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How Can Couples Better Manage Our Required IRA Distributions?

How Can Couples Better Manage Our Required IRA Distributions?

July 30, 2023

Retirement Withdrawal Strategies: Maximizing Tax Efficiency

For most retired couples, the requirement to remove money from their IRAs is a big retirement milestone, AND it’s an opportunity to manage their income tax burden in retirement.

Remember, you must start your required IRA distributions the year you turn 73.

In retirement, most of the money clients spend is money that creates an income tax bill. Either they sell out of investments that have grown in value and pay capital gains, or they sell out of IRAs and take a distribution that is taxed as income.

Some readers may have heard the traditional advice to consume retirement savings as follows:

FIRST – taxable accounts. Brokerage accounts, bank accounts, direct stock accounts. Distributions from these accounts will only have tax on capital gains from the investments that grew in value.

SECOND – Traditional Tax-Deferred Accounts. These accounts will have ALL distributions taxed as income.

THIRD – Roth IRA accounts. These accounts were taxed at deposit and do NOT generate taxes at distribution. Save these to the end because:

  • Tax rates are likely to be higher in the future.
  • You are likely to need more money per year in the future, creating more total tax.
  • If you don’t need the money, ROTH money is very friendly to your heirs. They do NOT have any income tax obligation.

Planning for Retirement: Considering Tax Brackets and Future Needs

The strategy behind this advice goes like this:

  • Taxable accounts will generally have less total tax due for every $1,000 you remove, so start there to create the least tax you can.
  • Traditional Tax-Deferred accounts like IRAs and 401(k)s come next. Because you want to reduce the size of these accounts, and the related REQUIRED distributions at age 73.
  • Most experts agree that paying tax now on retirement spending is better than waiting to pay tax later.
    • First, because we know that current income tax rates are historically low. Over a 30-year retirement, rates will lost-likely rise.
    • Second, if you are in your 60s today, all your investment accounts will likely almost double by the time you turn 73 and are required to take distributions. Better to whittle down the tax-deferred accounts by consuming some of that growth now, rather than have a larger account size generate a bigger Required IRA Distribution in a few years.
    • Third, we assume that you will spend more each year you are in retirement. Because inflation will increase the cost of everything, and as we age, we tend to consume more healthcare services. So, 10 years from now, you will likely remove more dollars from your accounts, and income tax rates will likely be hirer for each dollar.
    • Fourth, if you don’t need the money, Roth IRA money is much friendlier to heirs. They are still required to remove it from the IRA over 10 years, but they will own NO TAX on any of the distributions.

As you consider your situation there are a few factors to think about.

  • Will you reduce your earned income in the years prior to age 73? Maybe you will stop working at a high-paying job and switch to a part-time job. Those years might be a chance to convert some IRA money to Roth IRA money when you are in a lower income tax bracket.
  • Do you have taxable accounts with investments that have significant unrealized capital gains?
    • Maybe you want to give those investments to your favorite charity. You get a deduction on the current value and pay no tax on the gains.
    • Maybe you can sell out of those investments at the 15% capital gains level. This tax is preferable to the 22% or 24% rate you might pay on an IRA distribution.
  • Do you have large expenses upcoming like a child’s wedding or A 50th wedding anniversary celebration? Maybe you would take some Roth IRA money to cover the one-time expense and not bump up your taxes.
  • Do you have children or grandchildren set to inherit some of your money? Roth IRA money is tax-free to the heir, so they receive the benefit of all the money. Traditional IRA money is taxed when the heir removes it from the account. And, under current tax law, non-spouse heirs are required to empty all IRAs within 10 years. So, they must take substantial distributions from the IRA, and many times that heirs will be in their peak income tax years when they take those distributions.

It’s All About Income Tax Brackets

In short, when it comes to retirement account withdrawals for a married couple, it’s all about tax brackets—the couple’s, the surviving spouse’s, and the children’s. The circumstances are going to be different for every client.

  1. A retired married couple is going to be in a higher income tax bracket once they are forced to take required minimum distributions.
  2. The surviving spouse is likely going to be taxed at a higher federal income tax rate than the couple was while they were both living.
  3. The couple’s children, over the 10 years after their parents’ passing, on average are likely to be in higher federal income tax brackets than their parents were while they were retired and still living.

The best retirement savings withdrawal plan for retired married couples must therefore be sensitive not only to the tax bracket of the married couple today, but also to the couple’s potential tax bracket in the future, after their required minimum distributions begin, as well as to the likely higher future tax brackets of the surviving spouse and the couple’s children.

Of course, your situation is unique. So, if you want to discuss the specifics of your retirement distribution plan, I would be honored to visit you. As a fiduciary financial planner, CERTIFIED FINANCIAL PLANNER™ professional and Behavioral Financial Advisor I’m always an advocate for my clients. I love talking with new people. And yes, I’m still taking on a few great families to be part of my financial planning practice.

Please, reach out and we can have a get-acquainted visit. Just follow this LINK to find a time that works for you.

Dunncreek Advisors does not provide legal or tax advice, nor is this article intended to do so.