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Welcome to How to Retire on Time, a show that answers your retirement questions. Say goodbye to the oversimplified advice you've heard hundreds of times. This show is about getting into the nitty-gritty so you can make better decisions as you prepare for retirement. Text your questions to 913-363-1234 and we'll feature them on the show. Don't forget to grab a copy of the book, How to Retire on Time, or check out our resources by going to www.retireontime.com.
Welcome to How to Retire on Time, a show that answers your questions about all things retirement, including income, taxes, Social Security, health care, and more. This show is an extension of the book, how to retire on time, which you can grab today on Amazon or by going to retireontime.com. My name is Mike Decker. I'm the author of the book, how to retire on time. I'm also a licensed financial adviser, insurance agent, and tax professional, which means when it comes to financial topics, we can cover it all.
Mike:Now that said, please remember this is just a show. Everything you hear should be considered informational as in not financial advice. If you want personalized financial advice, you can request your wealth analysis from my team today by going to www.yourwealthanalysis.com. With me in the studio today is my esteemed cohost and colleague, mister David Franson. Thanks for being here.
David:Yep. Glad to be here.
Mike:David's gonna
Mike:read your questions, and I will do my best to answer them. You can always submit your questions anytime during the week by texting (913) 363-1234. Again, that number is (913) 363-1234. Let's begin. Hey, Mike.
David:How can I avoid or reduce my taxes on RMDs?
Mike:K. So the question really revolves around what do you do with your pretax dollars? Let's talk about that for a second. Okay.
Mike:Alright. So pretax dollars, that sounds like jargon. Think of your four zero one k. Think of your IRA. For years, you've had this career where you're deferring taxes to a later date.
Mike:Deferring taxes. Let's say you make a hundred and 50,000, but you've deferred 20,000 of your salary into your four zero one k, so you only paid taxes on the lesser amount, a hundred and 30,000. You see that? It's like, oh, wanna pay less taxes now, and I will defer it
David:to a later date. You reduce your taxable income. Right?
Mike:But Yeah. Which is great. Yeah. If you don't need the income, pay less in taxes. That was the idea at least in the eighties and nineties and February.
Mike:They're like, oh, your retirement income, your taxes should be less in the future, so why not do this? And in theory, that made sense. Mhmm. But theory doesn't always become reality. Sure.
Mike:A lot of people today are sobering up to the idea that they might actually be forced into higher tax brackets. Mhmm. So the question is, how much income do you need in retirement, and where are the assets? And if you don't need the assets, the government said, oh, well, we wanna get paid. That's where the required minimum distribution starts.
Mike:So around 73 years old. They do keep changing it. So whenever you're listening to this show, if you're a podcast listener, and you're listening to it two years back
David:Right. Right.
Mike:Check the actual date, because these things do change. But right now is the time of the recording. It's 73 old is when you need to start taking out distributions. That's a problem. What if you don't need it?
Mike:Mhmm. The government wants to get their taxation. You've deferred taxes for longer term period of time. And in some sense, it's a good deal for you because you grew these assets without capital gains issues. But in some sense, it's also a huge detriment.
Mike:It's like, oh, I've grown a small amount of money Uh-huh. To a larger amount of money that now has more taxation.
David:What's the government's justification for sort of forcing you to take a distribution later in life?
Mike:That's a great question. So the way it was structured, the four zero one k, and end of April, and the four zero three b, and all these compensation plans, packages, you know, employer plans basically.
David:Yeah. Right. Right.
Mike:Is, hey, let's incentivize people to save money into an account. We'll give them tax benefits, but they can't take the money out until retirement. There isn't really a social government pension for everyone. You could say, oh, well that's Social Security. No.
Mike:Social Security was originally invented to help people who lived past their date of death Yeah. To keep going.
David:Yeah. Yeah. Yeah.
Mike:I mean, back in the day when Social Security existed, you were kinda supposed to die before you could qualify. So the few people, it was a security blanket in case you happen to live longer. We just happened to not increase the age of Social Security with the increase of our life expectancy. And now people say, well, that's like a government pension. It's not.
Mike:It's a security blanket for those who live longer that did not keep up with times, and really today, it should maybe cover 30% of your retirement income needs. I know a lot of people live off of Social Security, but that's not what it was originally intended to do. Yeah. Now if you go to places like England, they will force you to go into a government pension program to force them the payouts, and it's, you know, this consolidation. It's not necessarily a good or bad thing.
Mike:It just is. Right? Right. Sure. These are financial mechanics to create financial structures.
Mike:But in America, we don't have that. And then along the way, pensions worth all tried and true way. Yeah. But they realized in the IRS code that you could defer responsibility as a business and say, we don't want a pension for the lifetime of our employees. We can just say, hey.
Mike:Put money in here, and it will be your responsibility.
David:Yeah. Correct me if I'm wrong, but the pensions are sort of a large expense for these corporations.
Mike:You could say that. Many would argue that. I think there's an argument both sides Yeah. Yeah. Yeah.
Mike:To this equation. I think it could be run rather efficiently and effectively. I think it could be run horribly. I think pensions are a very sustainable way for everyone. I think most people like pensions, but they don't work for the current business model.
Mike:I mean, the average person in tech, I think, works at a business for eighteen months. The the work environment has differed, so pensions don't really work unless you really wanna work at one company for thirty plus years. Yeah. Work there, get the watch, the clock, whatever, and retire.
David:So That's right. That's what I'm banking on for Kedrick, by the way.
Mike:Yeah. Yep. But we're not doing yep.
David:Work my way
Mike:up. Yeah. Ignore everything that we teach you on how to create your own gum. We'll we'll just create a pension plan for our no. Yeah.
Mike:Don't have a pension here. Hey. You could buy a lifetime income. Oh. There's a yeah.
Mike:Please don't. And for all the listeners, by the way, if you don't realize that the subtle sarcasm there, the whole book was written to argue against the lifetime income stream by an annuity Mhmm. In case you didn't pick up on the sarcasm. Mhmm. But I digress.
Mike:So we've shifted over to the four zero one k. We've deferred taxes into a self made plan that has a 10% penalty until retirement with the intention that you can save money. It grows tax efficiently, but someday you gotta pay the piper. And the government said, we don't wanna wait until you die to get our money. We wanna force you to take distributions out.
Mike:That's why the RMD exists.
David:Yeah. Government needs its money to keep funding all its stuff.
Mike:Yeah. Yeah. Which is fine. Yeah. I really appreciate the infrastructure we have in this country.
Mike:It is. I like nice roads. I like a fire department. I like having police patrol the community. I live in a very safe community.
Mike:I love it. Yeah. And these are things that I think are appropriate. Now, you know, whatever. Some people might get upset with me saying that.
Mike:Look, there's always be a few bad apples in every organization, whatever, but it's it's I like police. I like having that. I like having our general first world infrastructure. Yeah. K?
Mike:It's it's nice. It is. You have to pay for it some way. That's what taxes are. I don't think anyone's upset by paying taxes.
Mike:They just don't wanna pay more in taxes than they need to. Sure. So the RMD forces you out. Here's the crux of the question. How do you take out your RMD or your taxable account?
Mike:How do you pull money out of your your pretax account efficiently? The overarching, oversimplified consensus of this is to, well, to just do IRA to Roth conversions. So you retire, and then you start moving funds over from your IRA to your Roth. Roth accounts don't have an RMD associated with them because you've already paid the taxes. It grows tax free, pays out tax free.
Mike:Says, we don't care about that. Right? Uh-huh. So it's really the pretax. And that may be a solution to you, but this is what bugs me, is a lot of that is fear mongering into this idea that you need to do IRA to Roth conversions.
Mike:You might not. So there's a couple of layers here. Make sure I don't forget any
David:of them. Okay. Okay.
Mike:You've got first off the income planning element. Do you need to do IRA to Roth conversions or not? Then you have your legacy element. Let's do the legacy one first.
David:Okay.
Mike:Okay? Let's say you've got a pension. Alright. Let's say you've got Social Security, and that pays more than you ever really need. Sure.
Mike:At that point, you don't really need more money. Maybe you wanna grow it as much as you can, and you don't care about the RMD. When I say you don't care about the RMD, and the reason is, yeah, you might pay an RMD fine, as your assets grow, you pull the RMD out, then you reinvest it, and then you don't touch those assets, and they grow, and then when you pass, everything gets up a separate basis on the brokerage accounts. Your RMD passes, and then they get those assets. It's not really a huge issue.
Mike:Yeah. So when you hear this, oh, you've got to do IRA to Roth conversions, and prepare for the RMD because gonna get double taxed if you don't. If you don't intend to touch your money until later, then it's not really a big deal. Mhmm. I've had plenty of calls where they they'll just say, hey.
Mike:I'm just focused on legacy planning. If you're focused on legacy planning, you don't wanna take a hit to your principal by paying taxes and moving funds out.
David:Okay. Yeah. Explain that a little bit more there.
Mike:Yeah. So okay. Let's just simplify tax code for a second. If you've got a million dollars
David:Uh-huh.
Mike:And the IRS simplifies the tax code, and says, you can convert everything over today at 20%, or you can do 15% for life. What would you do? All things being equal, same performance, same net income, all of it being the same, the person that did the 20% upfront paid 200,000 in taxes. Got it. They paid less in taxes overall.
Mike:The person who did 15% for life, they paid 412,000 in taxes in this situation. You with me so far? So they paid much more in taxes.
David:They paid more, so immediately my gut reaction is, oh, that's bad.
Mike:Yeah. But because they slowly paid taxes, they protected their account balance. Right. It's easier to grow money when you have more money to grow. So the higher balance compounded, and it ended up being around 690,000 more dollars.
Mike:So if your intention for your IRA assets is really more focused on legacy than income, then you might actually not wanna do many IRA to Roth conversions. You might not wanna prepare for your RMDs because your intention is to just grow the principal, the total account balance as much as you can. And, you're gonna be forced to hire tax brackets later on. Maybe it's a detriment, maybe it's not. You don't know the future, but you're really just paying the taxes, moving it over into a tax efficient buy and hold vehicle, and then you're buying that and holding it.
Mike:You're not getting double taxed, because you're not touching the asset. Mhmm. It's growing, and then the non qualified assets pass on to the beneficiaries with a step up in basis, so you're not taxed on the gains. Your other assets pass on the beneficiaries within the IRA assets, and then they have ten years to grow it and take the distributions.
David:Okay.
Mike:So this idea of, oh, everyone should be irate about conversions. Well, on, let's stop there. Now if you don't have kids, or you don't wanna give your kids that much money, and your intention is to grow and do something good with the money, you can just donate the asset, your RMD each year. Okay. And pay no taxes on So there's, again, what's your intention?
Mike:What do you want your money to do for you? Yeah. Now let's say you do wanna spend the money. That might make sense from an income standpoint, you don't want your RMD to be greater than the portfolio income that you want. So let's say you want around 50,000 from your portfolio,
David:and
Mike:your RMD is 60,000, that's not efficient. No. Because you have $10,000 of additional income, you got to put it somewhere, so what do you do? You put it then in your brokerage account, and then if you wanna touch that money later on, you're taxed again. That's the double taxation
David:Oh, right.
Mike:That will get you.
David:I see.
Mike:So this is where then you line up your income. How much do you want? And then you start saying, okay, could you spend down the income at the beginning, and delay your social security, so that RMDs are not an issue?
David:Oh, right.
Mike:Right. Maybe they are, maybe they aren't. I recognize that. We're covering a lot here, but if you retire at 60, and you file at 70 years old, you're going to take more out of your portfolio during those ten years.
David:Yes.
Mike:That could lower your IRA assets, your pretax dollars enough that once you turn on social security, your RMD is the income you already need. Therefore, it's built into your your income.
David:Okay.
Mike:If that's not enough, you could then do IRA to Roth conversions, kind of coordinate it, so that it's more efficient. But do you see how this idea of, oh, I wanna pay less in taxes, I want RMDs, that's not the only question you need to be asking. There are multiple layers that you need to address when you're gonna really tackle efficiencies from this position.
David:Yeah. It sounds like there's a lot of planning, and then you have to think ahead, think about what your intentions are, legacy, what have you, income needs, forecast it out, and then be intentional.
Mike:Yeah. It's everything you do will affect everything else you do in retirement planning. There is a ripple effect. Right. You can't throw a rock in the water, and then kind of conceal the ripples.
Mike:Like, it doesn't work that way.
David:Right.
Mike:And even to the extent of, and a lot of people don't go to this level of detail, but this is how I really like to nerd out when it comes to taxation and income planning, is if you can coordinate your RMDs to be around, let's say, $20.30, $40,000 total Okay. Of taxable income. What's your standard deduction? Around 30,000. Uh-huh.
Mike:So what you've done is you've taken your total taxable income. Yeah. It's taxed, but you got the standard deduction, so it's kinda like it's tax free, and then there's a ripple effect then on your social security, which could then be tax free, and and other ways you could manipulate your whole situation. Uh-huh. So your RMDs would then be tax free, which is kind of what like the question and how this was posed.
Mike:Yeah. How do you avoid paying taxes for your RMDs? Yeah. It's the preparation beforehand. You don't show up, and it works.
Mike:This takes years of planning and execution to get there, but a lot of really cool stuff could be built around RMDs. The point is when it comes to RMDs, you do not want to have your RMD back you into a tax corner that forces you to pay more in taxes on assets that you wanna touch later on, and then you end up being taxed twice. You don't wanna be reactionary. You wanna be proactive, and it takes planning to do that. And a lot of the points I talked about today are, in my opinion, not discussed enough.
Mike:The planning your RMD to fit within your standard deduction or your taxable situation based on how you file your taxes. Yeah. That your RMD and your charitable intent, or your legacy planning, how the RMD fits in there.
David:Why don't people ask these questions or talk about this as much do you think?
Mike:A lot of financial planning companies in their disclosure say they can't offer tax advice. I think that's a problem. I think there is an issue in trying to separate taxes, insurance, and investments, because what you're doing is saying, well, this is what I do, but I can't give you that advice. Find someone else. Then you have disconnected advice.
Mike:Everything's in silos. Yeah. You gotta be able to connect.
David:Break out of those silos.
Mike:Yeah. Break down the wall. There you go. Right? Go listen to Pink Floyd, and then call us.
Mike:Yeah. But the the truth is finance is complicated. There are ripple effects. There are consequences to what you do today that you won't or may not realize will happen until ten years from now. So you've gotta look at this holistically.
Mike:You gotta know where you're going. I had an old professor years ago that had a great expression that said, if you start right, there's a good chance you'll end right. But if you start wrong, you're probably not gonna get things back on track.
David:Yes. So it makes it just that much harder if you're starting wrong to sort of right the ship.
Mike:It's painful to course correct. Yeah. It really is. That's all the time we've got for the show today. If you enjoyed the show, consider subscribing to it wherever you get your podcasts.
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