A Certified Financial Planner and Economics Professor Breaks Down the Real Trade Off
I came across an article today from The Wall Street Journal, and they were going through some data on a question that a lot of parents are asking right now. Does it still make sense to send our kids to college?
As a father of four, I talk to my kids about college all the time. About the jobs it opens up and the different avenues it creates. But I always take a step back and try to explain it to them from a different perspective. There is a math equation here. There is math, and there is the satisfaction we get in life.
At the end of the day, economics is very straightforward. It is about having unlimited desires, things we want to do, and only a limited amount of time and money and resources. You have to figure out what trade offs you are willing to make, because you only have so much time and so much money.
In case you are wondering what qualifies me to talk about this, I am Dre Griggs. I am a Certified Financial Planner, the founder of Obsidian Wisdom, and I teach economics at the college level. I spend all of my time figuring out how to make the trade offs that give you more of what you want while taking the least amount from you.
Why Non-Degree Workers Are Suddenly Doing Better
The data showed something interesting. The unemployment rate for non-degree workers ages 22 to 34 is at a 20 year low, while young college graduates are having a difficult time finding work.
So why is someone with a college degree struggling to get a job while someone with a skill set outside of a degree is doing just fine? I think I know where this is coming from, and I want to tell you a story.
My Own Path Taught Me This the Hard Way
When I first graduated, I had a degree in economics. My first job was as a credit manager at Wells Fargo. Then I moved to Deutsche Bank and went into investment banking, working in a department that dealt with profitability and accounting for the traders. We went through the numbers on how well the trades and their strategies were performing.
My third job after college was in the pricing department. I became the carload pricing manager for a small rail line, Florida East Coast Railway. It took a couple of meetings with my AVP at the time before it clicked. He told me, “If you like economics, then you will really like pricing, because pricing is figuring out the economic value of things. I think you are going to get a lot of those itches that you enjoy. It may not be as fast paced as investment banking, but I think you will be very satisfied.”
It took me a little time to understand that he was completely right. I took a leap of faith. I had never had anyone actively recruiting me before. He introduced me to the person I would work with, we all had lunch, and I remember thinking, “This is different. I have never been sought after. I have always been the one chasing people to get jobs.”
A few years into that career, I had built a very specific skill set. Not many people combine an economics background with pricing expertise. Economics on its own is fairly general, but pair it with pricing and it becomes very specific. You are not going to find as many people with an economics degree paired with pricing as you would find someone with a general business or finance degree.
So when another pricing role opened up, one that companies had been trying to fill for multiple years, I applied. At the time I was making around $52,000 to $55,000. The role was listed around $65,000. But because they had been searching so long and I had the exact skill set they needed, they offered me $70,000. That was $5,000 more than what the position was even listed for, because they felt the skill set was too rare to let go.
I naturally took the position. And what that story ultimately teaches us is that everything comes down to supply and demand.
We Are Producing Generalists in a World That Rewards Specialists
Fast forward to today, and we are telling everyone to go to college. But people are earning very general degrees without trying to find a niche in their career or their skill set, whether that niche comes from pairing the degree with a certification or something else. That general approach opens you up to competing with everyone.
If you are a business owner, you already know this is true. If I say, “I want to be in leadership,” I am now a generalist in leadership. That puts me in competition with someone like David Goggins, who is extremely high level in leadership built around military discipline, or Mel Robbins, who is high level in leadership built around mindset. Versus if you work your way into a very specific skill set, you become a big fish in a small pond.
So a lot of the time, when you look at the numbers, the real question is not whether college makes sense. It is whether a specific degree makes sense for you. There are situations where college clearly makes sense. If you want to be a lawyer or a doctor, that still holds true. If you want to be a chef, I am not sure college is the answer. It depends entirely on what you plan to do with that skill set.
You do not need a college degree to become a plumber or an electrician and master a specific trade. I have even seen people build very successful businesses cutting down trees. You do not need a degree for that skill, but it is specific enough that when I have that particular problem, I need to know that person exists. Someone with the experience, the certification, or the training to solve that exact problem.
AI Is Making This Even More True
If you go up a notch from there, AI is part of what is driving this shift. If you have general knowledge, AI already has all the general knowledge you could need. But if you have specific knowledge, a unique combination of life experience and skills, you create economic value that gives you a real advantage.
I am someone with advanced degrees in economics. I teach economics at the college level, and I am also a Certified Financial Planner. When you put those pieces together, it gives me a perspective that AI currently cannot offer. When I talk to other people in financial planning, I can say, “I have a specific certification. I also have years of experience across a variety of financial industry positions, and I teach economics at the college level.” If that combination has value to you, that is how I separate myself, and that is the kind of separation I think everyone should be building toward.
Think about how you search for help when you have a problem. Do you Google “I need a general doctor,” or do you search for the doctor who specifically solves your exact pain point? If I broke my foot running, I need a foot doctor. If I hurt my shoulder lifting weights, I need a shoulder doctor. For my kids, I want a pediatrician. For my dog, I want a veterinarian. If I need surgery, I want a specific surgeon with the exact skill set for my exact problem, not a general surgeon.
How to Actually Decide If a Degree Makes Sense
If you are trying to figure out whether your degree makes sense, there are a few things worth looking at. How often is this role hiring? What are the future hiring projections for that role? What is the income, and what cities do you have to live in to get it? There is a lot of information to gather to make a decision that is specific and beneficial to you.
But when it comes to the pure math, what we need to calculate is the opportunity cost.
Let us say I went to school for four years. What would I have earned instead during that time? If I would have made $50,000 a year, then over four years my opportunity cost is $200,000. I am rounding the numbers to keep the math simple, as I like to do.
Now let us add in the money I am actually paying out of pocket. Tuition costs vary by state, so let us just say tuition is $100,000. That means college cost me a total of $300,000 when you combine tuition and opportunity cost.
Once you know your total cost, you need to determine the trade off. What are you trying to gain from this decision? Most people have never actually calculated the real benefit of something against its real cost. They just assume, “Of course you go to college, you make more money,” which is still generally true. Even with the unemployment rate at a 20 year low for people without a college degree, the unemployment rate is still lower for people with a degree. It is still more likely that you will have a job.
Of course, the unemployment rate does not capture everything. It does not tell you if you are overqualified for your job, whether you got a job in the field you studied, or whether you even needed the degree for the position you hold. Those data points matter too. But purely in terms of employment odds, a college degree still helps.
Running the Real Numbers
Let us say without a degree you would have made $50,000 a year. With a degree in a field like healthcare, engineering, or finance, let us say you would make $80,000 a year. That is an extra $30,000 a year.
How many years would it take to earn back the $300,000 you invested in yourself? At $30,000 a year, that is 10 years.
Let us say you graduate at 25. Ten years later, you are 35 and you have broken even. If you plan to work until 65, that means you have 30 more years of earning that extra $30,000 a year, assuming no raises or promotions along the way, just to keep the math simple.
Thirty years at an extra $30,000 a year comes out to $900,000. Over your working life, that degree has given you the ability to earn close to an extra million dollars. That is the trade off. You gave up four years of earning $50,000 a year, you spent 10 years paying back your $300,000 investment, and everything after that is pure profit on your investment in yourself.
This is also part of why the value of a degree tends to matter more at certain ages. The higher the degree ceiling in a field, meaning the level you cannot reach without one, the more that degree is worth. That is often true even when the degree is not directly related to the field. But the older you are when you consider going back, the fewer years you have left to earn back that investment, which is exactly why it stops making sense for some people to go back to school later in life.
Sometimes the Math Is Not the Whole Story
Now, there are other reasons people choose to pursue a degree. Economists call this utility. It simply means personal satisfaction.
I remember reading about a man in his 70s who went back to medical school. He had promised his parents he would become a doctor, and he felt compelled to keep that promise. He graduated. He never intended to practice medicine in any capacity. He just wanted to earn the degree and become a doctor as a promise to his parents. That kind of decision exists too, and it is valid.
As an educator myself, I enjoy contributing to future generations. Outside of a child’s parents and family, a teacher can be one of the most influential people in that child’s life, and I find real satisfaction in that. I also love economics, which is part of why I became a Certified Financial Planner. It lets me use economics to help people make better decisions with their time and their money, so they experience less regret and more satisfaction in life.
You can take these same numbers, adjust them for your own situation, and decide if the math still works for you.
Why the Value of a Degree Is Dropping
Right now, so many people are earning college degrees that it is driving down the value of the degree itself, meaning how much you can actually demand because of it. If there are 50 people applying for the same position and they all hold the same degree, the only way to separate yourself is by building a unique skill set that makes you more qualified than the average applicant.
In my opinion, the conversation needs to shift. It is not really about treating the degree as the finish line. It is about whether the degree is even required for what you want to do in life, and if it is, treating it as the first step rather than the destination.
When I entered the finance industry, I knew I needed a specific combination of skills. I earned a bachelor’s degree in economics, then a master’s degree in economics. When I decided to become a financial planner, I knew I needed something to separate myself from the average planner, since almost everyone in the industry holds some kind of license. I held a Series 65, a Series 7, and a Series 6 along the way. Today I hold just the Series 65.
Since anyone with a Series 65 is already a fiduciary by law, I knew I needed to go further. I became a Certified Financial Planner, a designation far fewer people hold, and I leaned into my genuine love of economics because that is authentically me. I believe it also helps people make better decisions, because when you understand the trade offs and you understand the goal, you are able to make the right call. When there is a disconnect between your decision making process and the actual reward and cost, that is when we make poor decisions.
The Same Principle Applies Beyond College
I see this same disconnect play out in politics. People vote based on party identification without considering the actual reward of that vote. If we voted purely based on economics, we would hold our politicians far more accountable. It would not be about whether they can tell me how good I am. It would be about the trade off itself. Based on what I am giving you, what am I actually getting back?
The wealthiest people among us tend to understand this instinctively. Their relationship with politicians is never about whether they like them or whether they hear something they want to hear. It is about what contracts they will get, what laws will pass, and what decisions will be made in their benefit. I believe that is closer to the relationship we should all have with our government. My government doesn’t need to like me. I need that kind of relationship with my children, my wife, my parents, my friends, and my coworkers. Not with the government. What laws do I use to control you, and what laws do you use to control me, and how does our relationship benefit us both?
What I Wish Colleges Would Be Honest About
I think universities need to move toward that same kind of honest, mutually beneficial relationship.
Yes, I attend the college.
Yes, you grant me a degree.
Yes, on average that degree might mean an extra two million dollars over my lifetime.
But which specific degree programs are actually going to help me get the position I need? Are you cutting the programs that do not deliver real value, or at the very least, are you warning students honestly?
We all measure satisfaction differently, so if you are choosing a degree for a reason other than money, like the doctor who made a promise to his parents, that is wonderful. But if you believe a degree is going to make you a lot of money and the data shows it will actually leave you earning about the same as you would have without it, while adding four years of debt and four years of lost wages and lost experience, you deserve to know that before you enroll, not after.
We need more honest conversations like that. The more information we have, the better the decisions we are able to make, and the more mutually beneficial these economic relationships can become.
Dre Griggs, CFP®, MSAE, is the founder of Obsidian Wisdom, a fee only registered investment advisory firm specializing in tax smart retirement income planning for pre retirees and business owners. He also teaches economics at St. Johns River State College. This article is for educational purposes only and reflects personal opinion and experience. It is not financial, legal, or career advice.
P.S. If this got you thinking about the trade offs in your own life, whether that is a degree, a career change, or the bigger question of how you turn your time into lasting financial freedom, that is exactly the kind of thinking I help my clients apply to their retirement and their money. If you are within five to ten years of retirement and want to make sure your own trade offs are working in your favor, schedule your Retirement Stress Test and let us run the real numbers on your situation. Schedule your Retirement Stress Test here →
How Asset Location (Not Just Asset Selection) Determines How Much of Your Money You Actually Keep
I remember meeting with Mike and Susan. They were about 50 years old, and they had just sold their business about three years earlier. The sale generated about $1.8 million from the sale, and they did what most people would call the responsible thing. They diversified.
They put some in a 401(k). Some went into a Roth IRA. They set up a taxable brokerage account. They even had a rental duplex they’d owned for about 15 years.
On paper, things were looking really good.
But when you actually start opening the statements and looking through where the assets are located, that’s when things got a little funky.
What the Statements Revealed
Inside the brokerage account, for example, they had a bunch of bond funds and REITs. That impacts your ordinary income every single year, because you’re receiving that income whether you spend it or not.
Inside the 401(k), their fully tax-deferred account, they had a bunch of municipal bonds. Their thought was, “Well, I want to keep it safe,” which I respect. But municipal bond income is already tax-free. Putting it inside a tax-deferred account doesn’t make it more tax-free. It just wastes that shelter, and it turns future withdrawals of that municipal income into fully taxable ordinary income. Which I think you and I both agree is not fun.
Inside the Roth IRA, the account where you normally want your growth because it’s never taxed again, they had mostly stable value funds. That’s one of the least aggressive approaches, in the one account where you actually want your most aggressive money.
Here’s the thing. Nothing they owned was a bad investment. It was just a bad location. A bad address.
The $90,000 Question
Here’s a simple way to think about why this matters so much.
If I had to pay 10% taxes on $100,000, that’s $10,000. If I had to pay 10% taxes on $1 million, that’s $100,000. That’s a $90,000 difference.
So which one would you prefer to pay 10% taxes on?
Yes, in reality it wouldn’t be exactly 10% in both cases, but let’s make the math easy for the example. I would rather keep $90,000 more of my money. So let me pay the taxes earlier rather than later. If my most aggressive investments sit inside my tax-free account, I pay the taxes early on the smaller amount. If those investments grow, and I can’t promise you they will (past performance doesn’t guarantee future results, all those fiduciary checkmarks I have to say), all of that growth is never taxed again.
People think a lot about what their investments are. They want the best investment, the best return. But we don’t think nearly as much about the question that actually matters.
How much of my money do I get to keep?
“You Don’t Actually Have a Million Dollars”
When I think about retirement planning, where we bridge tax planning and investment planning, I think about it from your perspective. You say, “Hey, I have a million dollars.” I ask, “What account is it in?” You say, “It’s all in my 401(k).”
Okay. You don’t actually have a million dollars. Because Uncle Sam hasn’t taxed you yet, and he is going to tax that money. So let’s put a plan in place to help you keep the most possible amount of it.
Because at the end of the day, that’s what retirement is. Separating your time from your money. Having a big bag of money does not create a retirement income. It just gives you a big bag of money that you feel really good about, and I would feel really good about it, too. But if my money isn’t making more money for me, I haven’t really separated my time. I’ve just bought a little bit of it.
The safest thing you can do is have your money generating more money for you. If I have essentially a paycheck being generated from my investments, then retirement feels more like the stress we had with a job. I’m going to receive a paycheck every week, every two weeks, every month. I don’t have to get everything right for 30 years, I just have to get it right for 30 days. I just need to figure out how I maintain my lifestyle this month.
And that is ultimately why where your money is located is so important.
Quick intro in case we haven’t met. I’m Dre Griggs, a Certified Financial Planner™ and college economics professor. I started Obsidian Wisdom to help my clients separate their money from their time so they can retire and make work optional, and keep more of their money while giving Uncle Sam less of it.
The Three Buckets
When I help clients figure out where their money should be located, I use three buckets.
1. The Tax-Deferred Bucket. Money you didn’t pay taxes on today. For most of you, that’s your traditional IRA, your 401(k), your 403(b), or small business retirement accounts. Think SEP IRA, solo 401(k), SIMPLE. You get it. The small business accounts that are tax-deferred.
2. The Taxable Bucket. Just as it sounds. Money you pay taxes on as you go. Worth noting, you already paid taxes on it once, through the income taxes withheld before the money even hit your bank account. This is typically your brokerage account. Stocks, ETFs, mutual funds, dividends.
3. The Tax-Free Bucket. Your Roth IRA, your HSA, and municipal bonds, to name a few.
Now let’s talk about what goes where, and why.
What Belongs in the Tax-Deferred Bucket
The rule of thumb is simple. Anything that generates income on a regular basis belongs here.
Why? Because if that income sits in my taxable account, I know it’s going to be taxed as ordinary income every single year, whether I spend it or not. So think through what triggers taxable income.
Bonds. They’re paying me every year (or every month, depending on the bond), and that counts as taxable income unless it’s inside my tax-deferred account.
High-turnover mutual funds. Every time an active fund buys and sells, those transactions create little taxable events. A lot of people don’t realize that until they get that statement at the end of the year and go, “What’s going on?”
REITs. Again, anything generating income on the regular that I’m not interested in paying taxes on, on the regular. And if the dividends aren’t qualified, you’re not getting any tax savings anyway. Defer them, and then find the best opportunity for Roth conversions down the road.
What Belongs in the Taxable Bucket
The thought here is simple. If an investment already has some sort of preferential tax treatment, moving it somewhere else just wastes it. It’s already basically sheltered.
The goal of the taxable account is to have investments taxed at capital gains rates, which run 0 to 20%, versus tax-deferred money, which comes out at ordinary income rates of 0 to 37%. Capital gains is roughly half the tax rate. But capital gains treatment requires holding an investment for a year and a day.
So ask yourself what you would feel most comfortable leaving alone for a year and a day. Your long-term investments.
Long-term mutual funds and index funds that don’t do a lot of active trading.
ETFs you don’t expect to touch often.
Municipal bonds. Yes, here, not in the Roth. Munis are tax-free, but if you put a tax-free investment inside your tax-deferred account, you’ve messed that up. And if you put it in your tax-free account, which people assume makes sense (“well, it’s tax-free, so it’s tax-free”), you’ve wasted the one bucket where you want your highest growth, because that bucket is taxed at 0%.
One more overlooked benefit of the taxable account is tax-loss harvesting and the step-up in basis. Inside a tax-deferred account, your heirs generally will not receive a step-up in basis. But in your taxable account, you can offset losses against gains to pay less tax along the way, and your heirs may receive a step-up in basis if you pass the account on to a loved one.
What Belongs in the Tax-Free Bucket
Your highest-growth, most aggressive investments belong here.
Here’s the idea. If I have money that I expect to have significant growth, where I’ve found the next amazing, phenomenal Amazon, I’m going to use my tax-free account to buy it. And when that stock grows by 3,000%, all of that growth is tax-free.
Versus if I found my Amazon and put it inside my tax-deferred account. I haven’t paid taxes on any of it, which means all of that growth is going to be taxed as ordinary income. A lot of people go, “Ouch. If I knew that, I would not have put it in that account.”
I agree. Which is why I’m sharing it with you.
So the tax-free bucket is for the following.
Your highest-appreciation investments, the ones you’re buying low and plan to sell high in retirement, with all the growth in between never taxed.
REITs held purely for aggressive growth (if you’re focused on appreciation rather than the income, they move from the tax-deferred bucket to here).
Commodities or crypto, if a portion of your allocation is going there. That’s aggressive money, and aggressive money belongs where growth is taxed at 0%.
And notice what does not belong here. Your safe, already-tax-free investments. If a municipal bond pays 2 or 3%, part of the sell of that bond is that you keep all of it because it’s tax-free. Count the growth with the tax savings. Meanwhile, your “8% return” stock isn’t really 8%. It’s 8% minus taxes. Maybe that nets to 5%. And you’re like, “Oh, okay. I feel a little different about that.”
So you can see how important the location of the money ends up being.
The Simple Version
If I really had to simplify it for you, ask this of every investment.
If it’s taxed favorably where it sits today, leave it in your taxable account.
If it throws off ordinary income every single year, defer it.
If it’s the best growth engine you have, leave it in tax-free, forever.
Mike and Susan didn’t own bad investments. They owned good investments at bad addresses. Same portfolio, different locations, and thousands of dollars a year staying in their pocket instead of going to Uncle Sam.
Dre Griggs, CFP®, MSAE, is the founder of Obsidian Wisdom, a fee-only registered investment advisory firm specializing in tax-smart retirement income planning for professionals and business ownerswithin 20 years of retirement
P.S. If you found yourself wondering whether your investments are in the best location for you, and not for Uncle Sam, I invite you to take our free Tax Leak Assessment. You’ll answer 20 questions in less than five minutes, and it will show you which of the seven Tax-Smart stages you’re in and the biggest opportunity you have today to keep more of your hard-earned money and give less of it to Uncle Sam. If that sounds like a good idea, go to obsidianwisdom.com/assessment to get started.
How a Section 1042 Rollover Could Help You Defer Millions in Capital Gains When You Sell Your Business
Imagine you spent 30 years building a business. You started with almost nothing. You hired your first employees, built a customer base, and survived multiple recessions. You missed out on some vacations. You worked some weekends. And eventually, you built something — something that’s now worth $9 million.
So as you’re thinking about selling your business, you immediately realize: I’m going to owe more than $2 million in federal taxes.
But what if there was another option?
What if you could defer those federal capital gains taxes, create liquidity for yourself, give your employees ownership in the company, and potentially pass on the assets you purchase with the sale proceeds to your heirs — without ever paying the original deferred capital gains tax?
That’s under a little-known strategy called the Section 1042 rollover. But the rules are strict. The company has to qualify. The transaction has to qualify. And yes, the investments you purchase have to qualify. Get any one of those things wrong along the way, and Uncle Sam is very happy to give you back the original tax bill you thought you got rid of.
Today, I’m going to show you how the Section 1042 rollover works, who qualifies, what you have to do with the money after the sale, and how a business owner selling a company for $9 million could potentially defer more than $2 million in federal taxes.
Why Should You Listen to Me?
I’m Dre Griggs, a Certified Financial Planner™ and economist. I help business owners and people approaching retirement make sense of complex financial decisions like this one. My job isn’t to sell you one strategy — it’s to help you understand the rules, the trade-offs, and the risks so you can make a wise decision before millions of dollars are on the line.
The Problem: We Learn How to Build a Business, Not How to Leave One
Most business owners spend decades learning about the business — how to structure it, how to build a successful company. But we don’t spend nearly as much time learning how to leave the business. And that creates a huge amount of risk, because your business is probably your biggest asset.
Think about it. Your business could be:
Your retirement plan
Your income source
Your legacy
Your family’s financial security
All wrapped into one company.
Then one day you decide to sell. Maybe a competitor asked about it. Maybe a private equity firm made you an offer. Maybe you simply had enough of waking up at 5:00 in the morning wondering whether Mike is actually going to show up for work today.
You negotiate a sale. You agree on the price. You sign the documents. And then you have to figure out the tax bill.
The Tax Math That Shrinks a $9 Million Sale
While we don’t think about taxes a lot, Uncle Sam is always thinking about how to take our money.
Let’s imagine your stock has almost no cost basis. You sell $9 million worth of company stock. At a 20% long-term capital gains tax rate — plus the 3.8% net investment income tax — you could potentially owe more than $2.1 million in federal taxes. And that doesn’t even include potential state tax. (I’m in Florida, so that’s not a factor for me.)
You build a $9 million company, and you walk away with less than $7 million.
Now, paying taxes isn’t inherently a problem. The problem is selling the business before you understood all of your options.
Enter the ESOP and Section 1042
Under the right circumstances, a business owner may be able to sell stock to an employee stock ownership plan (ESOP) and defer those capital gains taxes under Section 1042 of the IRS code — potentially for the rest of their life.
So what’s an ESOP? Basically, we set up a trust that purchases the stock of the company and holds that stock on behalf of the employees.
The way I normally describe a trust to people: think of your HOA community. Based on the HOA fees they collect every month, they’re able to do things outlined inside the trust documents. They can pay to have grass mowed, roads paved, speed bumps put in — and send you those nasty letters. But they can’t buy themselves a Lamborghini. They have lots of options, but they don’t have unlimited options.
That’s the idea of an ESOP: selling a portion of my company to my employees, but in a way where certain rules have to be checked off before they receive it. The employees become beneficial owners of the company they helped build.
For the selling owner, the tax opportunity comes from Section 1042. If specific requirements are met — for the company, the stock, the ESOP, and the reinvestment proceeds (called Qualified Replacement Property, or QRP) — then instead of immediately recognizing the capital gains, the owner’s cost basis carries over into the replacement investments. The capital gains tax is deferred, kind of like a 401(k).
And here’s where the strategy becomes very powerful: under current law, if the owner holds the Qualified Replacement Property until death, the assets may receive a step-up in basis — potentially eliminating the original deferred capital gains for the heirs.
But this is not automatic. Uncle Sam is actually trying to trip you up. So let’s walk through the rules.
Rule #1: The Company Has to Qualify
At the time of the sale, the company must be a domestic C corporation. An S corporation doesn’t directly qualify for the Section 1042 exchange.
Some business owners may consider converting to a C corporation before a future ESOP transaction — but that’s not something you decide six weeks before selling your company. The way you structure your business has tax consequences, and changing the structure of your business has tax consequences. That’s why we want to think about this early, so we’re able to absorb the impact of that change over two or three years instead of two or three months.
Next, the seller generally must have held the stock for at least three years, and immediately after the transaction, the ESOP must own at least 30% of the company’s outstanding stock.
That doesn’t mean you have to sell the entire company. A qualifying sale could involve 30%, 35%, 50%, or yes — potentially 100%. But that 30% threshold matters.
Rule #2: You Have a Limited Reinvestment Window
After selling the stock, you can’t simply leave the money sitting in cash forever. You have a specific window to purchase Qualified Replacement Property.
The window begins three months before the sale (yes, before the sale — I know) and ends 12 months after the sale. That creates a total 15-month reinvestment window. There are no extensions.
Miss the window, and you may lose the opportunity to defer the gain. This is why an ESOP transaction requires coordination before the sale even happens.
Rule #3: You Can’t Invest the Money in Just Anything
This is probably one of the biggest misunderstandings I run into. Qualified Replacement Property does not mean mutual funds. It doesn’t mean ETFs. It doesn’t mean REITs or government bonds. And no — I’ve been hearing more about this lately — it doesn’t mean Bitcoin either.
QRP generally has to consist of securities issued by domestic operating companies that meet specific requirements. Common stocks can qualify. Certain corporate bonds and floating rate notes can also qualify.
But the rules are specific, which means the replacement portfolio has to be designed carefully. You’re not simply selling a concentrated business interest and putting everything into an S&P 500 index fund. You have to be very strategic and very intentional with how you build that investment portfolio.
Rule #4: Selling the QRP Can Bring the Tax Bill Back
The capital gains tax isn’t automatically forgiven — it’s deferred. Your original basis in the company stock carries over into the Qualified Replacement Property. If you later sell that QRP, the deferred gain generally becomes taxable, similar to how your 401(k) works.
That’s why many Section 1042 strategies are designed around holding the replacement assets for a very long time — potentially for the rest of your life. If the owner holds the QRP until death, the assets may receive that step-up in basis under current law, which is a very fancy way of saying you may eliminate the original deferred gain.
Here’s a simple way to think about a step-up in basis. Say I bought a property for $200,000 and it’s now worth $1 million. That’s an $800,000 gain I could be taxed on — Uncle Sam doesn’t tax me on my basis, the money I already invested. But if I pass away and the property goes to my heirs, they may receive a step-up in basis. Their basis becomes $1 million. If they sell it for $1 million, that’s essentially $0 of taxable gain.
Which, if you ask me, is pretty nice.
So the sequence looks like this: sell business stock → buy QRP → defer the capital gains tax → hold the QRP → pass away → heirs receive the potential step-up in basis → the deferred gain may disappear. That’s the long-term tax opportunity.
Rule #5: The Monetization Strategy (How You Actually Use the Money)
Now we get to the part that surprises most business owners.
You may be thinking: “Okay Dre, that’s interesting. I sold my business for $9 million, but now you’re telling me I have to invest $9 million into Qualified Replacement Property. So how do I actually use the money?”
Fair question. That’s where some business owners use a monetization strategy. They purchase the QRP, then borrow against the replacement securities. In some cases, lenders may provide loans based on a large percentage of the QRP’s value.
That borrowed money can provide liquidity for lifestyle spending, real estate purchases, other investments, taking care of your family — really any other financial goals you have. Meanwhile, you continue holding the QRP and maintaining the Section 1042 tax deferral.
But that is not free money. Borrowing introduces interest costs, market risk, collateral requirements, potential margin calls, and additional layers of complexity. That’s why this strategy normally requires coordination between ESOP professionals, your tax advisor, your attorney, your investment advisor, and the lending institution. It’s going to be a team of people.
Rule #6: The Anti-Allocation Rules
There’s one more important restriction. Shares sold under the Section 1042 election generally can’t be allocated back to the seller through the ESOP. They also can’t be allocated to certain family members of significant owners who are restricted under the rules.
Why? Uncle Sam doesn’t want to feel like you’re taking advantage of him. Congress didn’t create this strategy so a business owner could sell a company, receive tax deferral, and then indirectly receive the same shares back through an employee plan. The purpose is legitimate employee ownership.
Meet David: A $9 Million Example
Let’s put it all together.
David owns a manufacturing company. He spent more than 30 years building the business. The company is a C corporation. David’s basis in the stock is close to zero, and he’s ready to create liquidity and begin transitioning out. The business is valued at $9 million.
Path One — the standard sale: David sells his company stock. Assuming a 20% long-term capital gains rate plus the 3.8% net investment income tax, his potential federal tax bill is approximately $2.1 million. David walks away with roughly $6.9 million before other taxes and transaction costs.
Path Two — the Section 1042 route: David sells $9 million of qualifying company stock to his newly formed ESOP. Immediately after the transaction, the ESOP owns 35% of the company — satisfying the 30% ownership requirement. David elects Section 1042 treatment, and within the required reinvestment window, he purchases $9 million of Qualified Replacement Property.
The federal capital gains tax due in the year of sale? Potentially $0.
Instead of sending approximately $2.1 million to the federal government, David has $9 million invested in Qualified Replacement Property. He wants liquidity, so rather than selling the QRP and triggering the deferred gain, David works with his team of advisors and lenders and borrows against a portion of his portfolio — accessing liquidity while continuing to hold the replacement assets.
David holds the QRP for the remainder of his life. Under current law, when David passes away, the assets may receive a step-up in basis, and the original deferred capital gains may effectively disappear.
Same $9 million business. Completely different exit strategies. Potentially millions of dollars of difference.
Selling Your Business Isn’t One Decision — It’s Several
Most business owners think about selling their business as one decision: Who’s going to buy my company? But the reality is there are several decisions that lead up to that one:
How is the sale structured?
When does the sale happen?
How will the proceeds be invested?
How much tax will I have to pay?
How will retirement income be created from this exit?
What happens to my employees?
What eventually passes to my family?
The sale price is only one part of the outcome.
That’s why I believe business owners should begin planning their exit years before they actually want to leave — because once the transaction is signed, many of the most valuable decisions have already been made.
And sometimes the most expensive tax mistake isn’t paying too much in taxes. It’s discovering a strategy existed after you’ve already sold the business.
Dre Griggs, CFP®, MSAE
P.S. — If you’re a business owner within five to ten years of selling your company, one of the most important things you can do is understand your exit options before you receive your first offer. During our Retirement Stress Test and business owner planning process, we look at your income needs, your tax exposure, your business exit planning, your investment strategy, and how the decisions you make today could affect the wealth you eventually get to keep. The goal: make wise decisions about how you turn the value you’ve built into income, freedom, and a lasting legacy. Schedule your Retirement Stress Test here →
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The Question Every Retiree Needs to Answer Before the Next Market Crash
There’s one question that separates retirees who navigate market downturns with confidence from those who panic-sell at exactly the wrong moment:
Where is this year’s spending money coming from?
If you can’t answer that clearly – if the honest answer is “from whatever account I need to sell something out of” – then you don’t have a retirement income plan. You have a portfolio with a withdrawal rate, and those are not the same thing.
The three-bucket strategy is designed to answer that question before the crisis arrives, so you’re never making financial decisions in the middle of an emotional one.
The Problem It’s Built to Solve: Sequence of Return Risk
Picture this: you retire, the market is doing great, life is good. Then the market drops 30%. The bills still come. The mortgage still exists. The grocery store doesn’t care what the S&P 500 did this year. So what do most retirees do? They sell investments. Often at exactly the worst possible time.
This is sequence of return risk. A significant market decline in the early years of retirement can have a permanent impact on your portfolio because withdrawals and losses are happening simultaneously. It’s effectively a double withdrawal. The market is pulling the value down while you’re also pulling money out to live on.
The bucket strategy doesn’t eliminate market downturns. What it eliminates is the need to sell growth investments during one.
What Most People Get Wrong: Buckets vs. Blending
Here’s something I encounter constantly: someone tells me they already have a bucket strategy. When I ask them to show me what it looks like, what they actually have is a diversified portfolio and a withdrawal plan. One blended account with asset allocation across stocks, bonds, and cash, and a plan to pull from it as needed.
That’s not a bucket strategy. That’s a blended portfolio.
The critical distinction is when the money is earmarked to be spent. A true bucket strategy doesn’t just organize money by asset class. It organizes money by time horizon. Every dollar has a designated purpose and a designated window. And that structure exists before the market drops, not in response to it.
The retirees who successfully navigate downturns have already decided years in advance where their spending money will come from. The ones who struggle are making those decisions during the crisis itself. And that’s exactly when emotions become expensive.
The Three Buckets
Bucket 1: The Now Bucket (Cash/Safety — Years 1 to 3)
Your first bucket is your cash bucket. The money you live on right now. This is typically one to three years of living expenses set aside in safe, liquid accounts.
What goes here: Cash, money market accounts, CDs.
The purpose: Peace of mind. When the market is down 25% and the news is alarming, you’re not forced to do anything. You know you have two or three years of income that has nothing to do with what the S&P 500 is doing. You can wait. Historically, recessions last about a year. Sometimes two, occasionally three. Bucket one covers that window entirely.
This is where the psychological value of the strategy becomes concrete.
You don’t need to sell anything.
You don’t need to make a decision.
You just spend from the cash that was already set aside for exactly this situation.
Bucket 2: The Soon Bucket (Income — Years 3 to 8)
Your second bucket is your refill bucket. The income-generating money that will eventually replenish Bucket 1 and carry you through the middle years of retirement.
What goes here: High-quality bonds, bond ladders, Treasury Inflation-Protected Securities (TIPS), conservative and dividend-paying value stocks, balanced funds.
The purpose: Stability and inflation protection. This bucket isn’t trying to generate aggressive growth. It’s trying to keep pace with inflation, targeting roughly two to five percent returns. The trade-off is liquidity and predictability over performance.
Bonds deserve a quick explanation here, because a lot of people confuse them with stocks. When you buy stock, you’re buying equity . You become a partial owner of a company and your return depends on how that company performs. When you buy a bond, you’re lending money. The borrower, whether it’s a corporation, a municipality, or the U.S. government. Agrees to pay you back with interest over a set period. The return is contractual, not performance-based. That’s why bonds belong in this middle bucket: in a recession, companies still make their debt payments even when their stock price is falling.
A bond ladder takes this further. You stagger multiple bond contracts so that one matures every year, giving you a predictable income stream that doesn’t depend on selling anything. Bonds purchased today in 2026 pay out in 2031. Bonds purchased next year pay out in 2032. And so on.
Bucket 3: The Later Bucket (Growth — 8+ Years Out)
Your third bucket is your long-term growth engine. The money you won’t need to touch for at least eight years, invested aggressively enough to outpace inflation and grow your wealth over time.
What goes here: Equities (stocks), real estate, your business, commodities, and alternative investments like gold or crypto if that’s part of your strategy.
The purpose: Growth. Targeting eight percent or more annually, this bucket is designed to fund the later decades of your retirement. You won’t touch it during a recession, and you don’t need to, because Buckets 1 and 2 cover you. That protection allows this bucket to do what growth assets are supposed to do: recover, and then keep climbing.
The math behind this is worth sitting with. Historically, roughly eight or nine out of every ten years in the market are positive. You don’t want to be so conservative that you miss eight years of growth trying to protect against two. The bucket strategy lets you be aggressive with Bucket 3 precisely because you’ve protected Bucket 1.
How the Buckets Work Together: The Refill Process
In a normal environment, you live off Bucket 1. At the end of each year, you evaluate where markets stand.
If Bucket 3 (growth) has performed well: Sell a portion, replenish Bucket 1 back to your target, and refill Bucket 2 as needed. Life continues without interruption.
If there’s a recession and Bucket 3 is down: Leave it alone. Don’t sell anything in the growth bucket. Instead, lean on Bucket 2. Your bonds and conservative income assets. These continue generating contractual returns regardless of what the stock market is doing. Use Bucket 2 to refill Bucket 1 while you wait.
Once the recession has passed and Bucket 3 has recovered. Typically within one to three years historically, you return to the normal process: sell from growth to refill income and cash.
The entire system is designed so you never have to sell a growth investment at a depressed price. The growth bucket only gets touched when the market is giving you a favorable exit.
The Psychological Benefit Is Not a Footnote — It’s the Point
Here’s something the math alone doesn’t capture: the bucket strategy protects behavior as much as it protects money.
Imagine two retirees watching the market fall 40%. The first retiree sees their entire portfolio dropping and feels that knot in their stomach. They want to sell. They want to do something. The second retiree sees two years of spending sitting safely in cash. They know next month’s income has nothing to do with what happened today in the market.
The second retiree doesn’t panic. And better behavior in retirement… not selling low, not making emotional decisions during market stress . Often leads to better financial outcomes than slightly better asset allocation or a marginally higher return.
Knowing that you’re covered isn’t just comfort. It’s a competitive advantage.
A Real Example: Derek, Age 45
Most people assume the bucket strategy conversation starts at retirement. It doesn’t. The best time to design your buckets is years before you need them.
Derek is 45, works as an engineer, and plans to retire around 60. He has a pension that will cover part of his income, but no formal bucket structure in place yet.
Walking through the numbers now, Derek estimates he’ll need approximately $90,000 in Bucket 1 at retirement. About two years of discretionary spending beyond his pension. Bucket 2 may need roughly $200,000 in bonds and conservative investments. Everything else stays in Bucket 3 for long-term growth.
The important point isn’t that Derek funds those buckets today. It’s that he knows what he’s building toward. Instead of being 100% in growth stocks until the week before retirement and then scrambling to restructure, he can gradually shift into the right structure over the next 15 years. That’s what intentional planning looks like.
Blended Portfolio vs. Bucket Strategy — The Contrast in a Crisis
Blended portfolio in a recession: Market crashes → income is needed → stocks get sold at a loss → stress increases → fear increases → emotional decisions follow → portfolio recovery is slower
Bucket strategy in a recession: Market crashes → spending continues from Bucket 1 (cash) → Bucket 2 covers the refill → Bucket 3 is left alone to recover → no panic, no emergency selling, no guessing
The difference between these two retirees isn’t intelligence. It isn’t income or savings rate. It’s preparation. Having a system in place before the crisis, not during it.
Is Your Portfolio Actually Built Like a Bucket Strategy?
Most financial plans mention buckets somewhere. Very few actually implement them. If you’re not sure whether your current portfolio truly functions as a three-bucket system — with distinct time horizons, a refill process, and a clear answer to “where will my spending come from during a downturn?” That’s exactly what a retirement stress test helps you figure out.
A good stress test looks at where your income will come from in a down market, how your buckets should be structured for your specific spending needs, and whether your portfolio is designed to survive a recession without forcing you to sell at the worst possible time.
Retirement isn’t about predicting what the market will do. It’s about preparing for multiple versions of the future. The three-bucket strategy is one of the most practical tools available for doing exactly that.
Until next time,
Dre Griggs, CFP®
P.S. – Want to find out if your retirement income plan is built for confidence or uncertainty? Schedule a retirement stress test at obsidianwisdom.com/appointment
Here’s something I tell every business owner I work with. The U.S. tax code is not a punishment system. It’s an incentive system. Uncle Sam uses the tax code to encourage behavior he wants to see… real estate investment, charitable giving, job creation, innovation. And if you’re willing to do those things, the government will reward you with tax breaks.
Business owners are at the top of that incentive list.
You took a risk.
You created jobs.
You built the tax base that funds government programs.
Uncle Sam recognizes that, and the tax code reflects it. If you know where to look. Here are the tools business owners have that W-2 employees simply don’t.
Solo 401(k) — For the One-Person Shop
The Solo 401(k) is exactly what it sounds like: a 401(k) designed for self-employed individuals with no full-time employees. (Your spouse is the one exception. They can participate without disqualifying the plan.)
What makes it powerful is that you get to contribute from two roles simultaneously:
As the employee: you can contribute up to $23,500 in 2026 (or $31,000 if you’re 50 or older, thanks to catch-up contributions)
As the employer: you can contribute up to 25% of your net self-employment income on top of that
Together, these can stack up to $70,000 per year in total contributions. That’s significantly more than a standard workplace 401(k).
And here’s what a lot of people don’t know: the Solo 401(k) can be structured as Roth. That means after-tax contributions that grow completely tax-free. Something traditional SEP IRAs don’t offer. If you’re in a position to contribute and you’re in a lower income year, the Roth Solo 401(k) is worth serious consideration.
SEP IRA — Flexible for Any Business Size
The SEP IRA (Simplified Employee Pension) is one of the most straightforward retirement accounts available to self-employed people and small business owners. It’s simple to set up, easy to administer, and allows contributions up to $70,000 per year (or 25% of compensation, whichever is less).
The key difference from the Solo 401(k): if you have employees, you’re generally required to contribute the same percentage of compensation for them as you contribute for yourself. That makes it more appropriate for sole proprietors or very small businesses. It’s also entirely pre-tax. There’s no Roth SEP IRA option.
Used alongside a conversion strategy during lower-income retirement years, the SEP IRA can be a powerful tool for both reducing taxes now and building wealth for later.
Defined Benefit Plan — The Pension You Create for Yourself
This one is less common, but for the right situation, it’s the single most powerful retirement tax shelter available.
A defined benefit plan is essentially a private pension that you fund and control. Unlike a 401(k) or SEP IRA, where the contribution is defined. A defined benefit plan sets a target benefit (a specific monthly income at retirement) and works backward from there to determine how much needs to be contributed now.
For high-income earners over 50, the required contribution to fund the promised benefit can be massive. In some cases $150,000 to $300,000 or more per year. All of it tax-deductible.
The trade-off: defined benefit plans are more complex and expensive to administer. They require an actuary to calculate required contributions each year, and if investment returns fall short, you may need to contribute more the following year. But for a self-employed professional with a high income and limited time before retirement, no other vehicle shelters more money faster.
The QBI Deduction — 20% Off Your Business Income
The Qualified Business Income (QBI) deduction is one of the more overlooked tax benefits for small business owners. If you operate as a sole proprietor, partnership, S-corporation, or LLC, you may be able to deduct up to 20% of your qualified business income from your federal taxes.
That’s a deduction on your income itself. If your business earns $200,000 in net income, the QBI deduction could reduce your taxable income by $40,000 without changing a single thing about how you run your business.
Income limits and business-type restrictions apply, so not every business owner qualifies for the full deduction, and certain service-based businesses face phase-outs at higher income levels. But for those who do qualify, it’s one of the cleanest ways to lower your effective tax rate on business income.
Mega Backdoor Roth — Building Tax-Free Wealth on a Larger Scale
High earners often find themselves phased out of direct Roth IRA contributions based on income limits. The workaround most people know is the backdoor Roth. Contributing to a traditional IRA and converting it to Roth, bypassing the income limit entirely.
The mega backdoor Roth takes this further. Inside a Solo 401(k), contributions beyond the standard employee limit (up to the $70,000 total cap) can be made with after-tax dollars. Those after-tax contributions can then be converted to Roth within the plan.
The result: you can potentially move significantly more money into tax-free territory than any standard Roth contribution would allow up to $70,000 per year in total, with the after-tax portion growing completely tax-free from that point forward.
Not all 401(k) plans support this strategy, and it requires a plan document that explicitly allows after-tax contributions and in-plan conversions. Solo 401(k)s can often be structured to accommodate this.
Case Study: Marcus
Marcus is 54 and runs a successful consulting firm, earning $300,000 per year. He plans to sell the business in six years. He’d been contributing to a SEP IRA but hadn’t fully optimized his strategy.
By combining his SEP IRA (maxed at $69,000/year) with a new defined benefit plan (sheltering an additional $150,000/year), he was able to put nearly $220,000 per year beyond Uncle Sam’s reach.
Over six years, that’s roughly $900,000 sheltered from taxes. Generating an estimated $297,000 in tax savings before he ever gets to the business sale conversation.
The lesson: for business owners in high-income years with a finite runway before selling or retiring, these tools can compress decades of tax-efficient wealth building into a shorter timeframe.
The Bigger Picture
I want to say something to the business owners who are reinvesting everything back into the business and putting retirement planning on the back burner: I get it. Your business is your highest-returning investment, and there’s a logic to doubling down on what you know.
But from a risk perspective, having everything tied to one asset, even a thriving business… is a concentrated bet. Using some of your stronger years to fund a Solo 401(k), SEP IRA, or defined benefit plan doesn’t slow down your business. It builds a diversified financial foundation alongside it. And as a bonus, it reduces your tax bill in the years you need it most.
The year your business has a record-breaking quarter is exactly the year to pick up the phone and ask: is there anything we can do to keep more of this?
Until next time,
Dre Griggs, CFP® | Wisdom Equals Freedom
P.S. – Not sure how to maximize your minimize, while minimizing the risk? Take the Tax-Smart Retirement Stage Assessment for free. Go to obsidianwisdom.com/assessment
You’re Already Going to Give. Let’s Make It Tax-Free
Here’s one of my favorite strategies, because it requires almost no change to what you’re already doing. If you’re a retiree over 70½ who donates regularly to a church, mosque, synagogue, food bank, or any qualified nonprofit. The Qualified Charitable Distribution (QCD) could eliminate the taxes on those dollars entirely.
Most people have never heard of it. Once they understand it, they wonder why nobody told them sooner.
The Problem With the Traditional Approach
Here’s how most charitable retirees handle their giving:
Take their Required Minimum Distribution (RMD) from their IRA
The money hits their bank account and is counted as taxable income
Write a check to their charity of choice
The hope is that the charitable contribution can be written off as a deduction. But here’s the catch: since 2018, the standard deduction has been high enough that the majority of Americans no longer itemize their deductions. If you’re taking the standard deduction, that charitable contribution doesn’t reduce your taxes one bit.
You paid full ordinary income tax on the RMD, and then the donation provided no tax benefit. Uncle Sam got his cut regardless.
The QCD Fixes This Completely
A Qualified Charitable Distribution works differently. Instead of receiving the RMD yourself and then donating it, you direct the money straight from your IRA to the charity. It goes directly from the account to the organization.
Because the money bypasses you entirely, the IRS does not count it as income. None of it shows up on your tax return as taxable income.
And here’s the part that makes it even better: it still counts toward your RMD. Dollar for dollar, a QCD satisfies your Required Minimum Distribution for the year.
The Benefits Add Up Quickly
✅ Zero taxable income — the distribution doesn’t appear as income on your return
✅ RMD satisfied — no penalty, no compliance issue
✅ Works even with the standard deduction — you don’t need to itemize to benefit
✅ Lowers your overall AGI — which can reduce how much of your Social Security gets taxed (more on that in the Social Security post)
✅ You can give up to $111,000 per year via QCD in 2026
That last benefit is the impact on Social Security taxation, which is often overlooked. Your Social Security tax is calculated based on your adjusted gross income. A lower AGI means less of your Social Security is taxed. The QCD creates a ripple effect of tax savings beyond just the charitable gift itself.
A Simple Example: Margaret
Margaret is 74 and gives $12,000 per year to her church. For years, here’s how it worked:
She took a $12,000 RMD from her IRA
Paid $2,640 in taxes on that distribution (at a 22% rate)
Then wrote a $12,000 check to her church
Every year, $2,640 went to Uncle Sam that didn’t need to.
After learning about the QCD, Margaret contacted her IRA custodian and arranged for $12,000 to be sent directly from her IRA to her church. Her RMD is satisfied. The $12,000 is never counted as her income. Her taxes on that amount: $0.
She saves $2,640 every single year — just by changing the method of giving, not the amount.
Who Qualifies?
You must be age 70½ or older
The funds must come from a traditional IRA (not a 401(k) directly, though you can roll to an IRA first)
The recipient must be a qualified 501(c)(3) organization — churches, synagogues, mosques, food banks, and most nonprofits qualify; donor-advised funds do not
The maximum QCD is $111,000 per year per person in 2026 (married couples can each do $111,000 from their respective IRAs)
One Thing to Watch
The QCD has income percentage limits. You can’t give everything you have via QCD. But for most retirees who are giving a fixed amount to causes they already support, the limit is rarely an issue. The amounts most people give are well within what’s allowed.
The Bottom Line
If you’re over 70½ and you’re already giving to charity, the QCD is one of the easiest wins in retirement tax planning. You give the same amount you were always going to give. All while satisfying your RMD. You pay zero taxes on those dollars. And you might even reduce the tax on your Social Security in the process.
The only thing that changes is how the money gets to the charity.
Until next time,
Dre Griggs, CFP® | More Wisdom. Less Worry.
→ Wondering if your retirement strategy is truly tax efficient? Take the Tax-Smart Retirement Stage Assessment at https://obsidianwisdom.com/asessment
The Number That Should Wake Every Pre-Retiree Up
The average American pays approximately $250,000 in unnecessary taxes over the course of their retirement. Not because they did anything wrong. Not because they broke any rules. Simply because they never had a tax plan , and Uncle Sam was more than happy to fill in the gap.
This is what I call the retirement tax trap. And the first step to escaping it is understanding where your money actually lives.
The Three Tax Buckets
Every dollar you’ve saved for retirement sits in one of three buckets. The bucket it’s in determines when and how much you’ll be taxed. Most Americans have almost everything in just one bucket, and it’s the most expensive one.
Bucket 1: Pre-Tax (Tax-Deferred)
This is the bucket most people know best. Your traditional 401(k), 403(b), TSP, or traditional IRA lives here. You got a tax deduction when you put the money in — which felt great at the time — but every dollar you pull out in retirement is taxed as ordinary income.
The original idea made sense: contribute during your high-earning years, withdraw during retirement when your income is lower, and pay taxes at a lower rate. The problem is that assumption gets shakier every year.
Consider: the U.S. carries $39 trillion in national debt. Government spending shows no signs of slowing. And even if tax brackets don’t change, inflation alone can push retirees into higher brackets over time. Simply because costs rise and income needs to rise with them.
The pre-tax bucket isn’t bad. But having everything in it is a problem.
Bucket 2: Taxable (After-Tax Brokerage)
This is money in a regular brokerage account … funded with after-tax dollars, so you’ve already paid income tax on what you put in. When you sell investments that have been held for more than a year, any gains are taxed at the capital gains rate, which is substantially lower than ordinary income rates.
Here’s what the 2026 capital gains brackets look like:
Tax Rate
Single Filer
Married Filing Jointly
0%
Under ~$48,000
Under ~$97,000
15%
Up to ~$533,000
Up to ~$600,000
20%
Above ~$533,000
Above ~$600,000
Compare that to ordinary income rates, which run from 10% all the way to 37%. Capital gains are taxed at roughly half the ordinary income rate. That’s a significant advantage — and it’s why building up this bucket matters.
Bucket 3: Tax-Free
This is where every retirement saver should aspire to have more money. Tax-free accounts include:
Roth IRA: you pay taxes on contributions, but growth and qualified withdrawals are completely tax-free
Roth 401(k): same tax-free benefits with higher contribution limits
HSA (Health Savings Account): triple tax advantage: contributions are tax-deductible, growth is tax-deferred, withdrawals for qualified healthcare expenses are tax-free
Municipal bonds: interest income is typically exempt from federal taxes
Money in this bucket works for you in retirement without triggering a tax bill. No required minimum distributions on Roth accounts. No provisional income calculations inflating your Social Security tax. No bracket creep. Just income you get to keep.
Why Most Americans Are Stuck in Bucket One
If most of your retirement savings are in a 401(k) or traditional IRA, you’re not alone. That’s true for the majority of American workers. Employer plans, payroll deductions, and the immediate tax deduction made those accounts easy to fund.
But here’s the hard truth: if you retire with $1,000,000 in a traditional 401(k), you don’t actually have a million dollars. Depending on your tax situation, 20–30% of that balance belongs to Uncle Sam. That’s $200,000 to $300,000 that isn’t yours. It’s been sitting in your account, but it was always earmarked for the IRS.
The goal of tax-smart retirement planning is to change that equation, to shift as much as strategically possible into the taxable and tax-free buckets so that the money you retire with is actually the money you keep.
The Best Withdrawal Order in Retirement
Understanding the three buckets also helps you know which one to draw from first. The general framework most financial planners recommend:
Taxable accounts first: capital gains rates are favorable, and drawing these down simplifies your tax picture over time
Pre-tax accounts second: Required Minimum Distributions (RMDs) will eventually force withdrawals from here anyway; coordinating the timing helps you control the bracket impact
Tax-free accounts last: let Roth and HSA money keep growing as long as possible; no RMDs, no income tax, and the easiest accounts to leave to heirs
There are situations where it makes sense to draw from pre-tax accounts earlier. Particularly if the balance is large enough that waiting creates an RMD problem later. But in almost every scenario, tax-free money comes out last.
The Takeaway
Understanding the three buckets is the foundation of every tax-smart retirement decision you’ll make. Where your money lives determines how much of it you actually get to keep. Most Americans have almost everything in the most expensive bucket by default. Not because it’s the best choice, but because nobody ever laid out the alternatives clearly.
Now you know. The next question is what to do about it. Start by looking at how your savings are currently split across these three buckets. If you’re heavily concentrated in pre-tax accounts, even small steps toward building tax-free and taxable balances can have a meaningful long-term impact.
The $250,000 that the average retiree loses to unnecessary taxes doesn’t disappear all at once . It leaks out gradually, year after year, through decisions that could have been made differently with the right plan in place. That plan starts here.
Until next time,
Dre Griggs, CFP®, MSAE |More Wisdom. Less Worry.
Ready to optimize your retirement and minimize taxes? Take the Tax-Smart Retirement Stage Assessment and discover your personalized next steps for a wiser financial future https://obsidianwisdom.com/assessment
Robert and Sandra Seemed to Have It All Figured Out
Robert was done. After 30 years in a high-stress career, he hit 62 and decided it was time to stop. His wife Sandra, on the other hand, genuinely loved her work… the relationships, the routine, the sense of purpose. She planned to keep going.
So their retirement plan made perfect sense on the surface: Robert would retire and start collecting Social Security at 62, Sandra would keep her paycheck coming in, and together they’d maintain their lifestyle without missing a beat.
Logical. Reasonable. And it cost them $148,000.
The Mistake: Assuming Retirement and Social Security Must Happen Together
Here’s the core of the problem. Robert and Sandra, like so many couples, assumed that the moment you stop working, you start claiming Social Security. But those are two separate decisions, and treating them as one is where the money quietly disappears.
How Social Security Timing Actually Works
You can claim Social Security as early as age 62, but you’ll take a significant reduction in benefits. Here’s a simple breakdown:
Age 62 – Earliest you can claim; benefits are reduced
Age 67 – Full Retirement Age (FRA); you receive your full benefit
Age 70 – Maximum benefit; benefits stop increasing after this point
For Robert, his full benefit at age 67 would have been $2,400/month. By claiming at 62, he only received $1,680/month. A shortfall of $720 every single month for the rest of his life.
Running the Numbers: The Break-Even Analysis
At what point does waiting actually pay off? Here’s the math:
By waiting until 67 instead of claiming at 62, Robert would miss out on 60 months of payments at $1,680/month. That’s $100,800 in foregone income during those five years.
But once he hits 67, he gains $720/month more than he would have received. To break even on that $100,800, he’d need 140 months or about 11.5 years. That puts the break-even age at 78 and a half.
What About Life Expectancy?
It’s tempting to look at the average American life expectancy — around 74 for men, 78 for women — and assume waiting doesn’t pay off. But here’s the nuance: those averages include people who pass away early in life from accidents, illness, and other causes.
If you filter for people who make it to age 60 or 65, the average life expectancy jumps to around 83 years. And for men who reach 62? They tend to live well into their mid-eighties. That means Robert’s break-even age of 78.5 is well within reach and every year beyond that is pure gain.
The Part Most Couples Completely Overlook: The Survivor Benefit
This is where the real $148,000 mistake lives.
Most people know that Social Security is tied to your earnings. The more you earned, the higher your benefit. What most couples don’t think through is what happens when one spouse passes away.
When a spouse dies, the surviving spouse doesn’t collect both checks. They keep only the higher of the two. That means the higher earner’s benefit becomes the foundation of the surviving spouse’s financial security for the rest of their life.
Why Robert’s Early Claim Hurt Sandra the Most
Robert was the higher earner. Statistically, he was also likely to pass before Sandra. So when Robert claimed early and locked in a reduced benefit of $1,680/month, he wasn’t just shortchanging himself. He was cutting Sandra’s future survivor benefit by 30%.
Had Robert waited until his full retirement age of 67, Sandra’s survivor benefit would have been based on his full $2,400/month. Had he waited until the maximum age of 70, his benefit would have been even higher, and Sandra’s survivor benefit would have reflected that increase.
The math, assuming Sandra lives to 85, looks like this:
Scenario
Sandra’s Monthly Survivor Benefit
Robert claims at 62
~$1,680/month
Robert waits to 70
~$2,976/month
Difference
~$1,300/month
Over the years between Robert’s passing and Sandra’s, that gap compounds into $148,000 in lost income.
The Tax Problem Nobody Talks About
There’s another layer to this that catches couples off guard: taxes.
Up to 85% of your Social Security benefits can be taxed if your combined income exceeds $44,000 per year. With Sandra still working, their household income was already pushing against (or past) that threshold. That means Robert’s early Social Security payments weren’t just reduced; a large portion of them was being handed back to Uncle Sam.
Waiting to claim Social Security isn’t just about getting a bigger check. It’s also about giving yourself flexibility to do Roth conversions and tax optimization during the years before benefits begin. Reducing your taxable income, lowering Medicare premiums, and setting up a more tax-efficient retirement overall.
What Could Robert and Sandra Have Done Instead?
The good news is there were options:
Bridge the income gap with Roth conversions or distributions from investment accounts during the years Robert wasn’t working but hadn’t yet claimed Social Security
Find a less stressful job. Robert was burned out, not necessarily done with all work
Let Sandra’s income carry the lifestyle while Robert’s Social Security continued to grow at its guaranteed 8% annual increase
Coordinate claiming ages strategically. Perhaps Sandra claims early, Robert waits to 70, maximizing the survivor benefit while still keeping cash flowing
The goal isn’t to follow a rigid rule. It’s to look at the full picture and build a strategy… not just a reaction to burnout or the fear that Social Security might not be around.
A Note on Social Security’s Future
You’ve probably heard the concern: Social Security is running out of money. Here’s the accurate version of that story.
Around 2032, the Social Security surplus. Extra funds built up when more people were working than drawing benefits is projected to run out. At that point, benefits would be funded solely by current payroll tax revenue. The projected result is that recipients would receive approximately 70% of their expected benefit, not zero.
That means if you were expecting $2,976/month, you’d receive around $2,080/month. Still meaningful. And still a reason to maximize the benefit you’re entitled to. Because 70% of a larger number is still better than 70% of a smaller one.
How to Start Thinking About Your Own Social Security Strategy
You don’t need a financial planner to take the first step. Here’s a simple framework:
Identify the higher earner. Visit ssa.gov to pull your most recent Social Security statement. It’s free, and it shows your projected benefit at 62, 67, and 70.
Protect the higher benefit. Build your strategy around maximizing the check that will ultimately become the survivor benefit.
Run your own break-even analysis. How long do you need to live for waiting to pay off? Factor in your health, your family history, and your financial picture.
Look at the tax implications. How will claiming at different ages affect your taxable income, Medicare premiums, and Roth conversion opportunities?
Build a full strategy, not a reaction. Retirement and Social Security are two separate decisions. Make them separately and intentionally.
The Bottom Line
Robert and Sandra didn’t make a reckless decision. They made a reasonable one. Based on emotion, circumstance, and incomplete information. That’s exactly how a $148,000 mistake happens.
The real error wasn’t retiring early. It was assuming that retirement and Social Security had to happen at the same time, and not accounting for the long-term impact on a surviving spouse.
With the right strategy, the outcome can look very different.
Ready to Build Your Wealth Retirement Strategy?
If this resonated with you — or made you wonder what your Social Security strategy should look like. We’d love to sit down with you.
Come with your questions. Leave with a clearer picture of the retirement you’ve worked hard to build.
— Dre Griggs, CFP® | Founder, Obsidian WisdomHelping you have a little more wisdom and a little less worry.
P.S. – Obsidian Wisdom hosts a free Wealthy Retirement Dinner where Certified Financial Planner Dre Griggs walks through strategies like this one in depth, over a complimentary meal, with no obligation.