Thursday, September 14, 2023

Tax-Deferred Retirement Savings Plans in Later Life

One place where there is a gap in adult financial education is programs for older adults age 65+. The bulk of community and workplace programs cover financial tasks and decisions to get “to retirement,” not “through retirement." 

One of the niche audiences for my business, Money Talk, is older adults grappling with financial issues such as creation of a retirement “paycheck,” paying taxes on required minimum distributions (RMDs), and simplifying financial accounts.


Below are key points from a recent class that I taught about tax-deferred retirement savings plans:

Tax Diversification- There are three types of investments: 1. Taxable accounts outside of retirement savings plans, 2. Tax-free accounts (e.g., Roth IRAs and municipal bonds), and 3. Tax-deferred accounts (e.g., Traditional IRAs and employer plans). Ideally, investors should have investments in all three categories for greater control over their taxable income.


Types of Tax-Deferred Accounts- These include employer-sponsored defined contribution plans (e.g., 401(k), 403(b), 457, thrift savings plan), Traditional IRAs funded with pre-tax dollars, simplified employee pensions (SEPs) for self-employed workers, and annuities.


Account Beneficiaries- It is unlikely that long-time savers with large balances will die without leaving some money in one or more tax-deferred retirement plans. It is wise to periodically review named beneficiaries and prepare a master list for periodic review and/or revision. Beneficiary types include a spouse, non-spouse (e.g., child), and qualified charity (if allowed).


Account Consolidation- Benefits include fewer account management fees, less maintenance (e.g., account logins, tax statements, e-mails, and investment decisions), and greater ease in calculating and withdrawing RMDs and administering a deceased person’s estate.


Direct Rollovers- Custodian A should send account proceeds directly to Custodian B. Indirect rollovers (where an account holder is sent the money) should be avoided because there is a strict 60-day time limit to reinvest the money in a new account and withholding taxes usually apply.


Rebalancing and RMDs- When RMD withdrawals are made, account owners may have to rebalance the asset allocation of their portfolio. In bull (rising) markets, consider selling assets (for a withdrawal) that have appreciated more than others to get back to target percentages.


RMD Calculation- A new life expectancy table took effect in 2022. Simply divide the balance in a tax-deferred account on December 31 of the prior year by the divisor in the table that matches your age. For example, $100,000 ÷ 26.5 (the divisor for age 73) = $3,774 (rounded). As retirees get older, the RMD percentage of their account balance gradually increases.


Account Withdrawal Timing- Account owners can make penalty-free withdrawals from tax-deferred accounts after age 59.5. Those with large balances and those who need money for living expenses may benefit from withdrawals before their RMD start date. Withdrawn money can be used for living expenses, savings in a taxable account, charitable or family gifts, and fun.


This post provides general personal finance or consumer decision-making information and does not address all the variables that apply to an individual’s unique situation. It does not endorse specific products or services and should not be construed as legal or financial advice. If professional assistance is required, the services of a competent professional should be sought.



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