Can Your IRA Grow Too Big?

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A Roth conversion for some IRA assets may provide more tax savings than you realize.

The Tax Cuts and Jobs Act eliminated the ability to undo a Roth conversion from your IRA.  Big deal. Even when you could undo a Roth conversion, it was for a limited time; after that, they were permanent anyway.

A smart strategy may not be to convert your entire IRA all at once, anyway.  Odds are that move will put you into a higher tax bracket.  Better to make a series of smaller conversions over a number of years.  IFG’s planning software does all these computations for you, however, contrary to conventional wisdom of stashing away as much as you can in your retirement account, you may NOT want your IRA to grow too large.  

Really?

Think about it: at age 70 you’ll be required to take distributions from your IRA.  The minimum amount you’ll be required to take (your RMDs) very well could put you into a higher tax bracket; and, if taxes go up, it could be even worse than we think.  So, how do you keep your RMD below that threshold?  Here’s a good way to begin using a little back-of-the-envelope calculation I learned from Ed Slott[1]:

1. Your marginal tax bracket:  Let’s assume you want to be in 12% marginal tax bracket in retirement.  A look at the tax tables shows you that a couple would require a taxable income of $81,050 or less to be in that bracket. 

2. Multiply that amount by the life expectancy for a 70-year-old using the IRS uniform table.  Currently it’s 27.4 years.   $81,050 x 27.4 = $2,220,770.  IRAs exceeding that amount would have RMDs forcing you into a higher tax bracket.  Naturally you’ll want to monitor both the tax brackets and IRS tables as time passes – planning never ends.

Note:  If you and your spouse want to be in the 10% bracket, the amount changes drastically.  Now it’s $19,900 * 27.4 = $545,260.  Oops!  Big difference.

Your retirement income not only impacts your income taxes directly; it also impacts the taxes you pay on your Social Security income as well as your Medicare premiums.

What if you wanted to have a completely tax-free income in retirement?  Talk about fewer headaches, huh?   It may be possible if you plan early.  Start arranging assets in your mid-50s.  Those who begin early enough can potentially create a tax-free retirement—which could virtually take Congressional tax bills out of your financial future.

That would be a good thing.

Jim


[1] Ed Slott is a practicing CPA and a recognized IRA expert.

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Jim Lorenzen, CFP®, AIF®

Jim Lorenzen is a CERTIFIED FINANCIAL PLANNER® professional and An Accredited Investment Fiduciary® in his 21st year of private practice as Founding Principal of The Independent Financial Group, a fee-based registered investment advisor with clients located in New York, Florida, and California. He is also licensed for insurance as an independent agent under California license 0C00742.  IFG helps specializes in crafting wealth design strategies around life goals by using a proven planning process coupled with a cost-conscious objective and non-conflicted risk management philosophy.

Opinions expressed are those of the author.  The Independent Financial Group does not provide legal or tax advice and nothing contained herein should be construed as securities or investment advice, nor an opinion regarding the appropriateness of any investment to the individual reader. The general information provided should not be acted upon without obtaining specific legal, tax, and investment advice from an appropriate licensed professional.

Jim's picture
Jim Lorenzen is a CERTIFIED FINANCIAL PLANNER® professional and An Accredited Investment Fiduciary® in his 21st year of private practice as Founding Principal of The Independent Financial Group, a fee-based registered investment advisor with clients located in New York, Florida, and California. He is also licensed for insurance as an independent agent under California license 0C00742.

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