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Do you have a 401(k), IRA, inherited IRA, or other large tax-deferred account? If so, now may be the prime opportunity to consider Roth conversions. The 2017 tax rate cuts are expiring at the end of 2025, and the current marginal tax rates may never be this low again. Most tax brackets were cut between 1% and 4%, and in 2026, they will likely return to the previous levels.
To take advantage of the two remaining years of these tax breaks, investors need to bite the bullet and pay owed taxes on Roth conversions. Doing this will offer years – maybe even decades – of tax-free growth and distributions on your hard-earned investments. Now may not be the time to take a cautious approach. Depending on your situation, you should be thinking of the maximum amount of money you can get out of your tax-deferred accounts.
When it comes to retirement, you want to make sure that your money is working for you. There are two primary ways to reduce taxes on high-balance retirement accounts. The first, which I often recommend, is converting traditional IRAs to Roth IRAs. You pay taxes now, while tax rates are lower, and can enjoy those funds tax-free in your retirement. In the second option, you stop contributing to a 401(k) altogether and opt instead for a Roth 401(k).
I understand that there are some common hesitations with this approach. Many investors believe that they will be in a lower tax bracket when they reach retirement, but this is unlikely. If you are a high earner and in a high bracket now, you will most likely be in the same bracket when you retire.
Another common concern is that income from a Roth conversion may balloon income-related monthly adjustment amounts (IRMAA) for Medicare. While I can empathize with this worry, forgoing a Roth conversion for this fear is missing the forest for the trees. An extra few hundred dollars a month for one year before the IRMAA resets is absolutely not equivalent to the tens of thousands of dollars you would pay on IRA distributions over the course of your retirement.
If you are holding onto IRAs for inheritances, know that they are now one of the worst assets for wealth transfer. If you are hoping to leave your inheritance to a charity, they are still valuable, but if you plan to leave your IRA to an individual or multiple people, the new rules for distributions have made that a costly plan. Starting in 2020, people who inherit an IRA have only ten years to empty the account. While those people will have to navigate the required minimum distributions and evolving tax brackets, a Roth IRA eliminates taxes upon distribution.
The key to effective tax planning is taking advantage of the tax brackets each year. This year, make sure you are one of the people who take advantage of the low marginal tax rates and consider a Roth conversion.
If you would like to initiate a Roth conversion or speak to one of our advisers about anything mentioned here, please feel free to reach out to our office at (469) 212-8072 or visit www.gdswealth.com. We would be more than happy to address any of your questions.
Investing carries inherent risks, including market volatility, potential loss of capital, and uncertainty in returns, which investors should carefully consider before making any financial decisions. GDS Wealth Management is an investment adviser in Flower Mound, TX. GDS Wealth Management is registered with the Securities and Exchange Commission (SEC). Registration of an investment adviser does not imply any specific level of skill or training and does not constitute an endorsement of the firm by the Commission. GDS Wealth Management only transacts business in states in which it is properly registered or is excluded or exempted from registration. A copy of GDS Wealth Management's current written disclosure brochure filed with the SEC, which discusses, among other things, GDS Wealth Management’s business practices, services, and fees, is available through the SEC's website at: adviserinfo.sec.gov.
The information contained herein is based upon certain assumptions, theories, and principles that do not completely or accurately reflect any one client's situation or a whole exposition of the topic. All opinions or views reflect the judgment of the authors as of the publication date and are subject to change without notice.
GDS Wealth Management does not provide tax or legal advice. You should contact your tax adviser, accountant, and/or attorney before making any decisions with tax or legal implications. All information is provided solely for convenience purposes, and all users thereof should be guided accordingly.
This communication contains certain forward-looking statements that indicate future possibilities. Due to known and unknown risks, other uncertainties and factors, actual results may differ materially. As such, there is no guarantee that any views and opinions expressed herein will come to pass.
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