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A Required Minimum Distribution (RMD) is an amount of money the IRS requires you to withdraw from most retirement accounts, beginning at age 72. Due to the Coronavirus Aid, Relief, and Economic Security (CARES) Act, RMDs were not required in 2020, but RMDs are required in 2021 and each year after. RMDs can be an important part of your retirement income strategy.
Twitter shares moved firmly higher after Tesla CEO Elon Musk added another $6.25 billion in equity to the financing package in his $44 billion takeover bid.
And, Tesla shares moved higher after Musk closed out a margin loan linked to his $44 billion takeover of Twitter , although gains were capped by a price target cut from analysts at Jefferies.
In March, the House of Representatives voted 414-5 in favor of the Securing a Strong Retirement Act of 2022. If passed by the Senate, and then signed into law by President Joe Biden, the act could represent a massive economic policy shift regarding retirement savings and investment. Now, the next generation known as the SECURE Act 2.0, expands on the original SECURE Act and includes provisions to boost the required minimum distribution (RMD) age from 72 to 75 over time, broaden automatic enrollment in retirement plans, and enhance 403(b) plans.
The DJIA rose for its fifth straight day, as the S&P and NASDAQ are poised to snap their seven-week losing streaks. Retailers are upbeat as shares of Macy’s, Dollar Tree, and Dollar General all soared after exceeding expectations and forecasting positive outlooks. But, Microsoft, Meta, Uber, and Nvidia slowed hiring, and Netflix and Robinhood recently laid off staff. SoftBank’s Vision Fund posted its worst annual loss as a result of the tech downturn.
If you inherited a tax-deferred retirement plan, such as a traditional IRA, you’ll have to pay taxes on the money. But you can make the tax hit less onerous.
Spouses can roll the money into their own IRAs and postpone distributions—and taxes—until they’re 70½. All other beneficiaries who want to continue to benefit from tax-deferred growth must roll the money into a separate account known as an inherited IRA. Make sure the IRA is rolled directly into your inherited IRA. If you take a check, you won’t be allowed to deposit the money. Rather, the IRS will treat it as a distribution and you’ll owe taxes on the entire amount.
Once you’ve rolled the money into an inherited IRA, you must take required minimum distributions every year—and pay taxes on the money—based on your age and life expectancy. Deadlines are critical: You must take your first RMD by December 31st. of the year following the death of your parent (or whoever left you the account). Otherwise, you’ll be required to deplete the entire account within five years after the year following your parent’s death.
The December 31st. deadline is also important if you are one of several beneficiaries of an inherited IRA. If you fail to split the IRA among the beneficiaries by that date, your RMDs will be based on the life expectancy of the oldest beneficiary, which may force you to take larger distributions than if the RMDs were based on your age and life expectancy.
You can take out more than the RMD, but setting up an inherited IRA gives you more control over your tax liabilities. You can, for example, take the minimum amount required while you’re working, then increase withdrawals when you’re retired and in a lower tax bracket.
Did you inherit a Roth IRA? And so, as long as the original owner funded the Roth at least five years before he or she died, you don’t have to pay taxes on the money. You can’t, however, let it grow tax-free forever. If you don’t need the money, you can transfer it to an inherited Roth IRA and take RMDs under the same rules governing a traditional inherited IRA. But with a Roth, your RMDs won’t be taxed.
Here are eight things to keep in mind as you prepare to file your 2021 taxes.
1. Income tax brackets have shifted a bit
There are still seven tax rates, but the income ranges (tax brackets) for each rate have shifted slightly to account for inflation. For 2021, the following rates and income ranges apply:
Tax rate
Taxable income brackets:Single filers
Taxable income brackets:Married couples filing jointly (and qualifying widows or widowers)
10%
$0 to $9,950
$0 to $19,900
12%
$9,951 to $40,525
$19,901 to $81,050
22%
$40,526 to $86,375
$81,051 to $172,750
24%
$86,376 to $164,925
$172,751 to $329,850
32%
$164,926 to $209,425
$329,851 to $418,850
35%
$209,426 to $523,600
$418,851 to $628,300
37%
$523,601 or more
$628,301 or more
Source: Internal Revenue Service
2. The standard deduction has increased slightly
After an inflation adjustment, the 2021 standard deduction has increased slightly to $12,550 for single filers and married couples filing separately and $18,800 for single heads of household, who are generally unmarried with one or more dependents. For married couples filing jointly, the standard deduction has risen to $25,100.
3. Itemized deductions remain the same
For most filers, taking the higher standard deduction is more practical and saves the hassle of keeping track of receipts. But if you have enough tax-deductible expenses, you might benefit from itemizing.
The following rules for itemized deductions haven’t changed much for 2021, but they’re still worth pointing out.
State and local taxes: The deduction for state and local income taxes, property taxes, and real estate taxes is capped at $10,000.
Mortgage interest deduction: The mortgage interest deduction is limited to $750,000 of indebtedness. But people who had $1,000,000 of home mortgage debt before December 16, 2017, will still be able to deduct the interest on that loan.
Medical expenses: Only medical expenses that exceed 7.5% of adjusted gross income (AGI) can be deducted in 2021.
Charitable donations: The cash donation limit of 100% of AGI remains in place for 2021, if donations were made to operating charities.1
Miscellaneous deductions: No miscellaneous itemized deductions are allowed.
4. IRA and 401(k) contribution limits remain the same
The traditional IRA and Roth contribution limits in 2021 remain the same as in 2020. Individuals can contribute up to $6,000 to an IRA, and those age 50 and older also qualify to make an additional $1,000 catch-up contribution. If you’re able to max out your IRA, consider doing so—you may qualify to deduct some or all of your contribution.
The 2021 contribution limit for 401(k) accounts also stays at $19,500. If you’re age 50 or older, you qualify to make an additional $6,500 catch-up contribution as well.
5. You can save a bit more in your health savings account (HSA)
For 2021, the max you can contribute into an HSA is $3,600 for an individual (up $50 from 2020) and $7,200 for a family (up $100). People age 55 and older can contribute an extra $1,000 catch-up contribution.
To be eligible for an HSA, you must be enrolled in a high-deductible health plan (which usually has lower premiums as well). Learn more about the benefits of an HSA.
6. The Child Tax Credit has been expanded
For 2021, the American Rescue Plan Act (ARPA) has temporarily modified the Child Tax Credit requirements and amounts for household incomes below $75,000 for single filers and $150,000 for married filing jointly.
First, the ARPA has raised the age limit for dependents from 16 to 17. In addition, the child tax credit has increased from $2,000 to $3,000 for children age 6 through 17 and up to $3,600 for children under 6. If your income exceeded the above limits but was below $200,000 for single filers or $400,000 for joint filers, you’ll receive the standard child tax credit of $2,000 per child.
The IRS began sending monthly advance Child Tax Credit payments to eligible families in July and sent its last advance in December. If your dependent didn’t qualify for the child tax credit, you may still qualify for up to $500 of tax credits under the “credit for other dependents” (see IRS Publication 972 for more details). Tax credits, which reduce the tax you owe dollar for dollar, are generally better than deductions, which reduce your taxable income.
7. The alternative minimum tax (AMT) exemption has gone up
Until the AMT exemption enacted by the Tax Cuts and Jobs Act expires in 2025, the AMT will continue to affect mostly households with incomes over $500,000. Still, the AMT has investment implications for some high earners.
For 2021, the AMT exemptions are $73,600 for single filers and $114,600 for married taxpayers filing jointly. The phase-out thresholds are $1,047,200 for married taxpayers filing a joint return and $523,600 for all other taxpayers.
8. The estate tax exemption is even higher
The estate and gift tax exemption, which is indexed to inflation, has risen to $11.7 million for 2021. But the now-higher exemption is set to expire at the end of 2025, meaning it could be essentially cut in half at that time if Congress doesn’t act.
The annual gift exclusion, which allows you to give money to your loved ones each year without incurring any tax liability or using up any of your lifetime estate and gift tax exemption, stays at $15,000 per recipient.
Don’t get caught off guard
As you prepare to file your taxes for 2021, here are a few additional items to consider.
If you’re not retired, the 10% early withdrawal penalty that was waived for retirement account distributions in 2020 has been reinstated for 2021.
If you’re age 72 or older, make sure you’ve taken your required minimum distribution (RMD) from your retirement accounts or else you face a 50% penalty on any undistributed funds (unless it’s your first RMD, in which case, you can wait until April 1, 2022).
If you haven’t contributed to your retirement accounts already, now is the time. Review your earnings for the year and take advantage of any deductions that can lower your tax bill. Also, keep an eye on Washington for any last-minute tax changes that could affect your return before you file. Tax season will be here before you know it, and it’s never too early to start preparing.
1Operating charities, or qualifying public charities, are defined by Internal Revenue Code section 170(b)(1)(A). You can use the Tax Exempt Organization Search tool on IRS.gov to check an organization’s eligibility.
Once you do retire, and put your physician or medical career behind you, it’s important to realize that, at some point, the IRS expects you to draw down your 401(k) balance. Starting at age 72, you need to take required minimum distributions (RMDs).
Your annual RMD amount depends on the balance of your 401(k) and a formula that determines your life expectancy.
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QUERY: But – What happens if you don’t take your RMD for the year?
ANSWER: Well, you could end up paying a penalty. In fact, it’s a pretty hefty penalty of up to 50% of the amount you were supposed to withdraw. Paying that penalty can be pretty costly for someone living in retirement. As long as you’re vigilant and stay on top of the situation, though, you can avoid the penalty as well as these other costly 401(k) mistakes.
An IRA in which distributions continue after the primary beneficiary’s death.
For an IRA to be inherited, the primary beneficiary must have already been receiving the required minimum distribution; the distributions either continue or are re-calculated based upon the secondary beneficiary’s life expectancy.
If the secondary beneficiary is the widow(er) of the primary beneficiary, she/he may roll over the inherited IRA into her/his own IRA without penalty.
As an informed investor and reader of this ME-P, you’re likely familiar with the difference between a traditional IRA/401(k) and a Roth IRA/401(k).
While the traditional account enables you to postpone taxes on both the income invested and its growth until the funds are withdrawn, a Roth account does not provide an initial tax benefit but investment growth is tax free. So which is better?
Let’s answer the question with some simple math. Suppose an investor in the 25 percent federal tax bracket invests $1,000 of pre-tax income, obtains an 8 percent annual return over the next 10 years, and is still in the 25 percent tax bracket in the future. Would this investor profit more investing in a traditional or a Roth account?
As the chart below illustrates, the investor in this scenario would end up with the exact same amount in either a traditional or a Roth account.
So does the decision to invest in a traditional or Roth retirement account not matter? Not so fast.
Constant Tax Rate
Traditional
Roth
Initial Tax Bill (25%)
$0
$250
Invested Amount (after-tax)
$1,000
$750
Future Investment Value
$2,159
$1,619
Future Tax Bill (25%)
$540
$0
After-Tax Value in 10 Years
$1,619
$1,619
Lower Tax Bracket in Future
Let’s assume our investor will have a reduced income when she retires in 10 years, causing her to be in the 15 percent tax bracket in the future. Perhaps the worker is in her prime earning years and will have less income during retirement. In this scenario, due to the up-front 25 percent tax bill, investing the funds in a Roth would lead to the same after-tax value of $1,619. But investing the funds in a traditional account would allow the full $1,000 to experience growth for 10 years, with a reduced future tax bill of 15 percent, leaving $1,835 of after-tax value in the account. This investor would benefit from delaying taxes into the future when she would be in a lower tax bracket.
Lower Tax Rate in the Future
Traditional
Roth
Initial Tax Bill (25%)
$0
$250
Invested Amount (after-tax)
$1,000
$750
Future Investment Value
$2,159
$1,619
Future Tax Bill (15%)
$324
$0
After-Tax Value in 10 Years
$1,835
$1,619
Higher Tax Bracket in Future
On the other hand, if the investor was in the 15 percent tax bracket this year but expected to be in the 25 percent bracket during retirement (potentially a young employee expecting his earnings to rise), paying taxes now at 15 percent would allow $850 to be invested, which after 10 years of 8 percent growth would be worth $1,835 tax free.
Higher Tax Rate in the Future
Traditional
Roth
Initial Tax Bill (15%)
$0
$150
Invested Amount (after-tax)
$1,000
$850
Future Investment Value
$2,159
$1,835
Future Tax Bill (25%)
$540
$0
After-Tax Value in 10 Years
$1,619
$1,835
Roth Advantages
What if you expect to pay a comparable tax rate both now and in the future? A Roth account offers several advantages in this scenario.
First, as taxes have already been paid on a Roth account, the government doesn’t require investors to take required minimum distributions (RMDs) from these accounts, whereas RMDs are required from traditional retirement accounts beginning at age 70½. Without RMDs, Roth accounts can grow tax free for the investor’s entire lifespan.
Additionally, upon death, Roth accounts pass to an investor’s heirs without any tax liability, while those who inherit a traditional retirement account must pay taxes on the assets.
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Second, money withdrawn from a traditional retirement account before the investor is 59½ may be subject to a 10 percent penalty. Yet contributed funds to a Roth account (but not the growth on the contributed funds) can be withdrawn at any time without penalty. While withdrawing funds before retirement isn’t advisable, the added liquidity of the Roth account can prove useful in emergencies.
Finally, even if your income is expected to remain constant, investing in a Roth account allows you to lock in your taxes at today’s rate as opposed to taking the risk that national tax rates might be raised in the future.
If you’re unsure how your future tax bracket will compare to your current rate, diversify. Nothing prevents you from having both a traditional and a Roth retirement account. This not only allows you to hedge your bets, but puts you in a position during retirement to take distributions from your tax-deferred account in low-income years and from the tax-free account in years when you are in a high tax bracket.
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President Obama recently unveiled his proposed budget for 2015. Included in the proposal were the following potential changes to investor retirement accounts:
Apply Required Minimum Distribution Rule To Roth IRAs
There are currently two main reasons to invest in a Roth IRA – to pay taxes at your current rate in anticipation of being in a higher tax bracket in the future, and to invest in an account that does not require minimum distributions when the investor reaches age 70½. However, President Obama’s 2015 budget calls for Roth accounts to be subject to the same RMD requirements as other retirement accounts.
This change would make Roth IRA accounts much less appealing for a good portion of the investment community. Additionally, if enacted, the rule would dramatically reduce the benefit for many individuals to convert their traditional retirement accounts to Roth accounts. Lastly, this rule would essentially betray all investors who already converted their accounts to Roths by taking away a benefit they were counting on.
Eliminate Stretch IRA
Non-spouse beneficiaries of retirement accounts currently have the option of either withdrawing the funds from the inherited retirement account within five years of the original IRA owner’s death or stretching IRA distributions over their expected lifetime. Stretching distributions is considered favorable because it allows the investor to spread the tax liability from the income over their lifetime and continue taking advantage of the tax-deferral provided by the retirement account. However, Obama’s proposal would eliminate non-spouse beneficiaries’ ability to stretch distributions over a period of more than five years.
If implemented, this change would have severe tax implications on people inheriting a retirement account and drastically reduce the value of tax-deferred accounts as estate planning tools.
Cap on Tax Benefit for Retirement Account Contributions
Currently, investors obtain a full tax-deferral benefit on all contributions to retirement accounts. Under Obama’s proposal, the maximum tax benefit that would be allowed on retirement contributions would be 28%. Consequently, an investor in the 39.6% tax bracket would only be able to deduct 28% and would still need to pay taxes at 11.6% (39.6% – 28%) on all contributions made.
Eliminate RMDs For Retirement Accounts Less Than $100k
Currently, investors over the age of 70½ must begin taking taxable distributions from their retirement accounts in the form of required minimum distributions (RMDs). Under Obama’s proposal, individuals whose retirement accounts have a total value of less than $100k would no longer be subject to required minimum distribution rules. This would enable retirees with less in their retirement accounts to take greater advantage of the tax-deferral benefit an IRA provides.
Retirement Account Value Capping New Contributions
Under the new proposal, once an individuals’ retirement account value grew to a certain cap, no further contributions would be allowed. This cap would be determined by calculating the lump-sum payment that would be required to produce a joint and 100% survivor annuity of $210,000 starting when the investor turns 62. Currently, this formula would indicate a cap of $3.2 million. This cap would be adjusted for inflation.
Proposal, Not Law…
Keep in mind that these potential changes are currently just proposals and are not certain to be implemented into law. In fact, with the exception of RMDs for Roth accounts, all of these suggested adjustments were proposed by Obama last year and none were approved by congress. Consequently, history suggests that Obama may have a hard time getting these changes implemented. Still, examining the proposals provides some insight into the direction President Obama would like to proceed.
Conclusion
Your thoughts and comments on this ME-P are appreciated. Feel free to review our top-left column, and top-right sidebar materials, links, URLs and related websites, too. Then, subscribe to the ME-P. It is fast, free and secure.
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The amount of money in IRAs is climbing even as the volatility continues.
Most of us have at least one IRA and eventually many people roll over their main retirement assets, 403(b) and 401(k) accounts to IRAs.
Unfortunately, a lot of the value in IRAs isn’t being maximized.
By focusing on a few key strategies you can make an IRA more valuable in your lifetime and beyond.
Now, doctors and all medical professionals should consider the following:
OWN THE RIGHT ASSETS
An IRA has the advantage of tax deferral. Gains and income compound free of taxes until they are distributed. They have the disadvantage of converting long-term capital gains into ordinary income. All taxable distributions from an IRA are taxed as ordinary income. Research reveals that assets that pay high ordinary income are best held in IRAs. High-Yield bonds, Real Estate Investment Trusts and investment grade bonds as well as stocks, mutual funds and other investments that tend to be owned for less than a year generate short-term capital gains. Nontraditional, or alternative investments can be utilized, however know which are prohibited in retirement accounts.
PRACTICE TAX DIVERSIFICATION
No one can forecast how the tax code will alter. Different scenarios are in the works, perhaps one will be put into place late this fall. Different types of accounts have different tax treatments now, and that could change. Instead of forecasting one tax outcome and arranging your finances accordingly, it’s safer to have different types of accounts so you won’t be burned in any scenario. Try to own investments in taxable accounts, traditional IRAs, and Roth IRAs
CONVERT TO A ROTH
Every year, consider whether it makes sense to convert all or part of your traditional IRA into a Roth IRA. Discuss with your Tax advisor factors such as your expected rate of return, the difference between your current tax rate and future tax rates, the source of the cash to pay the taxes and whether future required minimum distributions would exceed your spending needs.
Your CPA/advisor will add other questions as he would know your personal situation and needs.
CONSOLIDATE or SPLIT?
Simplifying your finances often means consolidating all your accounts at one financial institution. Many people have multiple IRAs and simplifying means rolling them over into one IRA when practical. But suppose you have multiple heirs and expect IRAs to be a significant legacy. You could name all heirs as joint beneficiaries and let them decide what to do with the account. On the other hand, you could split the IRA now and name one person as the primary beneficiary for each.
SPEND ACCOUNTS in the RIGHT Order
As a general rule, it’s best to spend taxable accounts first, traditional IRA’s next and ROTH IRAs last. Not in all cases. When you visit your advisor and review what you need in cash flow at retirement, you may find that taking your RMD at 70 ½ puts you into a higher tax bracket. It may be less taxing to take normal distributions on a regular basis after 591/2.
REVIEW your BENEFICIARIES. There are horror stories of people who haven’t changed beneficiaries for decades and find a sibling or a parent is the beneficiary rather than your spouse.
CONSIDER CHARITY. Should you decide to leave part of your estate to charity, the most tax efficient way to do that might be to name the charity as beneficiary of your IRA? Individuals pay tax on distributions, Charities do not.
CATCH-UP CONTRIBUTIONS
When you’re still working and making contributions to IRAs, you can make higher contributions when age 50 or older. In 2012, the maximum for those over 50 is $6000 rather than $5000.
CONSIDER SPOUSE Generally IRA contributions can be made only to the extent you have earned income from a job or business. When filing a joint return, contributions can be made for both spouses up to the maximum of $6000.
REQUIRED DISTRIBUTIONS It appears people continue to make mistakes when taking and computing their RMD after 70 ½. The IRS has been lax on this in the past but is stepping up its tracking and enforcement.
Assesment
Can you think of any others?
Conclusion
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