First up, thanks to all of you who took the time to write in last week about the retirement coaching series. Your input was great, and we will start with the first one next week. Look for it in this spot.
The topic this week: Beating taxes on your RMDs.
The RMD (required minimum distribution) that hits everyone’s tax-deferred accounts – IRAs and 401(k)s – at age 70 1/2 can be a real problem and an expensive one, too, if you miss it or don’t plan for it.
Everyone must take a minimum amount out of their tax-deferred account after age 70 1/2 that is based on the account value and your life expectancy. This can cause all kinds of tax problems if the unexpected amount bumps you into a higher tax bracket or if you don’t do it. There are hefty penalties. How does a 50% penalty sound?
For those of us who have done a good job saving for retirement, these RMDs have become a problem. But here’s something that might make them a bit more palatable.
You do not have to take cash out of your account to meet the RMD. You can transfer the annual amount required in stock. You do not have to liquidate holdings to meet the required minimum.
This gives us a little wiggle room and a way to legally beat some taxes.
Consider transferring shares out of your account rather than cash. Here’s why.
Let’s suppose you have a $5,000 RMD. If you transfer cash out of the account, you are hit with regular income taxes on that amount. Done. End of conversation.
But if you transfer shares that have dropped in value, whose current market value is equal to the required $5,000, and the shares have a good chance of appreciating down the road, you can get out more future value than just the RMD and only be taxed on the current market value of the stock.
The companies that come to mind right now are energy and energy services. Some are off 30% to 50%, and I know at some point down the road almost all of them, except the weakest, will recover.
A stock that is off 30% to 50% when it is transferred out of a tax-deferred account allows you to withdraw 30% to 50% more future value. When the stock runs back up – let’s say by 30% – you just beat the taxes by about $1,500 on a $5,000 RMD.
Yes, if you liquidate the position outside of the IRA you still have capital gains taxes. But as long as that rate is less than your personal income tax rate, you win. You pocket the difference.
And as the amounts increase, obviously, so do the savings.
I wish there were a way to avoid this issue completely but I haven’t found it, not yet. So, until then, this will have to suffice.
As with all tax issues, consult your accountant or tax preparer and make sure this will fly for your particular situation.
Believe me, you don’t want the IRS on your back over a RMD! A 50% penalty on the amount you were required to withdraw, plus the tax due, is a real kick in butt at a time when you can least afford it.
That’s it. Look for the first retirement coaching Two-Minute next week. Thank you again, and I’ll see you next week.