You have probably been stressed out about the challenge of saving for retirement, just wait until you have to start taking money out of your retirement accounts AND avoid a huge tax bill. This might not be you but the taxes on your deferred retirement accounts can eat up as much as 70% of your retirement income and savings.
I don’t know about you but I know I don’t want to see that amount of money being paid to the government. I’d rather keep it for myself, my family and my legacy. So how do we position ourselves in order to keep most of our retirement money instead of paying taxes.
I have three options for you that will help you avoid the tax-deferred trap that most Americans will be faced with when they flip the retirement switch!
Timing Your RMD Withdrawal
Required Minimum Distributions or RMDs are a mandatory withdrawal from your retirement accounts when you reach the age of 73. This is all inclusive of a standard IRA and 401(k) plans.
The first RMD must be taken by April 1st of the year following your 73rd birthday, and all successive RMDs must be taken by December 31st every year after until your death. For example, if your 73rd birthday is in 2023, your first RMD must be taken by April 1st, 2024.
RMDs are taxed at ordinary income tax rates. The old adage is that you will be paying less in income taxes at retirement time because you will be making less income. In my opinion, this is total bunk… I call BS.
The SECURE Act 2.0 signed into law in late December 2022 contains several changes affecting RMDs. The first SECURE Act increase the age for RMDs from 70½ to 72 and with SECURE 2.0 increases from 73 with another increase to age 75 later on.
If you miss your required minimum distribution, you will be penalized an excise charge of 25%. With an IRA, you can re-file your tax returns if you correct the issue and only have a 10% excise tax penalty.
Not knowing the math and mistakenly taking less of your required minimum distribution is still problematic. You should consider consulting with a real live CPA to avoid underpayment of your RMD. Say you calculate a $5,000 distribution instead of the required $20,000 on one of your retirement accounts. You will be charged the 25% penalty on the remaining $15,000 by IRS.
RMD calculation can be difficult. The amount you must withdraw each year to satisfy RMDs will be different every year. It’s not just a single amount that is easy to put on your tax return. Your RMD is based on your current age at distribution, life expectancy and total account balance as of December 31 of each year.
Keep in mind that life expectancy changes every year.
Sequencing Retirement Withdrawals
Refrain from giving in to the temptation of short-term gain while deciding whether or not to withdraw funds from a retirement account such as an individual retirement account (IRA), employer-sponsored retirement plan (401(k), or Roth IRA) to make ends meet. The cost of not taking advantage of a Roth IRA distribution could be higher than the tax savings.
Instead, it’s best to take money out of tax-deferred accounts first and wait as long as possible to touch Roth IRAs.
Skeptical? Take the example of a 73-year-old in the 24 percent tax bracket who withdraws $18,000 from a regular IRA: They have a tax bill of $4,320 to pay. Withdrawing the same amount from a Roth IRA would incur no tax liability. On the other hand, if this person didn’t have to draw an RMD from their Roth IRA and let it grow at 7% per year for another ten years, the account balance would be $35,409. Earnings in a Roth IRA are not subject to taxes when withdrawn by the account holder or their beneficiaries.
Learn the ins and outs of receiving payments.
With retirement rapidly approaching, you may face the challenge of deciding how to withdraw funds from multiple retirement accounts held at various institutions.
Can you imagine having to drain every single one of your bank accounts? Most likely not.
Withdrawals can be made from any of your traditional IRAs if you have more than one. It could be more cost-effective to consolidate your financial holdings into a single IRA and remove the funds simultaneously.
Consider merging your many IRAs into a single account for less administrative burden, more accurate projections of future withdrawals, and more discretion over your portfolio’s composition.
To sum up
You can lessen the financial impact of the government’s taxation on retirement plan payouts with little planning and know-how. It’s a tricky position, so looking for a financial advisor who will look out for your best interests and help you get through it is worth it. Learn the steps to take to locate a competent guide.
Investors should do their due diligence on different investment techniques before committing capital. In addition, traders should know that the past success of a particular investment product is no indication of its potential future success.