Planning a key to protecting as much as possible from the tax man
Now is the time to get serious about end-of-the-year tax planning. Remember, everything must be complete by Dec. 31 and most organizations are running on skeleton crews over the holidays. This is the second year of the new tax law.
I was asked recently how I was going to help people lower their tax bills. I responded that for many retired clients, I might be helping them raise their current taxes so they would avoid tax time bombs in the future. Many people, by far, have most of their assets saved in qualified accounts. These are things such as IRAs and 401(k)s. These accounts received a tax deduction when contributed and have grown tax-deferred.
The problem starts as we age. First, you have to start taking required minimum distributions once you hit 70½. This is when the IRS wants its share.
I recently met with one couple and they had more than $750,000 saved in their pre-tax accounts. I explained that they had more like a half-million after they bought out their partner, Uncle Sam. Most people do not consider this large liability when planning their financial goals. We need a plan to lower this obligation as much as possible.
Taxes are on sale right now and we know it will be over by Jan. 1, 2026, or sooner depending on what happens in Washington, D.C. To take advantage of current lower rates, one thing we may want to do is bump the bracket. This means estimating how much room we have before we cross over into a higher tax bracket.
Remember, start your tax planning with your free income. A married couple gets a $24,000 personal exemption. If they are over 65, they get an additional $1,300 each. Up to this point, they would owe zero federal tax.
The next $19,400 is taxed at 10%. Income above this amount would be taxed at 12% up to $78,950. Combined with your free money, you could have a little over $100,000 income and still be in the 12% bracket.
So if you will never be in a bracket below this amount and have qualified money, it may make sense to pay the taxes now or do a Roth conversion. This simple explanation assumes you are over 59½, so you are not subject to 10% early withdrawal penalties. If part of your income is from Social Security, remember it has a different set of rules for making conversions. Talk to a tax-planning expert for additional information.
Remember tax planning is most crucial to people who have most of their assets in qualified saving. Younger people should try to achieve balanced saving in all three tax buckets. They are pre-tax (qualified), post-tax (non-qualified) and taxed advantaged. This last group includes items like Roth’s and properly structured life insurance.
When making SS decisions, it is important to consider how much of your assets are in qualified accounts. It can make a huge difference in future tax bills. Be proactive in tax planning both with saving and when taking distributions.
Work with the end in mind – protecting as much as possible from the tax man. To take advance of this year’s tax return, you have only a few weeks. Remember at the death of one spouse, taxes go up quickly.
Gary Boatman is a Monessen-based certified financial planner and the author of “Your Financial Compass: Safe passage through the turbulent waters of taxes, income planning and market volatility.”
To submit columns on financial planning or investing, email Rick Shrum at rshrum@observer-reporter.com.