60

61 Modeling of Reverse Mortgages PRC does not directly model reverse mortgages. You ll need to understand how such a mortgage works and then use the various other capabilities of PRC to model the key features of this type of mortgage, including income and expenses. Rental Property The Rental Property page is used to enter detailed information related to your rental property. PRC can accommodate up to 10 properties and you can include the properties you currently own as well as any you expect to purchase in the future. PRC can model mortgages, taxes and insurance, operating expenses and improvements for each property as well as closing costs, lump sum payments and excess annual payments, and it creates an expense profile for each property such that the expenses are included only during the period of time you expect to own each property. It also calculates your capital gains for subsequent incorporation into your detailed tax calculations. Further, PRC enables you to specify your property information independently for each of three scenarios. To minimize your typing, PRC provides buttons that copy the contents of Scenario 1 into Scenario 2 and/or into Scenario 3, after which you can then simply enter the specific changes you desire to make each scenario unique, if desired. Each column in the Property table is described in detail below. Acquisition, Loan and Sale Information Asset Description: Simply a brief description of each property Year of Acquisition: For assets you currently own, enter the year they were acquired. For assets you plan to buy in the future, enter the year you plan to make the purchase. Cost Basis for Assets You Currently Own: This applies only to properties you already own and is the price you paid or the property s value at the time you acquired it. This will be used by PRC in computing capital gains. Prior Year Unallowable Loss: Unallowable losses from prior years as related to IRS Form Note that this is a new capability for Current Market Value: Enter the current market value for assets you currently own as well as those you plan to buy in the future. For the latter, this will be the basis cost used in capital gains calculations. 61

62 Refinance Year: This feature only deals with refinancing done prior to the starting year. If you have refinanced a prior loan, please enter the year this was done; otherwise, leave this blank. PRC does not model refinancing to be done in the future. Asset Value at Time of Refinance: If you have refinanced the loan on an existing property, enter the value of the property at the time it was refinanced; otherwise, leave this blank. The Refinance Year and the Asset Value fields will turn yellow if one is filled in while the other is left blank. PRC cannot compute the loan numbers without valid inputs in both of these fields. % of the Value You Are Financing: Enter the amount of the purchase price you are financing. Leave blank if you are not financing. APR: Enter the Annual Percentage Rate (APR) of existing loans or estimated APR of loans you expect to get for future purchases. Leave blank if you are not financing. Length of Your Loan in Years: Enter the length of your loan if you are financing. If you have an existing loan, enter the total length of the loan at the time it was originated. Leave blank if you are not financing. Purchase Closing Costs: Enter a percentage of the market value that will be included in the expense of the acquisition. Real Appreciation Rate: This rate is relative to the inflation rate you specified on the Home page. Therefore, just leave this blank if you expect this asset to appreciate at the rate of inflation. Enter a negative number if you expect the asset to depreciate over time, such as most cars and boats. For Homes only, the Market Value will escalate at this rate from the Starting Year forward. All other property types will escalate in price at the inflation rate until they are purchased. Thereafter, they will appreciate or depreciate based on the rate specified here. Year You Expect to Sell: By specifying a sale date, PRC will terminate all expenses associated with this property on that date. You can leave this field blank if you don't plan to sell the property. Sales Closing Costs: Enter a percentage of the sales price that will come out of your equity at the time this asset is sold. This can include sales commissions and other closing costs. Lump Sum Early Pay-Off Year: If you specify an early pay-off, the loan balance at the end of the prior year will be an expense in the pay-off year. Excess Annual Payments: PRC will apply any amount you specify here to the outstanding debt on the property each year until it is fully paid for. Interest-Only Period: You can specify an interest-only period, in years, in this field and PRC will compute loan expenses such that only interest is paid for this number of years and then principle payments will be amortized over the remaining term of the loan. If the total term of the loan is the same as the interestonly period, a balloon payment will be modeled in the final year of the loan. 62

63 Depreciation Parameters and Annual Operating Costs Depreciation Period: Use the pull-down menu in this field to specify the number of years over which this property will be depreciated. Improvement Percentage: This identifies the percentage of the value of the property associated with improvements rather than land. The improvements will be depreciated over the period specified in the column to the left. Operating & Maintenance Costs: The seven columns under this header enable you to identify and define operating and maintenance costs for each property, such as taxes, insurance, etc. The total of the costs entered into these seven columns will be shown in the column entitled Summary of Annual Operating Costs. Income This section of the table contains two columns related to the income you earn from each property. Rental Income: Enter the annual rental income from the property. Rental Inflation Rate: Enter the percentage by which the rent on the property is increased annually. First and Second Improvements This section of the table enables you to model improvements to these properties (two improvements per property). Year: This is the year the improvement is to be made. Investment Amount: This is the cost of the improvement which will be treated as an expense in the year the improvement is made but will PRC will also assume that the value of the property is increased by this amount. Depreciation Period: Specify the number of years over which this improvement will be depreciated. Unlike most other pages, the data associated with each scenario on the Rental Property page is contained on tables arranged vertically rather horizontally simply because of the large amount of data contained in each of these tables. Medium-blue-colored scroll buttons are provided to help you scroll quickly between the tables associated with either scenario 1, 2 or 3. Here s an example: 63

64 All of the details related to acquisition, loans and sale of properties are collected in the first table and the corresponding details related to depreciation, operating costs, income and improvement are collected in the second table. The beauty of putting all of these expenses into this table is that these expenses are included into your plan only while you own the associated property. Note that the asset description from the first table is automatically carried forward to the second table and cannot be entered or altered there. Beneath all of the scenario-related input tables, you can find another large table containing PRC s calculated property expense profile and related data, including loan amortization. This table is always associated with the scenario selected by radio buttons located near the top of the table. Within the table you ll find the following columns of information for each of the 10 possible properties being modeled, with year by year data in the rows below: loan balance, monthly payment, value, equity, adjusted basis, operating costs, income and depreciation. On the left side of this table, you ll find a summary spanning all 10 of the properties with the following data: annual expenses, annual windfall (from the sale of any of the properties), long term capital gains, net expenses (annual expenses minus annual windfall minus income), depreciation recapture, total equity and Schedule E income/loss. This is a very wide table, made necessary to display all of the details for each of 10 separate properties; however, to facilitate viewing without the need for lots of left/right scrolling, the section of the table just to the right of the summary section (on the far left) shows the details of a selected property. Property selection is done via the up/down arrows: as you click on either the up or down arrow, the property number shown will change as will the description of the property at the top of this section of the table. Here s an example: 64

65 Even though this table doesn t explicitly show the amount of interest being paid, you can easily determine that on your own by multiplying your APR by the previous year ending loan balance. Children The Children page is used to enter detailed information related to raising and educating up to four children. This page includes child-rearing costs through high school, but its primary focus is on the costs associated with each child s college years. PRC allows you to specify overall costs for college and the percentage of that cost you plan to pay. It then allows you to specify whether those costs will be paid as they are incurred, through student loans or through a 529 plan. If a 529 plan is selected, PRC will calculate your annual payments into the plan. PRC does not support multiple scenarios for the information on this tab and applies exactly the same child-related cost profiles to all scenarios. The Children page contains two tables: College Expenses for Your Children at the top of the page and Pre- College Expenses for Your Children at the bottom of the page. College Expenses for Your Children: For each of your children, this table collects the following information: Your Children s Names: PRC doesn t use this, but it s there to help you keep the information straight Dependents? : Use this pull-down menu to indicate whether these children are your dependents. This is necessary because PRC will use this to determine how many dependents you have and for how long, which is crucial to making accurate federal tax calculations By selecting No in this column, you can contribute to the college educations of children without claiming them as dependents. College Start Year: Enter the year the child will begin college. Alternatively, enter the high school graduation year (or the last year you plan to provide support) for dependent children not planning to attend college. Annual College Costs in Today's $: Enter the entire annual cost, based on your research at collegeboard.com or elsewhere. Include all costs unique to this child and do not duplicate on the Other Expenses tab. For dependent children not attending college, enter your annual cost of supporting them. PRC assumes you ll include all costs associated with your support for this child in this field, which is separate and independent from the costs captured in the worksheet below this table which are unique to the period prior to the child starting college. 65

66 # of Years This Child is Expected to be in College: Enter the number of years you expect each child to be in college, in whole years. For dependent children not planning to attend college, enter the number of years you will be providing support after high school graduation. If none, just leave blank. % of the Cost You Plan to Fund: Enter the % of the cost YOU expect to cover (use this option if you're expecting the child to bear some of the cost or to get a scholarship). Your Share of the Cost in Future $: This column is calculated by PRC and write-protected. This is YOUR share of the cost. The portion to be paid by the child is excluded from the calculation. How Do You Intend to Fund Each Education? PRC allows you to model the funding of college educations in one of three ways: 1. Pay as you go, in which the annual costs will simply be treated as another expense in the years the associated child is in college Plan, in which case PRC will consider your initial 529 Plan balance as specified on the Initial Balances page and then calculate your annual contributions to the plan to exactly cover the specified costs. Unless the initial balance of the 529 Plan is sufficiently high, PRC will start your contributions in the Starting Year and continuing until all children whose college education are being funded with this method are due to graduate. PRC assumes that 100% of that child s college costs are qualified costs and withdrawals from the 529 Plan account are used to cover all of those costs. Your contributions to a 529 Plan are treated as expenses in the year they are paid. The interest earned on the account is not included in your taxable income. 3. Student loan, in which case PRC will model a loan beginning in the year the child begins college for the total amount of the college education that YOU are paying, for the duration and at the interest rate you specify on the right side of the table. Pre-College Expenses for Your Children: You can use this table to define child-specific costs for the time from the beginning of the modeling period to the year in which each child begins college. Note: Prior models of PRC supported two time periods for the pre-college years of each child, but this has been simplified for the 2018 model and the second time period has been eliminated. Here s an example: 66

67 This Children page allows you to model expenses associated with raising and educating up to four children, and the table at the top of screenshot shown above depicts the table related to the modeling of college expenses and the table at the bottom depicts the corresponding pre-college expenses. So, for each child, you can enter their name, the year they expect to enter college, the annual cost of college in today s dollars, how many years they ll be in college, what percentage of these costs you expect to fund and how these costs will be handled. For the latter, you have three choices: pay as you go, 529 Tuition Plan or a student loan. Each of the cells in that column of the table contains a pull-down menu where you select the preferred method, as you can see above. If you elect to use a student loan, the right portion of the table allows you to provide the necessary loan details, such as duration and interest rate. For the pre-college expenses, a worksheet is provided (somewhat simplified compared to prior year models) that allows you to break them down to detailed expenses. The beauty of entered child-related expenses in this manner is that those expenses will disappear when the kids leave the nest. Given all of this information in these tables, PRC will create an expense profile for your children and these costs will disappear when the children graduate. Healthcare Healthcare costs can vary dramatically as you transition from your working years to your retirement years and then again following the death of a spouse. The table on the Healthcare page is designed to capture those changing costs in today's dollars while allowing you to specify which of those costs are to be paid with pre-tax dollars. Instead of simply giving you fields in which you specify the amount along with start 67

68 and stop dates, PRC provides a specially-formatted table consisting of five different time periods, some of which don t apply if you re single. For single folks, basically here are the periods PRC tries to provide for: your working years, your early retirement years in which you may no longer have access to the same healthcare benefits as active employees and yet you re not yet eligible for Medicare, and your Medicare years. For married folks, here are the periods PRC tries to provide for: the years while both of you are working and have full access to active employee benefits, the years while only one of you is working and you may or may not still have full access to active employee benefits, the years when neither of you is working but neither of you is yet eligible for Medicare, the years when only one of you is eligible for Medicare and, finally, the years when both of you are eligible for Medicare. So, to accomplish this, PRC provides for five time periods defined as follows: Period 1: You re married and both you and your spouse are still working. Period 2: You re either single, or you or your spouse, but not both, are still working. This period has the potential for a significant increase in the cost of healthcare premiums if you re married. If healthcare coverage was being provided (in Period 1) by the employer of the partner who retires first, be advised that retiree healthcare premiums tend to be much higher than those for active employees and this gives you the mechanism to specify those increased costs. Period 3: You re married and both you and your spouse are retired but neither is eligible for Medicare, or you re single and not yet eligible for Medicare. If you re married, this period could be characterized by further changes in healthcare costs relative to periods 1 and 2 because employer healthcare will definitely be replaced by some form of retiree healthcare by this point. If you re single, you could be moving from employer benefits to retiree benefits and you can plan on higher costs. Period 4: You re married and both retired, but only one of you is eligible for Medicare. As you move from retiree healthcare to Medicare you ll likely see a decrease in costs and if you and your spouse become eligible for Medicare at different times, you ll see your costs step down when the first one reaches 65 and then again when the second one reaches 65. Period 5: You and your spouse are eligible for Medicare, or you are single and eligible for Medicare. When you fully transition from retiree healthcare to Medicare, you ll likely see your final reduction in costs. This approach is intended to help you think through the working to early retirement to later retirement process and the associated healthcare cost variations without having to enter specific start and stop dates. PRC is able to determine these dates based on other information you ve already entered, thereby saving you the trouble of having to enter unnecessary information (this is one of the uses of the Retirement Age field on the Home page). Another feature of the healthcare table is that each of the above time periods contains two rows for each of the three scenarios. The first row is for your insurance premiums and the second row is for other ( out of pocket ) costs. On the right-hand side of the table, you ll notice fields where you can specify the extent 68

69 to which the specified expenses are paid with pre-tax dollars and the extent to which you believe those expenses will increase annually over and above the healthcare inflation rate specified on the Home page. For period 5, there s an additional row where you can optionally tell PRC to compute Medicare premiums automatically. These calculations are based on an internal table that maps IRS-specified premiums to your Modified Adjusted Gross Income (MAGI), which is your AGI plus any income exempt from federal income taxes (including the un-taxed portion of Social Security benefits). Beneath the rows associated with the five key time periods, there are several other rows in which you can specify any expected long term care (LTC) expenses. There are separate rows for you and your spouse, and you can specify the amount in today s dollars, the start age and duration of the care period. PRC assumes that all LTC expenses are tax-deductible. All of the costs specified in the healthcare table will be escalated over time at a rate equal to the sum of the General Inflation Rate and Real Healthcare Inflation Rate specified on the Home page plus the periodspecific inflation rate specified on the Healthcare page. A final feature can be found in the bottom row of the table. These fields allow you to specify the percentage by which the healthcare costs described in the rest of the table are reduced after your death or your spouse s death, whichever occurs first. This feature enables PRC s life insurance recommendations and allows you to explore what-ifs related to life expectancies without having to come back to this table and make any adjustments. Here s an example: 69

70 PRC will hide the periods that don t apply to your situation and you can simply leave them blank; however, you should be sure to confirm on the Expenses Projection page that healthcare expenses did not inadvertently go to zero at some point which could be an indicator of a discrepancy between the data in this table and your ages as defined on the Home page. In this example, the husband is two years older than the wife. In scenario 1, they both plan to retire at age 64 but in scenarios 2 and 3 he ll retire at age 65 while she ll retire (in the same year) at age 63. Here s an analysis of which fields are visible or hidden, and why: Period 1 (you re married and both you and your spouse are still working) is visible for all scenarios because in every scenario there s a period where both husband and wife will be working. Period 2 (either you re single or you or your spouse, but not both, are still working) is hidden for scenarios 2 and 3 because husband and wife will retire at the same time; however, it s visible for scenario 1 because husband and wife will retire in different years. Period 3 (you re married and both you and your spouse are retired but neither is eligible for Medicare, or you re single and not yet eligible for Medicare) is hidden for scenarios 2 and 3 because husband and wife will retire at the same time and he will be eligible for Medicare in that year, but she will not. Consequently, this period doesn t apply. In scenario 1, when both husband and wife are retired, neither will be eligible for Medicare and therefore this period does apply. 70

71 Period 4 (you re married and both retired, but only one of you is eligible for Medicare) is visible for all scenarios. This is true for scenario 1 because both husband and wife will be retired when the wife reaches age 64 but only the husband will be eligible for Medicare at that time. This is true for scenarios 2 and 3 because husband and wife retire at the same time but only the husband will be eligible for Medicare at that time. Period 5 (you re married and both eligible for Medicare or you re single and eligible for Medicare) is visible for all scenarios because eventually the husband and wife reach age 65 in every case. Healthcare Scratchpad To assist you in tallying up separate expense items to plug into the healthcare table discussed above, PRC provides an optional scratchpad that allows you to make notes and do some simple math right on the healthcare page. To the right of the table, there s a checkbox labeled Scratchpad enabled? By checking it, the scratchpad will appear. By unchecking it, the scratchpad will disappear (but it will remember your data). Take a look: A Few Comments Regarding Health Savings Accounts Health Savings Accounts (HSA s) are not explicitly modeled by PRC. They re a nice mechanism in the real world but an unnecessary complexity in the modeling world. Fundamentally, they re similar to an IRA from which you can make withdrawals to pay healthcare expenses with pre-tax dollars and no penalties. Any funds not used to pay healthcare expenses continue to grow and can be withdrawn to pay other expenses, but with penalties similar to those on IRA withdrawals. PRC s healthcare expense table enables you to model healthcare expenses paid with pre-tax dollars, and there are separate PRC mechanisms for modeling tax-deferred savings. Together, they re essentially equivalent to HSA s. A Few Comments Regarding Health Reimbursement Arrangements Healthcare Reimbursement Arrangements (HRA s), or Section 105 plans, are not explicitly modeled by PRC. Like HSA s, they re a nice mechanism in the real world but an unnecessary complexity in the modeling world. Basically what they do is provide an IRS-approved way for an employer to reimburse an employee for eligible expenses. You can effectively model an HRA by simply reducing the insurance premiums and out-of-pocket expenses entered into PRC by the amount you expect to have reimbursed by your employer. Further, you can document this calculation via the healthcare scratchpad. 71

72 Discretionary Expenses The worksheet on the Discretionary page enables you to identify and quantify your current annual discretionary expenses and those you will incur during your retirement years on a per scenario basis, all in today's dollars. As on other pages, this worksheet is formatted such that you do not have to enter start and stop dates for each expense. Rather, it is organized into three major time periods for which you specify the starting years. These periods could correspond to your pre-retirement years, early retirement years and late retirement years, or to any other periods which you believe are likely to have substantially unique expense levels. Additionally, the worksheet also provides a field where you can specify the percentage by which these expenses, as a whole, will be reduced after your death or your spouse s death, whichever occurs first. This feature enables PRC s life insurance recommendations and allows you to explore what-ifs related to life expectancies without having to come back to this table and make any adjustments. Within the columns associated with the three major time periods, the worksheet allows you to simply list your expenses by description and amount. The only row in the table that is position sensitive is the first row, which is associated with charitable giving. It is fixed in position because any expense you put on that row is treated as an income tax deduction. Be sure not to duplicate any expenses you have already entered on the Property or Children pages, and be aware that the expenses entered into this table will be applied to all scenarios. All expenses entered on this page will be escalated over time at the General Inflation Rate entered on the Home page. Here s an example: 72

73 This is a screenshot of the Discretionary Expenses table. As you can see, it enables you to list your expense items and adjust the associated expense amounts over three major time periods for which you specify the starting year. Three typical time periods might be while you re still working, in your early retirement years and in your late retirement years, but you can make them correspond to the periods of your choice. In the field pointed to by the block arrow, you can enter the percentage by which these expenses should be reduced whenever you or your spouse dies. This feature enables PRC s life insurance calculations and allows you to do what-if s with life expectancies without having to return to this page to adjust the duration of expenses. Miscellaneous Expenses The table on the Miscellaneous Expenses page enables you to identify up to 12 one-time or specific duration expenses for each of the three scenarios. For each of these expenses, you can enter a brief description, the amount in today s dollars, whether the amount is to be adjusted for inflation, the first year and last year of the expense, and whether the expense is tax deductible or is to be considered an adjustment to income (such as alimony). If the last year is left blank, PRC will assume the expense continues indefinitely. For one-time expenses, the first and last years should be set to the same year. Here s an example: Consumption Smoothing Please see the major section on this topic located after the ANALYSIS section. Life Insurance Please see the major section on this topic located after the CONSUMPTION SMOOTHING section. ANALYSIS Analysis spans five pages, and these are associated with the five buttons that appear underneath the major navigation buttons when you click the ANALYSIS button. Whenever you leave the Analysis pages for some other section of PRC and then return, you will always be returned to the same subpage from which you departed. The paragraphs that follow describe each of the Analysis subpages in detail. 73

74 Run Analysis Due to the fact that some variables are unknowable, no calculator can produce a single right answer regardless of the amount of detail you put into it. Most notably, this includes life expectancy, inflation, and rates of return (ROR) on investments. Further, the long term growth of investments is a function of market volatility and the sequence of returns. In other words, year to year variations in ROR can make a big difference in the size of your savings accounts over time. Here s just one simple example to illustrate the point: A 10% loss one year followed by a 10% gain the following year is really a 1% loss over that twoyear period. A $100,000 portfolio would be reduced to $90,000 after the first year and would rise to $99,000 after the second year for a loss of $1000, or 1%. Even though the average return in this example is 0%, if this portfolio actually experienced a constant 0% return over that same period, it would still be worth $100,000 and, thus, ahead of the same portfolio that experienced the volatility. To address these uncertainties, PRC analyzes your data using three different analysis methods to provide you with a range of outcomes: 1. Fixed-rate analysis generates a single projection using an average inflation rate and average rates of return each year, as specified on the Home and Financial Assets pages. This is the most basic form of financial analysis and the source of all of the data presented in PRC s Projections tables and graphs (discussed in subsequent sections of this manual). It is particularly useful for getting a general understanding of where you stand relative to long term objectives, for making tradeoffs between major choices and for exploring the sensitivity of your plan to certain parameters, such as inflation, rates of return, life expectancy, and so on. Its primary weakness is that it does not model year-to-year fluctuations in rates of return and inflation, which are facts of life in the real world. Consequently, the probability that your actual long term results will be better than those predicted by fixed rate projections are (very roughly) 50%, but the probability that you ll do worse are also (very roughly) 50%. 2. Monte Carlo analysis generates 500 projections using an average inflation rate and randomly varying ROR to simulate market volatility. The random RORs are based on a mean ROR and standard deviation calculated from your inputs on the Asset Classes and Asset Allocation pages, assuming no correlation between the asset classes and a normal distribution. Every one of the 500 projections will result in a different result (i.e., a long term projection equivalent to the fixed rate projection described above) so, clearly, some form of additional analysis must be done to translate this into useful information and avoid overwhelming you with data. This is where we ll introduce the term range of outcomes. PRC analyzes all of the results and presents them in terms of user-selectable percentiles (note: percentiles are explained below). More specifically, PRC generates two percentile curves and the points on those curves are an aggregation of all 500 test cases. Therefore, for any given year in the analysis, you can get a sense of the distribution of results across a large number of cases. Each time you repeat the analysis, the Monte Carlo results will change by some amount because the ROR is random and changes from one analysis to the next. By attempting to simulate year-to-year fluctuations in rates of return (i.e., market volatility), Monte Carlo analyses are an attempt to address the weakness of the fixed rate analysis method 74

75 described above. On the other hand, this is a terrible tool for trying to make trade-offs between major choices or to study the sensitivity of your plan to certain parameters. 3. Historical analysis generates multiple projections using historical inflation and historical ROR to simulate market volatility. The first projection begins with the first year of historic data on the Historic Data page (the first year for which data exists for all of your asset classes; 1928, for example) and proceeds in the historic sequence for the number of years corresponding to your expected lifetime, the next projection begins with the second year of historic data (1929, for example), the next with the third year of historic data (1930, for example), and so on for as many projections as are possible with the data available. PRC does not do any form of looping or synthesizing of data sequences, and stops creating projections when the combination of the historic sequence starting year plus your remaining lifetime exceeds the amount of historic data available. The actual number of test cases generated equals the number of years of historical data available minus your remaining lifespan. As with the Monte Carlo analysis, to characterize the range of outcomes without overwhelming you with data, PRC analyzes the results and presents them in terms of user-selectable percentiles. By attempting to simulate year-to-year fluctuations in inflation and rates of return (i.e., market volatility), historical analyses are an attempt to address the weakness of the fixed rate analysis method described above. On the other hand, like Monte Carlo analysis, this is a terrible tool for trying to make trade-offs between major choices or to study the sensitivity of your plan to certain parameters. A Note on Income Streams Income streams are identical for fixed rate, Monte Carlo and historical analyses. To reduce complexity, the historical inflation rate is only used to adjust expenses. A Note on Rates of Return Both Monte Carlo and historical analyses adjust the rates of return (ROR) on an annual basis to simulate market volatility. You ll probably recall that the Home page asks you to specify the average general inflation rate and the Financial Assets/Asset Class page asks you to specify the average real ROR for each asset class. PRC does all of its calculations, though, using nominal ROR which is simply real ROR + inflation (see note below). During Monte Carlo simulations, the nominal ROR is achieved by adding the average general inflation rate specified on the Home page to random real ROR s generated on an asset class basis and then aggregated into an account nominal ROR based on your specified asset allocation. During historical simulations, PRC uses the historic nominal ROR for each relevant asset class and then aggregates these into an account nominal ROR based on your specified asset allocation. Note: Technically, ROR(Nominal) = ROR(Real) x (1 + Inflation) +Inflation. A Note on Percentiles In statistics, a percentile is the value of a variable below which a certain percent of observations fall. For example, if you re at the 80 th percentile of human heights, then 80% of all people are shorter than you, and 20% are taller. You can interpret PRC s percentile outputs as follows: Out of all the test cases executed, X% of the cases yielded results below the Xth percentile edge, and Y% of the cases yielded results below the Yth percentile edge. 75

76 Presentation of Analysis Results The Run Analysis page is designed to enable you to initiate the analysis of each of your scenarios from the same page and, further, to present scenario analysis results in a side-by-side manner to facilitate easy comparison. To avoid overwhelming you with data (a picture is worth a thousand words?), PRC presents its analysis results as a range of outcomes (of Net Savings and, optionally, Total Expenses) where this range is depicted as an envelope with its upper and lower edges being defined by user-selected percentiles. Monte Carlo and historical analysis results are combined into a one single envelope for projected Net Savings with fixed rate results superimposed as a solid line, and into another single envelope for projected Total Expenses with fixed rate results superimposed as a dotted line. Consequently, on one diagram you can (optionally) see Monte Carlo, historical and fixed rate analysis results including both projected savings levels and projected expense levels; however, this may be more than you wish to see and PRC gives you the ability to pare down the amount of information contained in these diagrams. To that end, there are several controls on the page that allow you to do the following: Specify whether or not to include Monte Carlo analysis results in the graph Specify whether or not to include historical analysis results in the graph Specify whether or not to include expense projections in the graph Specify the percentile values that define the upper and lower edges of the range of outcomes envelopes (the blue-colored band that represents total savings and the yellow-colored band that represents total expenses) The axes on these side-by-side graphs will always be the same to facilitate easy comparisons between scenarios. The time (horizontal) axis will always correspond to the longest lifespan in all of the scenarios and the dollar (vertical) axis will always be governed by the peak savings and expense values in all of the scenarios. In the case of a scenario that models a shorter lifespan than the other scenarios, you ll observe that the time axis extends beyond the death year and the savings and expense values drop to zero in those final years. Commanding an Analysis The analysis described above is commanded on a per scenario basis. Just click one of the dark blue buttons labeled Analyze Scenario x to initiate the analysis. Immediately after doing an import from an older version of PRC, the analysis results will be invalid and, consequently, the display will be blank and a corresponding message will appear on your screen. There may also be other conditions which prevent the analysis from being performed, such as blank or invalid data on various input pages. If you see a message pop up that indicates invalid input data, you ll need to investigate and resolve the issue before the analysis will run. When you first import your data from another copy of PRC or from the Simplified Inputs page, the Run Analysis page will display blank graphs similar to this screenshot: 76

77 After initiating an analysis, the computations will take several seconds for each scenario and when it s complete you should see results that looks something like this: There are several important features on the page shown above, so let s go over them before proceeding: 1. The analyses for all three scenario are presented in a side-by-side manner with common vertical and horizontal axes to facilitate easy comparison. 2. The horizontal axis contains dates as well as ages for both you and your spouse and it will reflect the longest lifespan across all scenarios to ensure consistency for comparisons. 3. The vertical axis is always calibrated in terms of today s dollars, and all graphs use the same scale to facilitate side-by-side comparison of results. 77

78 4. Above each graph is a large, light blue button. You click this to initiate the analysis on the corresponding scenario. 5. The blue envelopes on each graph represent the range of Total Savings outcomes computed by PRC s Monte Carlo and historical simulations. The upper and lower edges of these envelopes are governed by the setting of the upper and lower percentile controls located near the bottom of the page. In any scenario where the lifespan being modeled is shorter than that of other scenarios, the data will go to zero prior to the right side of the graph. 6. Immediately below each graph there s a pull-down menu through which you can control the spending strategy that PRC uses for the Monte Carlo and historical analyses. This is the subject of a later section in the manual and will not be discussed further in this section. 7. Above each graph there are some message fields that PRC uses to inform you of problems that may have been encountered during the analysis and changes to the spending strategy selection used in generating the graph currently being displayed. This is important because the graph does not automatically get updated anytime you make a change to this control; the graph only changes when you click the Analyze button. 8. Finally, at the very top of the page there are some check boxes that enable you to eliminate some of the data from the charts. For example, you can choose to examine only Monte Carlo results, and you can choose whether or not to include Expense projections on the graphs. Interpreting the Results Each Monte Carlo and historical simulation utilize way too many test cases to present individually and, consequently, PRC creates of range of likely outcomes based on percentiles. Referring to the example shown above, the light blue envelope represents that range of outcomes and it encompasses all of the results that fall between the 10 th and 90 th percentile of the total set of results. In other words, only 10% of the results fell above this envelope and another 10% fell below this envelope. Still, this range of likely outcomes is huge and the final savings balance varies from $2M to about $5M. This clearly illustrates the potential effects of market volatility on the long range performance of a portfolio. For reference purposes, the fixed rate projection is overlaid on the envelope with the dark blue line and is close to the 50 th percentile level. Adjusting the View There are several controls on the page that allow you to do the following: Specify whether or not to include Monte Carlo analysis results in the graph Specify whether or not to include historical analysis results in the graph Specify whether or not to include expense projections in the graph Specify the percentile values that define the upper and lower edges of the range of outcomes envelopes (the light blue band that represents total savings and the yellow band that represents total expenses) Anytime you check or uncheck the Show Monte Carlo box, the shape of the blue envelope will change to add or remove the results of the Monte Carlo analysis. Similarly, anytime you check or uncheck the Show Historical box, the shape of the blue envelope will change to add or remove the results of the 78

79 historical analysis. Anytime you check or uncheck the Show Expenses box, the yellow expenses envelope will appear or disappear along with its vertical axis on the right side of each graph. The yellow envelope is partially transparent so that no information is hidden when the graphs overlap. Total Expenses Here s a screenshot of the Run Analysis page with the Show Expenses box checked: The graphs are identical to those shown above except that Total Expenses are now included. The dotted line represents Total Expenses using the fixed rate method and it includes taxes. The yellow envelope represents the range of Total Expenses produced by the Monte Carlo and historical simulations. You might be wondering why Total Expenses take the form of an envelope rather than a single line when we re using specified expenses rather than one of the variable spending options. The reason is taxes. This is because income taxes and the Unearned Medicare surcharge are typically a function of the performance of your portfolio, and your RMD s are always a function of the performance of your portfolio. As your RMD s vary, so do your taxes. Changing the Percentile Levels That Govern the Upper and Lower Edges of the Envelopes If you d like to change the percentile levels with which PRC presents your likely outcomes, you ll use the up/down buttons near the bottom of the page. The control on the left side of the page is used to specify the upper end of the range of outcomes and the control on the right is used to specify the lower end. The graph will be updated dynamically anytime you change these settings to make it easy for you to explore the distribution of analysis results. To illustrate the effectiveness of these controls, the screenshot below was taken after setting the percentile range from 50 th through 60 th. Clearly, this results in a very narrow range of results with the fixed rate results generally tracking within this range (we stated above that fixed rate results tended to be roughly at the 50 th percentile). 79

80 How Long Does It Take to Run an Analysis? Performing the Monte Carlo and historical analyses and formatting the displays with the results is computationally intensive. The process takes between four and five seconds per scenario on Pralana s desktop system running Office 2013 with Windows 10, about nine seconds on our laptop running Office 2010 with Windows 7, about 25 seconds on our laptop running Office 2007 with Windows 7, and about 11 seconds on our MacBook Pro running Excel 2011 with Mac OS X. Why Do I See Uneven Spacing in the Years and/or Ages on the Horizontal Axis? You may see uneven spacing in the years and/or ages, or you may possibly see the same years and ages repeated twice on the horizontal axis. This is the mathematical result of dynamically adjusting the axis for your lifespan and then rounding off the years and ages to integer (whole) numbers. Regardless of the user s lifespan, PRC generates the same number of data points for these graphs by a mathematical process called interpolation. As a result, the data points on the graph are exactly evenly-spaced but are related to fractional years and ages. Thus, when rounded to get whole numbers, you may see the effects described. Why Do Expenses Drop Dramatically in the Final Year? Regardless of whether you re looking at fixed rate, Monte Carlo or historical analysis results, you ll usually see a substantial reduction in expenses in your final year. This is simply the result of PRC modeling your final year as a partial year of income and expenses, based on the birthday of the lastsurviving spouse. The savings balance doesn t exhibit a similar reduction because the balance on the date of the latest death is carried to the end of the year with no further increases or decreases. I Sure Wish I Could See the Difference in Monte Carlo and Historical Results PRC2015 displayed Monte Carlo and historical analysis results with separate lines rather than the envelope. It was informative but it was a busy graph and was replaced by the envelopes contained an integrated view of Monte Carlo and historical results in PRC2016, and that remains in If you d like 80

81 to see the results separately, you can use the Show check boxes to show one or the other and you can click them off or on quickly to get a good sense of how they compare. Another alternative is discussed in the next paragraph. Conglomeration of Individual Test Cases The results of Monte Carlo and historical analyses are most effectively presented via the envelopes representing the range of outcomes that fall between user-specified percentile levels; however, PRC2018 contains a secondary page that allows you a look at a graph of the individual Monte Carlo and historical test cases. Due to Excel limitations, the graph contains only 250 of the 500 Monte Carlo test cases; however, it still gives you a very good idea of what these test cases look like with volatile market returns. You access this page by clicking the large button labeled Look at Detailed Analysis Results and located beneath the heavy blue line near the bottom of the Run Analysis page, and here s an example of its appearance: This data might help you appreciate the year-to-year fluctuations that could result from market volatility and give you some sense of the distribution of test case results. It also presents an overall success rate, which is the percentage of the test cases where the total savings balance was greater than zero throughout the entire modeling timeframe. There is a huge amount of data contained in these diagrams and PRC only saves the complete set of data from the most recent analysis (one scenario rather than all three); the data shown on the Analysis page is greatly distilled and, therefore, the data from all three scenarios is saved so it can be used for scenario comparisons. There s a table beneath each of the graphs that presents the success rate on a year-by-year basis. In other words, it tells you the percentage of the test cases where the total savings was still in positive 81

82 territory in the corresponding year and can be useful for knowing the likelihood of your money lasting to a particular age. An Odd Case Explained This next example illustrates a case where the tool exhibits behavior that is definitely not consistent with the real world, but there s no particularly good solution for it so we re just going to point it out and leave it to the user to interpret it manually. Take a look at this screenshot: The tool accurately states that only 87% of the historical test cases never had a zero balance and that 70% of the Monte Carlo test cases never hit zero; however, if you look at the actual lines on the graphs, you can see that several of them actually went below zero and then CAME BACK above zero at some point in the future. Then, if you look at the table beneath the historical graph, you ll observe that the success rate dropped below 100% and then rose again to 100% for a couple of years (which corresponds with the data in the graph). In this example, there s an income windfall in the year 2040 that causes the savings balance to rise above zero. Consequently, in these unrealistic cases, the savings sat at zero for some period of time (because PRC doesn t allow it to go negative) and then goes positive. We can all understand that this cannot happen in the real world, but that s the way the math works in the model. Our interpretation of this should be that these test cases fail if and when the savings balance ever reaches zero, regardless of the way that curve behaves in later years. 82

83 Spending Strategy Analysis Up until now we ve discussed PRC s capability to analyze your scenarios using the expense profiles exactly as entered on the various expense pages. PRC2018 has a further capability to analyze your scenarios in conjunction with variable spending strategies, including the following: Fixed percentage withdrawals Fixed percentage withdrawals with floor and ceiling limits Constant spending Guyton-Klinger Target Percentage Adjustment (or Critical Path) The objective of these strategies is to govern your discretionary spending in retirement as a function of the performance of your portfolio, so this analysis is really only relevant in the context of variable inflation and sequence of return simulations. Consequently, PRC s spending strategy analysis relates only to Monte Carlo and historical analysis methods. Whenever one of these strategies is employed, in the timeframe after your retirement commences PRC will replace the discretionary expenses you specified on the Discretionary, Smoothing and Miscellaneous pages with expenses generated by the PRC algorithm using variable spending parameters that you provide. PRC considers all expenses identified on the Personal Property, Rental Property, Children, Healthcare and Life Insurance pages to be nondiscretionary expenses and uses them exactly as entered on the expense input pages regardless of the selected spending strategy. Basic analysis and analysis with variable spending strategies are integrated on a single page. Controls are provided on the Run Analysis page for you to tell PRC whether to do its analysis using specified expenses or one of the variable spending strategies. These controls are located just beneath the sideby-side graphs. The first control is a pull-down menu through which you select the method of choice. Depending on your choice, relevant parameters are then displayed. If you select Use Specified Expenses Only, PRC will not use any of the variable spending strategies and all other parameters will be hidden; otherwise, at a minimum, you ll be asked to specify the desired spending rate, and floor and ceiling parameters will also be requested if you select the Fixed percentage withdrawals with floor and ceiling limits strategy. Whenever you click the Analyze Sn button above a particular graph, PRC will run the analysis on the associated scenario using the selected spending strategy and update the graph. A message will be displayed above each graph to indicate which spending strategy was used in performing the analysis represented in the current graph. The analysis will not be re-run automatically and the graph will not be updated automatically whenever you subsequently change the spending strategy method via the pulldown menu. For PRC to perform a new analysis based on any changes you ve made to its input data or to the spending strategy, you must manually re-initiate the analysis by again clicking the Analyze Sn button. To highlight the fact that the spending strategy has been changed since the last scenario analysis was performed, PRC will highlight the spending strategy message above each graph anytime it detects that that message isn t consistent with the selection made via the pull-down menu. 83

84 Explanation of Variable Spending As a user of the PRC tool who is trying to use it to establish the right retirement spending strategy, you need to understand that the results of this analysis are statistical in nature and that there is, therefore, no single answer. These strategies tend to cause spending adjustments as a function of how your portfolio is performing in retirement, so the range of outcomes represented in the Net Savings envelopes has a direct bearing on the variations in spending as depicted in the Total Expenses envelopes. Hence, the often wide bands of spending possibilities. You should probably experiment with various strategies and parameter settings, examine the range of outcomes from each analysis and then select a strategy and initial spending level that yields a range of results you re comfortable with. You should also revisit this analysis at least annually after updating PRC with your latest information to evaluate potential changes to your spending as a function of market performance, changes in inflation, and other factors. Fixed Percentage Spending Method With this method, spending is always a constant percentage of your remaining savings in each year of retirement. Year-to-year spending can be volatile because it s tied directly to market returns; however, savings will never be depleted because spending will be decreased in proportion to the remaining balance. When you select this method, PRC provides a data input field where you can specify that percentage. Here s a partial screenshot of Run Analysis page after a simulation using this method: The graph on the left is the scenario run using specified expenses only, where the expense envelope straddles the fixed expense line due to variations in income taxes as described above. The graph on the right in the same scenario run using the Fixed Percentage Spending method. In this example, retirement begins in year 2022 and the initial spending rate is set at the rather high level of 6% to better illustrate what the spending algorithm is doing. Prior to retirement, spending is the same regardless of the spending strategy and, thereafter, discretionary spending is based on the fixed percentage spending method while non-discretionary spending is as specified on the various PRC expense pages. You can see that spending starts much higher than the as-specified level immediately after retirement but then drops down substantially as savings starts trending lower. One particularly notable feature of this 84

85 method is that spending will continue to be reduced as necessary to prevent savings from being depleted. Fixed Percentage Spending with Floor and Ceiling Method With this method, retirement begins by using the fixed percentage method which allows greater spending when markets do well and which forces spending reductions when markets do poorly; however, it imposes hard ceiling and floors on spending. Spending is not allowed to rise above a ceiling set at some percentage higher than the real value of spending in the first year of retirement and it is not allowed to fall by more than some percentage below the real value of first-year spending. The idea is to smooth out annual spending fluctuations by preventing spending from drifting too far from its initial level. When you select this method, PRC provides a data input field where you can specify the initial spending percentage as well as the ceiling and floor levels. Below the next paragraph there s a screenshot of a PRC simulation using this method, organized as described as above in Fixed Percentage Spending Method. Prior to retirement, spending is the same regardless of the spending strategy and, thereafter, discretionary spending is based on the fixed percentage with floor and ceiling spending method while non-discretionary spending is as specified on the various PRC expense pages. You can see that spending starts much higher than the as-specified level immediately after retirement but then drops somewhat as savings starts trending lower; however, it doesn t drop below the specified floor level which, in this case, results in excessive long-term spending and eventual depletion of savings. Guyton-Klinger Spending Method With this method, initial spending at the start of retirement is established by the fixed percentage method and, thereafter, annual adjustments are made based on inflation, portfolio performance and long term deviations from the initial spending level. More specifically, spending is adjusted annually for inflation unless your portfolio had a negative return in the previous year and the current spending rate is higher than the initial spending rate. Additionally, annual spending is increased by 10% in any year where the current spending rate is 20% less than its initial level (this is known as the prosperity rule), and annual spending is decreased by 10% in the first 15 years of retirement whenever the current 85

86 spending rate is 20% higher than its initial rate (this is known as the capital preservation rule). When you select this method, PRC provides a data input field where you can specify the initial spending percentage rate. Here s a screenshot of a PRC simulation using this method. Prior to retirement, spending is the same regardless of the spending strategy and, thereafter, discretionary spending is based on the Guyton-Klinger spending method while non-discretionary spending is as specified on the various PRC expense pages. You can see that spending starts much higher than the as-specified level immediately after retirement but then drops somewhat as savings starts trending lower. The reduction in spending is initially due to a combination of the capital preservation rule and the absence of adjustments for inflation. After the first 15 years of retirement (around 2039) the capital preservation rule is no longer in play and further reductions are due strictly to the absence of inflationary adjustments. The inability of the algorithm to reduce spending sufficiently results in the eventual depletion of savings in a number of cases. Constant Spending Method With this method, initial spending at the start of retirement is established by the fixed percentage method and, thereafter, annual adjustments are made based strictly on inflation to maintain a constant, inflation-adjusted level of spending. Depending on long term portfolio performance, this method definitely has the potential to deplete your savings completely. When you select this method, PRC provides a data input field where you can specify the initial percentage. Here s a screenshot of a PRC simulation using this method: 86

87 Prior to retirement, spending is the same regardless of the spending strategy and, thereafter, discretionary spending is based on the constant spending method while non-discretionary spending is as specified on the various PRC expense pages. You can see that the spending level is generally at a constant level (the variations are due to taxes), but is higher or lower than the specified level depending upon portfolio performance leading up to the start of retirement. Target Percentage Adjustment Spending Method With this method, initial spending at the start of retirement is established by the fixed percentage method and, thereafter, annual adjustments are made for inflation as long as the projected savings balance is higher than the (target) savings balance projected using the fixed rate method and spending as specified on the various PRC expense input pages plus taxes. If the projected savings falls below the target level, spending is not adjusted for inflation that year. When you select this method, PRC provides a data input field where you can specify the initial spending percentage. Here s a screenshot of a PRC simulation using this method: Prior to retirement, spending is the same regardless of the spending strategy and, thereafter, discretionary spending is based on the Target Percentage Adjustment spending method while nondiscretionary spending is as specified on the various PRC expense pages. The key observable here is that 87

88 spending trends slightly downward over the long term because it can never climb faster than inflation but can remain constant in future year dollars whenever savings fall below the target value (the solid line). Therefore, on a diagram calibrated in today s dollars, spending adjusted for inflation would be flat and spending not adjusted for inflation would decrease over time. This is generally the case in this example because the savings are in many cases below the target line. Commentary on Variable Spending Strategies One key point to keep in mind when studying the examples shown above is that the spending data always includes income taxes in addition to the non-discretionary expenses as entered on PRC s expense input pages and the variable discretionary expenses generated by PRC s variable spending algorithms. In your retirement years, the tax component may become particularly significant after you begin taking RMD s and this will contribute to making the width of the spending envelope larger and more variable than you might otherwise expect. Fixed Rate Comparison The Fixed Rate Comparison page contains a graphical display of the fixed rate projections of the three scenarios (savings and net worth totals) overlaid for easy comparison. The horizontal axis of the graph will be scaled to match the maximum lifespan of you or your spouse across all three scenarios. We envision this tab as being particularly useful for lifestyle decision making, such as assessing the long term ramifications of taking a lower-paying but more satisfying job, working after retirement or buying a more (or less) expensive home, and so on. You have the option to de-clutter the graph by hiding scenario 2 and/or scenario 3 savings and net worth lines, or by hiding the net worth lines associated with all scenarios. You can also display the results in terms of either today s dollars or future dollars. In the case of a scenario that models a shorter lifespan than the other scenarios, you ll observe that the time axis extends beyond the death year and the savings and expense values drop to zero in those final years. Here s an example: Let s suppose you want to do long-term comparisons related to three different housing options in your retirement years. What probably matters most in this case is looking at comparisons of fixed rate projections. So, click the Fixed Rate Comparison button under the ANALYSIS group and you will be taken to a page that overlays the fixed rate results of your three scenarios. It will look something like this: 88

89 There are check boxes near the top of the page where you can eliminate some of the curves, including scenario 2 and 3 data and/or the net worth data. This particular example shows only savings balances, but the one just below shows net worth in addition to the savings balances: Rollovers This page enables you to model the rollover of some or all of your tax-deferred savings and/or your spouse s tax-deferred savings to Roth savings, including both pre-tax and after-tax contributions. All pre-tax contributions and all growth of tax-deferred accounts are taxable upon withdrawal and rollover; after-tax contributions can be rolled over without further taxation. Consequently, PRC models both cases and provides separate controls for each. You can do this independently for each scenario and immediately observe the effects on the projection of your Total Savings by monitoring the on-page graph. 89

90 Rollovers of the Untaxed Portion PRC2018 contains an advanced algorithm for modeling rollover of funds from your tax-deferred accounts to your Roth accounts. You have the ability to control the rollovers for your tax-deferred accounts separately from those of your spouse and all three scenarios are independent. There are two fundamental methods for doing these rollovers within PRC: the Fixed-Duration method and the Tax-Bracket-Optimized method. Each is discussed separately below. Fixed-Duration Method With this method, you can specify the rollover starting year, the number of years over which the rollovers are to occur and the percentage of the tax-deferred savings to be rolled over. If you specify 100%, PRC will include the starting balance as well as any subsequent contributions and/or growth of the taxdeferred account. Otherwise, PRC will rollover the specified percentage of the starting balance and will not touch any subsequent contributions or growth of the account. Rollovers will be done in equal-sized chunks over the specified years. The up/down arrows to the right of the rollover duration field control the duration setting, and the up/down arrows beneath the percentage field control the percentage setting. The graph is interactive in nature, displaying the long term savings projection as a function of the current rollover settings, thereby allowing you to tweak the settings and immediately observe the long term effects. For comparison purposes, this graph also shows savings projection created by the most recent analysis of the selected scenario (i.e., created when you clicked the Analyze Scenario x button on the Analysis Execution page). The values in the table called Saved Baseline Parameters are provided for reference purposes and simply allow you to see how the rollover parameters being used in your exploration process compare to those used in creating the Total Savings (Saved Baseline) during the most recent analysis of the selected scenario. The Off/On buttons enable you to disable the rollover modeling feature without having to clear the rollover parameter fields for each scenario. If you leave this page with any of the Off/On controls set to ON, rollovers for the corresponding scenario/account will be activated in all subsequent analyses and projections. Let s take a look at an example: 90

91 In this example, we re exploring rollovers in Scenario 1 as indicated by the radio buttons to the right of the graph. 75% of the balance of Joe s tax-deferred savings is to be rolled over to Roth savings, beginning in the year 2035 and spread over 5 years, and 100% of Barb s tax-deferred savings is to be rolled over to Roth savings, beginning in 2040 and spread over 5 years. As you can see in the graph, Total Savings is worsened over both the short term and the long term as a result of the tax impact of the rollovers. PRC has calculated that in the long run these tentative rollovers will result in $140,256 less total savings than the baseline plan. In the screenshot below, you can see exactly how this rollover is modeled by PRC: 91

92 Tax-Bracket-Optimized Method With this method, you can specify the rollover starting year, the percentage of the tax-deferred savings to be rolled over and a target tax bracket and PRC will optimize the amount rolled over each year to completely fill the specified tax bracket (i.e., make your taxable income equal to the upper limit of the that tax bracket). If you specify 100%, PRC will include the starting balance as well as any subsequent contributions and/or growth of the tax-deferred account. Otherwise, PRC will rollover the specified percentage of the starting balance and will not touch any subsequent contributions or growth of the account. Rollovers will continue for as many years as are required to complete the rollover without moving you to a higher tax bracket. The up/down arrows to the right of the rollover duration field are disabled when the optimization method is enabled, and the up/down arrows beneath the percentage field control the percentage setting. The graph operates exactly the same way as with the duration method. The Off/On buttons enable you to disable the rollover modeling feature without having to clear the rollover parameter fields for each scenario. If you leave this page with any of the Off/On controls set to ON rollovers for the corresponding scenario/account will be activated in all subsequent analyses and projections. 92

93 Let s take a look at another example: Please note that there s an additional on/off button for enabling and disabling the tax bracket optimization mode, and the buttons are organized the same as the primary rollover on/off buttons: two sets of button with one for you and another for your spouse, and within each set there are three buttons, with one for each scenario. The text on the button indicates the selected state. Beneath the optimization mode on/off buttons are two data entry fields: Target Tax Bracket and Prioritization. The Target Tax Bracket field contains a pull-down menu through which you specify the tax bracket you wish to fill in doing to rollovers. The Prioritization field contains another pull-down menu through which you tell PRC whose rollovers take priority when you and your spouse are both doing optimized rollovers concurrently. PRC will first use the top-priority tax-deferred account to fill the tax bracket, and it s likely that several years will be required to accomplish the rollover of the specified amount of money. Regardless, when capacity becomes available within that tax bracket, the rollover of the funds from the lower-priority account will commence. In the example shown above, note that rollovers are enabled for both Joe and Barb but that the tax bracket optimization mode is enabled only for Joe. He wants to start the rollover of 100% of his tax-deferred account in 2035 and to maximize the 28% bracket in so doing. On the other hand, Barb wants to rollover 100% of her tax-deferred account starting in 2040 and to do it in 5 years. In this case, the tax bracket optimization prioritization field is irrelevant. Joe s rollovers will fill the 28% bracket from 2035 until the process is complete; however, Barb s rollovers will commence in 2040 and will consume some portion of 93

94 the headroom within the 28% bracket and could possibly push them into the 33% bracket. This would effectively bring Joe s rollovers to a halt until Barb s rollovers were complete. Here s how this plays out on the rollover projection page: Now, let s take a look at the Tax projection page and see how well this filled the tax bracket. 94

95 In the screenshot above, note that the marginal tax rate is 28% when the rollovers commence in 2035 and the amount below the next higher bracket (the 33% bracket is zero) with only a handful of exceptions. These exceptions occur in the years where there are long term capital gains. The handling of taxes on long term capital gains adds complexity such that the there s more to the calculation than simply making the taxable income equal to the top of the bracket. Simply stated, PRC adds the reportable LTCG to the taxable income (excluding the rollover amount) and then assumes that s the available headroom for the rollover Rollovers of After-Tax Contributions For each scenario and for your account as well as your spouse s account, you can specify the year rollover of after-tax contributions made to tax-deferred accounts are to be rolled over to the Roth account. 100% of the contributions will be rolled over in the same year and with no tax consequences. The Off/On button has no effect on these rollovers; if the After-Tax Rollover Year field contains a value, the rollover will be modeled. This differs from the design for pre-tax rollovers because the latter involves more parameters and would be cumbersome without the switch. The screenshot shown below illustrates PRC s modeling of the after-tax rollover for scenario 1, based on the parameters in the previous example (refer to the above screenshot of the Rollovers page). Note that the Off/On switch is set to OFF, which disables the rollover of pre-tax contributions and growth but has no effect on after-tax rollovers. 95

96 Sensitivities This page enables you to interactively adjust several key modeling parameters and observe the corresponding long term effect on your Total Savings using the fixed rate analysis method. Take a look at the screenshot below which depicts the Sensitivities page in its entirety: You have a graph which displays two lines for the selected scenario: the dark blue line is Total Savings using all of your baseline data as entered on the other data input pages during the most recent Analysis 96

97 of the selected scenario and the light blue line is a re-creation of your Total Savings with some of your baseline parameters replaced with what-if parameters. Underneath the graph is a table and 14 scroll bars. The table contains the saved baseline values and the what-if values for all of the parameters that can be modified on this page. The first row of data reflects the baseline parameters for the selected scenario and the second row contains the what-if parameters. Those what-if parameters are all adjustable via the up/down arrows located beneath the parameter table. As you make changes to the what-if parameters, the light blue line on the graph will be updated instantly. Anytime you wish to start over and set the what-if parameters to their baseline values, all you have to do is click the Revert to Baseline Parameters button. The scroll bar settings do not automatically change when you change the scenario selection so you may immediately see a large variation between the baseline and what-if plan. To resolve this, just click the Revert to Baseline Parameters button. Note 1: The baseline parameters are, by definition, those that were in use the last time the analysis of the selected scenario was performed on the Run Analysis page. Note 2: The what-if values to Rates of Return are delta values and they apply to all time periods. In other words, these are small positive or negative changes to the baseline values and they apply to all periods that you may have specified on the Asset Allocations page. This is done as a simplification to avoid having five sets of up/down buttons for regular savings, tax-deferred savings and Roth savings. Note 3: This page is for exploration purposes only and none of the what-if parameters will be used once you leave this page. You will have to make manual changes to baseline parameters if you like the results associated with the what-if parameters and wish to make them part of your baseline. Note 4: The tool does not currently model what-if savings associated with extended life spans. When reduced life spans are investigated, the graph s time axis remains fixed to that of the baseline plan and the what-if savings line drops to zero in conjunction with the end of the what-if life span. The final what-if savings balance is shown by the value of that line just before it drops to zero, and the field to the right of the graph that indicates the difference in the final value of the what-if plan and the baseline plan shows the difference in the respective final balances. Optimize Social Security (SS) By clicking the Initiate Social Security Optimization Analysis button on this page, PRC will calculate the optimum ages for you and your spouse (if applicable) to begin taking Social Security benefits. The result will be reflected as a dark green square in the diagram. PRC will also calculate slightly sub-optimum ages, based on the Sub-Optimum Selection Threshold percentage that you specify, and these ages will be reflected as lighter green squares in the diagram. Here s a screenshot: 97

98 Please be aware that the only variables this analysis considers are your Social Security benefit start ages; it assumes you retire from your job(s) as described on the Home page. The analysis PRC performs during this process is considerably more involved than just determining the start ages that result in the largest long term income; it also examines the long term effects of this income on the interest on your savings, taxes, and survivor scenarios to provide you with the best overall solution which, in turn, will enable you to maximize your standard of living. Further, since the mathematically best solution may be only marginally better than some number of other solutions, PRC examines the set of possible solutions associated with earlier start dates and identifies the subset of these that are almost as good as the best one. Through the "Sub-Optimum Selection Threshold" field, you can control the range of alternate solutions that PRC will identify as viable alternate solutions. The value you enter in this field is used by PRC as a threshold and if the long term results of other solutions are above the specified percentage of the best solution, they will be indicated in the light green color in the diagram. If you and/or your spouse die prior to your life expectancy, one of these other solutions would end up providing better long term benefits than the best calculated solution. The opposite will probably be true if you outlive your life expectancy. To incorporate the insights you gained here into your plan, go to the Income page and revise the Social Security start ages specified previously. FIXED RATE PROJECTIONS The previous section went into considerable detail on the analyses PRC does on your input data and the side-by-side diagrams that present an integrated view of Monte Carlo and historical analyses of your three scenarios. As explained above, this is the only effective manner in which to present the results of those types of analysis due to the large amount of data involved. 98

99 Fixed rate projections, on the other hand, are suitable for presentation in a tabular format which enables you to see exactly what PRC is doing with your data. The section that follows will explain those tabular projections in detail. Tabular Projections PRC generates nine different forms of detailed tabular projections of fixed rate analysis results: 1. Income profile 2. Expense profile 3. Tax profile 4. Summary 5. Growth 6. Withdrawals 7. Rollovers 8. Customized view #1 of Detailed Income Expenses, Taxes and Savings 9. Customized view #2 of Detailed Income Expenses, Taxes and Savings These projections are associated with the nine buttons that appear underneath the major navigation buttons when you click the PROJECTIONS button. Whenever you leave the Projections pages for some other section of PRC and then return, you will always be returned to the same subpage from which you departed. The paragraphs that follow describe each of the Projections subpages in detail. Common Features of All Tabular Projection Pages Detailed comments are included in each column header to provide an explanation of the data in that column. User controls are provided that enable you to specify whether you want to look at scenario 1, scenario 2 or scenario 3 and whether you want to view the data in terms of today s dollars or future dollars. Color coding of the rows associated with key years is provided to assist you in maintaining situational awareness when examining this rather large collection of data: A medium blue row corresponds to your retirement year A light blue row corresponds to your spouse s retirement year An orange row corresponds to the year of your death An yellow row corresponds to the year of your spouse s death The two rows of white check boxes just beneath the column labels are the mechanism by which you tell PRC which columns from this page you wish to have included in the custom projections. The first row is used to identify the columns for Custom Projection #1 and the second row is used for Custom Projection #2. The selected columns will be included in the same order in which they appear on the selection page, but with the unselected columns eliminated to create a customized page. 99

100 Income Projection The Income Projection page presents a tabular, year-by-year projection of the income profile created by combining all of your inputs on the Income page. Note that this page does not contain items such as Required Minimum Distributions or growth of an account. Two columns are devoted to employment income: one for you and another for your spouse. One column is devoted to income from a taxable annuity. Four columns are devoted to taxable pension income: one for pension income to be treated as regular income, another for pension income to be rolled over to your traditional IRA, another for pension income to be rolled over to your spouse s traditional IRA and another for pension income to be rolled over to a Roth IRA. One column is devoted to non-taxable income, including non-taxable pensions, non-taxable windfalls, other income that is non-taxable, and life insurance proceeds. One column is devoted to inherited traditional and Roth IRA s. Two columns are devoted to Other Income streams, one to be taxed as regular income and another to be taxed as capital gains. Two columns are devoted to contributions to your and your spouse s tax-deferred retirement plans. Each column includes personal and company contributions. One column is devoted to contributions to Roth IRA accounts by you and your spouse and any company contributions. One column is devoted to contributions to Defined Benefit Plans by you and your spouse, with pre-tax or post-tax dollars. PRC maintains separation of these categories for tax computations, but it is not shown. One column is devoted to Social Security Income and includes spousal and survivor benefits, as appropriate. One column is devoted to the Taxable Portion of Social Security Income and shows how much of your SS income is taxable. Up to 85% of this income could be included in your taxable income, depending upon your filing status and total income level. Finally, the Spendable Income column includes only the income shown on this page minus any contributions or rollovers to Defined Benefit pensions, tax-deferred accounts or Roth accounts (it does not include interest earned on your savings accounts or any investment returns). The columns included in your Adjusted Gross Income are as follows: All employment income minus personal contributions to tax-deferred retirement plans and minus personal contributions to Defined Benefit Plans with pre-tax dollars 100

101 Taxable annuity income Taxable pension to be treated as regular income or rolled over to a Roth IRA Other income to be treated as regular income or capital gains Taxable portion of Social Security income Here s an example: The darker blue band through the middle of the picture represents your retirement year and the white band represents your spouse s retirement year. Although not shown here, there are other color-coded rows to indicate your death year and your spouse s death year. In the example shown, you can see the point at which employment income ends and pension and Social Security income begin. Expense Projection The Expense Projection page presents a tabular, year-by-year projection of expenses created by combining all of your inputs on the various Expenses sub-pages. Here s an example: 101

102 Tax Projections The Tax Projection page presents a tabular, year-by-year projection of PRC s tax calculations. Here s an example: One item on this page that s particularly noteworthy is the column entitled Reportable Long Term Capital Gains (Losses). This is simply the difference between the column to the left (Reportable Long Term Capital Gains) and the column to the right (Residual Capital Loss Carryover Balance), but with an annual loss limit of $3000. Effective Tax Rate Effective Tax Rate is defined as follows: Total Federal and State Income Tax, AMT and FICA Tax divided by Gross Income (all sources of income including growth of cash and regular investment accounts and all withdrawals from tax-deferred accounts). 102

103 Adjusted Gross Income The calculation of Adjusted Gross Income includes the key line items you would find on examination of IRS Form To assist you in determining how PRC arrived at the exact value presented in this table a checkbox that allows you to tell PRC to display all of the components of the AGI calculation. When this box is checked, 29 additional columns will appear on the right side of the Tax Projection table. You ll definitely have to scroll back and forth to see all of the columns, but the page has been designed to always keep the AGI column visible regardless of how you scroll. Here s a screenshot of the optional view: State Income Taxes Detailed calculation of state income tax is performed based on your state of residence and internal state tax tables. The following information is used in making these calculations: Marital status and number of dependents Standard deductions Whether or not the following items are deductible in your state of residence: o Social Security income o Distributions from retirement accounts o Pensions o Interest and dividends o Earned income o Federal income taxes 2017 tax tables indexed for inflation in future years These are difficult calculations with 51 sets of rules (50 states plus the District of Columbia) to attempt to model, so it is possible that the model is not always accurate for your case. The 2018 model is the first version of PRC to contain these calculations, so this is the initial release of this functionality and it will be refined as time goes along. If this algorithm doesn t seem to be calculating state taxes correctly for your case, you have an alternative: the method of user-specified state tax rates is still available and you ll find it at the bottom of the Home page. With this, you can specify a rate that PRC will multiply by the federal AGI (as in all prior models of PRC) to arrive at an estimate of your state income taxes. If you check the adjacent box, this alternative method will replace the detailed calculations. 103

104 Handling of Taxes on Unplanned Withdrawals from Tax-Deferred Savings As described in prior sections, PRC performs detailed income tax calculations and includes those taxes in annual expenses which are subsequently used to determine annual cash flow. When that cash flow is negative, it results in a subsequent withdrawal from one or more of the regular savings, tax-deferred savings or Roth savings accounts, depending upon the withdrawal priorities specified by the user on the Financial Assets/Management page and the balances of those accounts. Any such withdrawals from tax-deferred accounts is a taxable event; however, the taxes for the year in question will have already been calculated and, to avoid excessive complexity and extended computation durations during Monte Carlo analysis, PRC does not perform iterative tax calculations. Consequently, those withdrawals are treated as regular income in the next year, and that will be reflected in the next year s AGI. Similarly, any such withdrawals from regular savings that result in long term capital gains is a taxable event and is handled exactly the same as unexpected withdrawals from tax-deferred savings. Long term effects of this design simplification on the accuracy of PRC s projections have been studied and they are minimal. Summary Projections The Summary Projection page presents a tabular, year-by-year projection of PRC s summary-level outputs based on integration of your input data and assumptions. Here s an example: This page puts your whole financial story together in a single top-level view, but there are several things about it that are not completely self-explanatory and, therefore, worthy of discussion. Total Income The Total Income column reflects new income as defined on the Income page and, specifically, is almost always identical to the Spendable Income column on the Income Projection page. The exception to the rule is that it also contains funds associated with the close-out of the 529 Plan if there is still a balance in that account when the kids have graduated from college. RMD s are not included in Total Income despite the fact that they are considered regular income in PRC s tax calculations. 104

105 The values shown in this column are year-beginning values. PRC applies annual increases to income at the beginning of the year, so these values will reflect those increases and they will be assumed to be flat throughout the rest of the year. Total Expenses The Total Expenses column reflects the sum of all expense columns on the Expenses projection page and all taxes on the Taxes projection page. The values shown in this column are year-beginning values. PRC applies inflation to expenses, as appropriate, at the beginning of the year, so these values will reflect those increases and they will be assumed to be flat throughout the rest of the year. Cash Flow The Cash Flow column is simply Total Income minus Total Expenses. Savings Balances There is one column for each of the 10 savings categories modeled by PRC, expressed as year-end values. There is no practical difference in the value of a savings account between the last tick of the clock in year x and the first tick of the clock in the year (x+1) and, consequently, PRC applies inflation to the year-end savings balance in year x based on the year x inflation. So, for any given year, you ll see the year-beginning income and expense values that PRC used in the calculation of the year-end account balances; however, those account balances will adjusted for the inflation that occurred in the corresponding year. This might be a little confusing if you re trying to convince yourself that PRC is doing the math correctly. Let s use an example to illustrate. The screenshot below (a custom projection with columns selected to help illustrate the point) is calibrated in future dollars, so all the math works as you d logically expect. The math obviously works: 3,379,709 (Regular Investment Accounts in year 2041) = 3,048,712 (Regular Investment Account in year 2040) + 190,544 (growth of Regular Savings) + 140,453 (positive cash flow). 105

106 Further, the 25,000 after-tax rollover takes the balance of the Roth account from zero to 25,000 in year Now let s take a look at the exact same data but with the page calibrated in today s dollars: The math doesn t seem to work anymore, with the easy example being the after-tax rollover of 12,298 results in a year-ending Roth account balance of a seemingly smaller amount, 11,940. Here s the rest of the math that s involved when the data is displayed in today s dollars, assuming inflation is 3%: 11,940 = 12,298/1.04, where 1.03 is 1+ inflation. An alternative way to handle this is to simply not display year-ending account balances and, instead, show only year-beginning account balances. Those year-beginning account balances would be exactly the same numbers that PRC displays as year-ending account balances, but they d be on separate rows. This might be more intuitive for some folks, but we think this is more than offset by having account balances displayed in a position that clearly indicates they are the result of all the puts and takes that occurred on the row in which they re displayed rather than the previous row. Account Growth The Account Growth page presents a tabular, year-by-year projection of detailed information related to rates of return and the growth of Regular, Tax-Deferred and Roth savings, as well as any inherited traditional or Roth IRA s. Here s an example: 106

107 A Note on Your Final Year If the life of the longest survivor ends sometime during the year, you ll notice that the ROR is reduced during that final year. That s just PRC s way of dealing with a partial year and maintaining consistency with the policy of having the values in all projection tables be total-year or year-ending values. Withdrawals The Withdrawals page presents a tabular, year-by-year projection of detailed information related to planned and unplanned withdrawals all accounts, including Required Minimum Distributions (RMD s), Substantially Equal Periodic Payments (SEPP s) and withdrawals required to cover negative cash flows. The Other Withdrawals from Tax-Deferred Savings are included in AGI in the year after they occur as explained previously. Here s an example: 107

108 Note that this example shows your death year (in orange) as well as your spouse s death year (in yellow). Rollovers and Annuity Purchases The Rollovers and Annuity Purchases page presents a tabular, year-by-year projection of detailed information related to planned rollover of funds from your and your spouse s tax-deferred accounts to the joint Roth account as well as the purchase of annuities from any of eight possible accounts. Here s an example: Custom1 and Custom2 These are customizable views into the detailed projections of expenses, taxes and savings, created by clicking the check boxes in the desired columns on the various projections pages described above. One thing to note is that the comments in the column headers on the other pages are not carried over to the Custom pages, so if you need a refresher on those comments, you ll have to take a look at those other pages. You can create these custom views with anywhere from no columns to all of the columns on the other pages. PRC will always maintain synchronization between each of the tabular projection tabs (Income, Expenses, Taxes, Summary, Growth, Withdrawals, Rollovers, Custom1 and Custom2) regarding the scenario and the 108

109 units in which dollars are presented (today s or future). So, when you change this selection on any of these pages, a corresponding change will be made automatically on the other projection pages. Here s an example of a custom page: Graphical Projections PRC also generates eight different forms of detailed graphical projections of fixed rate analysis results which are consistent with the data in the tabular projections described in the previous section: 1. Income 2. Expenses 3. Income vs. Expenses 4. Taxes 5. Withdrawals 6. Rollovers 7. Savings and Net Worth These projections are associated with the second row of eight buttons that appear underneath the major navigation buttons when you click the PROJECTIONS button. Whenever you leave the Projections pages for some other section of PRC and then return, you will always be returned to the same subpage from which you departed. The paragraphs that follow describe each of the Projections subpages in detail. Common Features of All Graphical Projection Pages User controls are provided that enable you to specify whether you want to look at scenario 1, scenario 2 or scenario 3 and whether you want to view the data in terms of today s dollars or future dollars. Income This page actually contains two graphs. The one on the left shows all of the income components related to the Income inputs page. The one on the right shows the contributions to your various accounts from the income streams shown on the graph on the left. Here s an example: 109

110 Expenses This page presents a graph showing all of the expense streams defined on the various expense input pages. Here s an example: The expense graph is a case where s it possible to see negative numbers, and it may not be totally obvious that the graph is depicting these numbers correctly. Here s an example to illustrate: 110

111 In this case, the Net Expenses for Real Property goes negative in the year the property is sold. Those expenses are actually -$188K in that year (as correctly indicated by the bottom of the negative spike) but there are still Specific Discretionary Expenses of $48K, and the total expense is -$140K as indicated by the bottom of the lavender spike. Income vs. Expenses This page contains a line graph showing only three things: total new income, total expenses and cash flow (the difference between total income and total expenses). Here s an example: 111

112 Taxes This page also contains two graphs. The one on the left shows the key inputs to PRC s federal income tax algorithm, including AGI, taxable income, deductions and exemptions, depreciation recapture (which relates to rental properties) and reportable long term capital gains. The graph on the right side of the page shows all elements of PRC s calculated taxes. Here s an example: Withdrawals This page contains a graph showing the planned and unplanned withdrawals from your various accounts. Here s an example: Rollovers This page contains a graph showing the rollovers from your and your spouse s tax-deferred accounts to your Roth accounts. Here s an example: 112

113 Savings and Net Worth This page also contains two graphs. The one of the left shows the balance of all of your accounts. Here s an example: 113

114 CONSUMPTION SMOOTHING PRC2018/Gold User s Manual Overview PRC contains a consumption smoothing algorithm to help you maximize your standard of living over the remainder of your life. With the assistance of this feature, you will not have to starve now to live in luxury during retirement, or vice versa. More specifically, this algorithm calculates the maximum sustainable annual discretionary expense your plan can support over your entire lifetime. The result is displayed in the Annual Non-Specific Discretionary Spending field in current year dollars and the associated expense profile is shown on the Projection pages in the column entitled Non-Specific Discretionary Expenses. You can read more about this concept and its real-life application in the book entitled "Spend 'til the End" by Laurence Kotlikoff and Scott Burns. The Basic Algorithm PRC s consumption smoothing algorithm (CSA) uses your demographic data, your assumptions, your financial assets, your income and your expenses precisely as you ve defined them as discussed in prior sections of this manual with these optional exceptions: to generate a more conservative result, PRC allows you to specify override values for life expectancy (such as possibly living longer), rate of return (such as worse returns that expected) and inflation (such as higher inflation than expected). Given that, CSA seeks the value for the Non-Specified Discretionary Spending (NSDS) field that results in your total savings going to zero at the end of your life. It arrives at a solution by inserting a randomly selected starting value for NSDS, checking the resulting end-of-life savings value (EOLSV), then adjusting the NSDS value upward or downward depending upon whether EOLSV is below or above zero, and repeating this process until the EOLSV goes to zero. When the process completes, the inflation-adjusted final value of NSDS will appear in the NSDS column on the Expenses Projection page (see the section on Projections for a screenshot). If you initiated consumption smoothing with no overrides to life expectancy, rate of return or inflation, you should observe that your savings balance goes to zero at the end of your life. If you did invoke some override options, you should observe that your savings balance is still positive at the end of your life due to the use of the more conservative value of NSDS. The Advanced Algorithm Any projection based on fixed inflation and fixed rates of return (i.e., the basic algorithm) is unlikely to come true in the real world due to sequence of return risk (see discussion in the Analysis section). Roughly half of the time you ll do better and half of the time you ll do worse. The conservatism override controls available under the basic CSA are an attempt to improve the real world confidence level of the tool s fixed rate computations; however, there s an even better mechanism available: consumption smoothing done in conjunction with statistical analysis. As described in the Analysis section of this manual, PRC is capable of using your demographics, assumptions, financial assets, income and expenses while performing both Monte Carlo and historical analyses to simulate sequence of return variations over a large number of test cases and ultimately generate a range of likely long term outcomes. The power of those simulations can also be harnessed to 114

115 calculate an NSDS value that results in EOLSV around zero with a given probability of success. So, the advanced algorithm arrives at a solution by first running the basic (fixed rate) CSA algorithm to establish a baseline value for NSDS, then uses either Monte Carlo or historical simulations to run a large number of test cases (which introduce simulated annual variations in rates of return and inflation) using that value, examines those results to assess the percentage of the test cases that resulted in a negative EOLSV and compares that percentage to a target value. If the calculated percentage is lower than the target percentage (i.e., the failure rate is too high), the NSDS value will be decreased; if the calculated percentage is higher than the target percentage (i.e., the failure rate is too low), the NSDS value will be increased. Then another set of either Monte Carlo or historical simulations will be run again and this process will repeat until the calculated percentage is within close proximity to the target value. When the advanced algorithm completes, you ll have a value for NSDS that is optimized to yield the highest standard of living consistent with a high degree of confidence that you won t run out of money in your lifetime. Control PRC s Consumption Smoothing function is accessed via the Consumption Smoothing button in the Expenses button sub-group. PRC gives you control over the amount of conservatism to use while making its consumption smoothing calculations: You can select either "Live to 100", "Safe ROR" or "As Specified". If you select "Live to 100", PRC will override the life expectancies you entered on the Home page and make its calculations assuming that you and your spouse both live to age 100. If you select "Safe ROR", PRC will assume all your savings accounts earn a conservative ROR that you select in the adjacent pull-down menu. If you select "As Specified", PRC will use all of your inputs exactly as entered on other pages. If you want PRC to calculate your maximum discretionary spending level using a different level of inflation than specified on the Home page, you can specify your override value in the General Inflation Override field. PRC also gives you the ability to minimize withdrawals from tax-deferred and Roth savings prior to a year of your choice. This is done via the table row entitled Minimize withdrawals from tax-deferred and Roth savings prior to this year, with separate year entries for each of the three scenarios. If you leave this field blank for a given scenario, PRC will calculate a smooth discretionary spending level throughout the entire modeling timeframe. Alternatively, if you enter a year in this field, PRC will calculate the spending level to minimize withdrawals from tax-deferred and Roth accounts prior to the specified year. In that case, you ll probably see an increase in the computed spending level begin in the specified year. As you ve seen on other pages, PRC has the ability to reduce your expenses upon the death of a spouse. In the case of consumption smoothing, PRC will reduce your non-specific discretionary spending upon the death of the first spouse to die by the amount specified in the field called % Reduction in Non-specific discretionary spending after death of first spouse >>. Separate buttons are provided to allow you to specify which analysis method you wish PRC to use in performing consumption smoothing and they are labeled Fixed Rate Solution (which uses the basic CSA algorithm), Monte Carlo Solution and Historical Solution (both of which use the advanced CSA algorithm). As the analysis is being performed, you may notice the numbers in the Non-Specific Discretionary 115

116 Spending field changing, and the Monte Carlo and historical analyses will always take longer to execute than the fixed rate analysis because there is much more computation being done. When the analysis is complete, the Solution Type field just above these buttons will be updated to reflect the analysis method used to compute the value shown in the Non-Specific Discretionary Spending field. Here s a screenshot of the Consumption Smoothing page: The complex Consumption Smoothing algorithm is controlled by this simple page. The first thing to observe is that consumption smoothing can be turned on or off by clicking the large light blue button near the top of the screen. Beneath that, you can see the various user controls that allow you to specify the level of conservatism to use in computing your sustainable discretionary expenses. Note that the Level of conservatism field contains a pull-down menu with the available choices. If you were to select Safe ROR, another data entry field will appear for you to enter the ROR you consider to be safe. Similarly, you can elect to use the inflation rate specified on the Home page or to override it with a different inflation rate by setting the General Inflation Override to On, and then entering the inflation rate you want to use into the data field that will appear when the on/off switch is set to On. Now, take a look at the table at the bottom of the Consumption Smoothing page example (above). It consists of four key things: a row of data entry fields where you can specify a year before which you want to minimize any withdrawals from tax-deferred or Roth savings, a row of computed outputs fields, a group of buttons which you click to initiate the computations and a Probability of Success indicator. There are three buttons for each scenario, where the top row of buttons is used to initiate an analysis using the fixed rate method, the second row of buttons is used to initiate consumption smoothing using a Monte Carlo simulation and the third row of buttons is used to initiate consumption smoothing using an historical-based simulation. The Probability of Success selection is applicable only to the Monte Carlo and historical simulations, which are probabilistic in nature. When performing consumption smoothing using either the Monte Carlo or historical simulation method, PRC will seek a solution that succeeds in 116

117 having a positive Total Savings balance at the end of your life with the probability of success shown here. This value is based on the percentile setting selected for the lower edge of the Range of Outcomes on the Analysis page. If the 10th percentile is selected, the probability of success is 90%; if the 15th percentile is 20%, the probability of success is 80%, and so on; however, the probability of success value will never exceed 90% regardless of the percentile setting. Use of the Results If the calculated consumption value is negative, it represents the amount by which you need to reduce your spending to make your plan viable. When you've completed this exercise, you can optionally incorporate this spending into the table on the Discretionary page and then delete the computed value in the Non-Specific Discretionary Spending fields on this page. You can use the DECOMPOSITION OF ANNUAL DISCRETIONARY SPENDING table located at the bottom of this page to assist you in decomposing this annual value into separate budgetary items. If you aren t interested in using the consumption smoothing function and want to ensure that its outputs do not get included in your expense stream, you can simply turn it off. You can do this via the button near the top of the page called CONSUMPTION SMOOTHING ON/OFF SWITCH. Alternate clicks will turn the function on, then off, then back on, and so forth. Please note that the consumption smoothing calculations can only be performed with the switch in the ON position. Example As an example, let s go back and more closely examine the screenshot shown above. We ve said that we want to minimize tax-deferred and Roth withdrawals prior to the year 2042 for scenario 1, but provided no such restrictions on the consumption smoothing algorithm for scenarios 2 and 3. We ve also said that we want to use the fixed rate method for scenarios 1 and 2 but the Monte Carlo method for scenario 3. Consequently, you can see that the computed non-specific discretionary spending level for scenario 1 is considerably higher than for scenarios 2 and 3; however, the rest of the story is that this spending level doesn t commence until the year For scenarios 2 and 3, those computed values begin in the starting year you entered on the Home page. Important also, the Monte Carlo method will always produce a lower spending level than the fixed rate method because it has a higher probability of success (more on this later). The cropped screenshots below of the Expense Projection page show these spending levels in the context of PRC s projections for scenarios 1 and 2 (scenario 3 is similar to scenario 2): 117

118 The arrow in the screenshot above points to the smoothed expenses for scenario 1. The arrow in the screenshot above points to the smoothed expenses for scenario 2. Now let s take a look at the results of scenario analysis performed using these consumption-smoothed computations. Take a look at the screenshot below taken from the Run Analysis page. 118

119 What we see here are side-by-side analysis results from the analysis of all three scenarios. In this example, only fixed rate and Monte Carlo analysis results are shown because we didn t use the historical simulation method for any of the consumption smoothing done in this particular example. The solid dark blue line on each of the graphs represents your total savings over time as generated by the fixed rate method (which uses your demographics, assumptions, financial assets, income and expenses precisely as you entered them). The lighter blue envelope on each of the graphs represents the range of possible outcomes as predicted by a Monte Carlo simulation over 500 test cases using your data exactly as entered with just one exception: the fixed rates of return are replaced with annually varying returns (normal distributions with mean and standard deviation as you entered them on the Asset Classes page described above). The results of the 500 test cases are distilled into a single graph per scenario by using percentiles to show upper and lower ranges. In this example, only 15% of the results are worse than the lower edge of the envelope and only 10% are better than the upper edge of the envelope (it represents the 85 th percentile of results, so 15% of results are better and 85% are worse). With that brief explanation now behind us, let s see what the graphs are telling us. These three scenarios are identical except for the NSDS value calculated by the consumption smoothing algorithm. Recall that for scenarios 1 and 2, we used the fixed rate analysis method which used the basic CSA and which, as you can see, resulted in total savings (the solid line) going to zero at the end of life; however, you should also note that the bottom edge of the range of possible outcomes goes to zero long before the end of life. That s because sequence of returns risk can result in your long term savings being considerably worse than suggested by fixed rate projections. For scenario 3, though, we used the Monte Carlo method (the advanced CSA) to try to arrive at a more conservative NSDS value that had an 85% probability of success. You can see that it produced a lower NSDS value that resulted in a total savings that was still very positive at the end of life according to the fixed rate projection (the solid line) 119

120 but the lower edge of the range of possible outcomes goes to zero at approximately the end of life. That means that only 15% of the scenario 3 Monte Carlo simulations resulted in you running out of money before your death, and this demonstrates that the advanced CSA was successful in figuring out a NSDS value with an 85% probability of success. Conclusions This discussion may well lead you to wonder why you d ever want to use just the basic CSA, but there are good uses for both versions depending upon your situation. First, it s totally impossible to predict the future so no algorithm exists anywhere that can do it and, therefore, using the advanced CSA with a 85% probability of success is still no guarantee. Second, if your investments are very conservative, the basic algorithm coupled with conservative overrides may work just fine for you. Third, another good use for the basic algorithm is to investigate how much margin is in your plan. You could do this by fully defining your expected expenses in the other expense-related pages and then perform consumption smoothing using the fixed rate method. The calculated NSDS would indicate how much more you could theoretically spend on an annual basis and still have your money last for the rest of your life assuming fixed rate projections. If this is negative, you probably need to modify your plan. If it s way positive, you can probably feel pretty good about your plan. Regardless, we would always recommend that you revisit your plan on a regular basis. LIFE INSURANCE PRC enables you to examine life insurance needs for yourself and your spouse and to specify the face value and associated annual premium for any life insurance you want to incorporate into your plan. Based on the other information you've already entered into your plan, PRC calculates the amount of insurance you'll need based on the expected reduction in income and expenses after the loss of each spouse. PRC does not make any assumptions regarding the premiums for this insurance because there are too many variables to do this accurately without incorporating an insurance calculator. Rather, we refer you to your employer's benefits office or online calculators readily available for this purpose, such as the one at calculators.com; however, for some quick insights, you can click the link to our Premium Reference Table. You should delay making any entries into the table on the Insurance page until you've completed the rest of your plan because the necessary insurance coverage is a function of your income and all of your other planned expenses. Remember the various locations on the other pages where you were asked to enter the percentage reduction in expenses following the death of a spouse? These are crucial to PRC s life insurance calculations to avoid over-estimating coverage needs. To initiate the calculations, just click the Compute Insurance Estimates button and the table will be populated. PRC will subsequently use the values in the "Face Value..." columns. If you'd prefer to use your own numbers or dispense with life insurance altogether, just type over or delete PRC's automatically generated numbers. Don't forget to fill in the right-most column with the premiums for the amount of life insurance you select. You can validate your insurance coverage by varying your or your spouse's life expectancy on the Home page and then noting the amount by which the Fixed Rate Savings line changes on the Analysis Execution & Results or the Fixed Rate Comparison pages. 120

121 A few other things to note: 1. PRC always assumes 10-year term insurance. 2. PRC will never suggest life insurance if you are single. 3. PRC needs you to specify which scenario you want to use as a basis for its insurance calculations because we ve chosen not to perform them for all scenarios. You can specify your choice in the field called Base calculations on Scenario >>. Here s an example: The fields with the gray background are PRC s computed recommendations and the fields with the white backgrounds are the fields that PRC actually uses in creating its long-term projections. When the insurance analysis is performed, PRC copies its recommendations into white fields but you have the ability to modify the values as you desire, including deleting them altogether. The column on the far right is where you enter the annual insurance premiums you expect to pay for the amount of 10-year term life insurance entered into the Face Value columns. Again, you can clear all the fields in this column if you don t want to include any life insurance premiums in the model. A Note Regarding Insurance Estimates in Your Working Years A key to PRC being able to perform insurance estimate calculations is that it is able to model survivor scenarios. Specific examples of this are survivor options on pensions and Social Security benefits as well as expense reductions following the death of a spouse. There is a weakness in this algorithm with no clear solution, so the purpose of this paragraph is to simply make you aware of the potential issue. The pension and Social Security income streams are based on you specifying the magnitude of that income and when it is scheduled to begin. You may or may not specify a survivor percentage on your pension, but your Social Security benefits can be taken by your spouse upon your death if they are larger than the spouse s own benefit. The potential problem is that pensions and Social Security benefit amounts are a function of how many years you worked and how much you earned or contributed during your working years. If we simulate an untimely death that would be likely to reduce the pension or SS benefit below the specified level, then that introduces an error because PRC has no way of determining the impact on those income streams and, consequently, on the survivor s income stream after your untimely death. PRC makes no attempt to alter the numbers you ve entered and models the survivor scenario as if those numbers are accurate and, as a result, its insurance estimates are likely to be low 121

122 when simulating deaths during the owner s working years (because it probably assumes too much survivor income). USER WORKSHEET PRC contains one blank, unformatted worksheet where you can copy data and enter your own formulas. You navigate to this page by entering Control w (hold down the Control key while pushing the w key) on your computer s keyboard. To return to PRC s Home page, enter Control h. Please be aware that when upgrading to a new version, PRC s import function will only copy the cells A1 through Z100 (a total of 2600 cells) of this user worksheet. PRINT-FORMATTED REPORTS The Reports page enables you to create a report in PDF format. This report will contain all of the input and output data associated with the selected active scenario and can be customized with the titles, subtitles, and page headers and footers of your choice. Here s a screenshot is the page: There are six data entry fields on this page which allow you to specify the main title of the report along with two subtitles and page headers and footers. Click the light blue Create Your Report button to create the report. When you do this, you ll then be requested to specify the name of the report file you wish to use and the directory into which it is to be saved. 122

123 The resulting PDF file is formatted US letter size with portrait orientation and narrow margins and is suitable for printing or attaching to an . The report is 18 pages in length; here are several screenshots from a typical report: 123

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130 KEY FORMULAS To assist you in understanding how the data you entered is used within PRC, here are the terms included in several key formulas: Total Spendable Income = your employment income + spouse employment income + immediate annuity income + taxable pension treated as regular income + non-taxable income + other income taxed as regular income + other income taxed as capital gains + Social Security income personal contributions to tax-deferred retirement plans personal contributions to Roth IRA personal contributions to defined benefit pensions Adjusted Gross Income = employment income + immediate annuity income + taxable pension treated as regular income + taxable pension rolled over to Roth IRA + other income treated as regular income + other income taxed as capital gains + taxable portion of Social Security income- personal contributions to tax-deferred plans personal contributions to defined-benefit pension plans with pretax dollars- self-employment tax alimony + interest on regular savings + required minimum distributions + other withdrawals from tax-deferred savings + reportable capital gains from the sale of property interest on student loans healthcare paid with pre-tax dollars Plan close-out withdrawals + rollovers from tax-deferred savings to Roth IRA Total Income = Total Spendable Income Plan close-out withdrawals Total Expenses = net expenses for property + children s expenses + healthcare expenses + special expenses + life insurance expenses + specific and non-specific discretionary expenses + federal income tax + alternate minimum tax + state income tax + Social Security and Medicare taxes GETTING UPDATES The User Support page on the Pralana website contains a link to the PRC2018 change log that will enable you to review the changes since PRC 2017 as well as remain abreast of any and all changes since the initial release of PRC2018. Anytime you want to download the latest version of PRC, just visit the User Support page and login under the PRC2018 Gold license using the username and password provided in conjunction with your purchase of PRC2018. These are formatted as follows: username = your last name + the last 3 digits of your purchase # (such as brown123) and password = your purchase #. To learn how to import data from your previous version of PRC, please see the paragraph above entitled Importing Your Data from an Earlier Version of PRC. GUIDANCE ON CONFIGURING EXCEL To avoid long delays every time you enter new contents into a data entry field, it is imperative that Excel be configured according to the Calculation Options set in the PRC file when you receive it. To do this, you will need to close all other Excel files prior to bringing up PRC. Excel will always adopt certain configuration settings from the first file brought up and then use those settings for all files executing concurrently 130

131 regardless of their file-unique settings. Therefore, you can bring up your other files after PRC is up and PRC will still be okay; the key is that it comes up first. PRC FILE HANDLING When you download PRC and the computer asks you what you want to do with the downloaded file, tell it to Save and then Open. That will ensure it gets saved on your computer, and you ll find the saved PRC2018.x.Gold file in your Downloads folder. When the file opens, you can click the various buttons to explore PRC and modify the data fields as you like. When you re ready to save the modified file, you have two options: 1) you can use the Excel shortcut (Push the Ctrl and the s buttons simultaneously, which we ll call ctrl-s ) to save the file in the original location (your Downloads folder) and with the original name (PRC2018.x.Gold) or 2) you can click the PRC save icon to do a save as operation, which then allows you to specify the folder and filename of your choice. When you re finished working with the file, click the X icon to exit. If you ve made further changes since the last save, you ll be asked whether you want to save again to ensure you don t lose any work. To bring the file back up, you have two options: 1) bring up Excel by double-clicking its icon and then use Excel s File menu to locate and select the PRC file you just saved, or 2) navigate to the folder containing the saved PRC file (using Windows Explorer on Windows machines), and then just double-click it. That action will start Excel, if necessary, and bring up the selected PRC file. Once it s up, you can continue working with it, make more changes and then save it again. Once you have the file where you want it and with the name you re happy with, then most subsequent saves (to prevent loss of your work) can be done with the Excel shortcut ctrl-s. So, fundamentally, PRC is managed just as any other Microsoft Office file, and you can save the PRC/Gold file under as many different names as you choose. Just click the save-as icon and type in whichever filename you wish and click Save (within the Excel pop-up). Every time you do this, you ll be creating new files. To bring up a particular file later, just use either of the two methods described above. IMPORTING YOUR DATA FROM AN EARLIER VERSION OF PRC PRC2018 contains a mechanism to load all of the data you ve entered into PRC2017 or another PRC2018 file; however, the specific process you will need to use depends upon whether the source and destination copies are physically located on the same or separate computers. To minimize complexity, PRC2018 will NOT import directly from anything prior to PRC2017 (or from PRC2018 Bronze). Importing from another copy of PRC2017 or PRC2018 on the same machine (Windows or Macs) In this case, simply go to PRC2018 s Home page and click the Import Data button to initiate the process. Please see further discussion on this button below under the description of the Home page. 131

132 Importing from a copy of PRC2017 or PRC2018 on a different machine (Windows or Macs) In this case, you will have to export the data from the copy of PRC on the source machine, migrate the exported file to the destination machine via , memory stick, shared memory or the cloud, then go to PRC2018 s Home page on the destination machine and click the Import Data button to initiate the process. Please see further discussion on this button below under the description of the Home page. YOU CAN DOWNLOAD AND MAINTAIN PRC ON SEPARATE COMPUTERS We understand that you may desire to have PRC on two separate computers, such as your desktop at home and your laptop for travelling, and we support that concept. To put PRC onto a second computer, you ll need to login to the Pralana website under your PRC2018 Gold license and request another download. You ll need to follow the importing process described above to load your data onto this second copy. PRC CANNOT BE MOVED TO ANOTHER COMPUTER LIKE A TYPICAL EXCEL FILE PRC2018 is a licensed product that contains a mechanism to prevent unlawful sharing. The file selfregisters itself to the computer onto which it is first downloaded and cannot be moved thereafter. If you do move it to another computer and then try to bring it up, you ll receive this pop-up message: You can avoid this problem by following the guidance provided in previous paragraphs; however, if you find yourself in a situation where you don t have the export file or the original computer but you do have a copy of the original PRC2018 file, there is a resolution process that doesn t involve you sending your PRC2018 file to us to be unlocked. Unlocking PRC on an Unregistered Computer As described previously, you should always maintain a back-up copy of your data by occasional use of the Export Data function. Nevertheless, just in case you find yourself with a failed computer and no back-up copy, we have established a workaround mechanism. Login under your 2018 Gold license on 132