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Many things have changed in the last several months but one thing that has not changed is our desire to ensure a financially secure retirement and for financial security for your spouse/partner, children and grandchildren. Many of the likely changes are related to the incoming Trump administration with a Republican majority in the House and Senate. The following article is based on proposals coming from Donald Trump’s own tax plan and also from the House Republican’s GOP tax plan. These plans differ in several ways, so we cannot be sure what the final rules will eventually look like and when they will become effective, but we should consider the proposed changes in our planning for financial security.
Our office has produced a massive amount of information on the potential “Death of the Stretch IRA,” something that will have a major impact on many of our clients. You should have already received our new mini-book, The Ultimate Retirement and Estate Plan for Your Million-Dollar IRA. This article will not repeat that analysis.
Some of the main issues that affect most retirement age readers are the proposed income tax rates and rules that have been proposed by Trump and the GOP. Affecting most people is that the standard deduction would be much larger, $30,000 for married couples under Trump and $24,000 under the GOP plan. A bigger standard deduction sounds good but it is offset in part by eliminating personal exemption deductions under both plans.
This large standard deduction is helpful for tax preparation since if you use it, you do not have to worry about all the headaches of adding up your deductions for medical, charity, taxes and other deductions. This is a significant time-saving feature and meets the goal of “tax simplification” at least as far as itemized deductions are concerned. However, there is no tax simplification on the income side of things, so we still need the complex tax code to measure self-employment income, K-1 reporting, investment income, Roth and retirement plan contributions and distributions, Roth conversions, and other income as in the past.
Trump’s new standard deduction would generally be good for retirement age couples using the standard deduction since they usually have only two personal exemptions. For example, a couple who is at least 65 years old, the current 2017 standard deduction ($15,200) and personal exemptions ($4,050 each) are $23,300. So using $30,000 instead lowers your taxable income by $6,700 which would save you $1,675 if you are in the 25% tax bracket. However under the GOP plan where you deduct $24,000 instead of $23,300, the savings is only $175.
The proposed tax rates on taxable income are somewhat lower than current law for lower and middle income married taxpayers. The new rates are proposed to be 12% on the first $75,000 of taxable income and 25% on taxable income between $75,000 and $225,000, and 33% on income over $225,000. The lower rate of 12% compared to the current 10% and 15% rates on income up to about $75,000 can save lower income taxpayers over $1,200 if their taxable income is near $75,000.
However, the proposals have some unfavorable implications for others. One major unfavorable issue is the GOP proposal which eliminates all itemized deductions except charitable donations and mortgage interest. By contrast, Trump’s plan keeps itemized deductions but limits them to $200,000 for a married couple. The GOP plan would mean that many more people will use the $24,000 standard deduction instead of itemizing. Although this GOP proposal also will be a time-saver and meets their goal of “tax simplification,” it will hurt larger income working folks who have a lot of state and local income tax and other deductions that will be lost. You would lose all deductions for state and local income tax or sales tax, real estate taxes, investment management fees, tax preparation fees, medical expenses, and other deductions you are accustomed to.
However, there is a lot to be happy about for higher income taxpayers despite this loss of deductions. The AMT (alternative minimum tax) would be repealed as would the NII (net investment income tax of 3.8%). But most importantly is that the top tax rate is only 33% instead of the current 39.6% rate plus the 3.8% NII making the current rate 43.4%. Although there may be a loss of some deductions, if you have taxable income at the top rate of $1,000,000, you would save $104,000. The super high income executives, investors, professional entertainers and athletes, business people and the like could save millions of dollars in taxes.
For the majority of us who are not ultra-wealthy, there could be some drawbacks to the proposed tax laws for many people in different situations:
- For larger families with many children, the loss of the personal exemptions could be a large increase in taxable income. However, new child care deductions or larger credits have been proposed.
- For the elderly in poor health or in a retirement or nursing home, losing what may be a large medical expense deduction could cause a significant increase in taxes. For those looking to move into a retirement home community setting, there is often a large down-payment which usually provides a large medical deduction in the year paid. This deduction would be lost under the GOP plan and make the move-in cost that much higher.
- For single taxpayers with middle to higher income, the tax brackets are not much better or even worse. The top 33% tax rate under the proposals start at taxable income of $112,500 for single people, whereas under current law, there is a lower 28% tax bracket all the way up to $191,650 of 2017 taxable income.
So determining how the new tax laws will save (or cost) you money will depend on your individual tax situation. However, there may be some old and new tax planning ideas to save you money:
- If you have a lot of charitable donations and perhaps some mortgage interest, and much of these deductions essentially wasted due to the larger standard deduction, you could “bunch up” two years of charitable donations into one big year for a substantial deduction in one year, and take the large $30,000 or $24,000 standard deduction in the other year. Over the two year period, you could save a lot of tax money.
- As we mentioned in a prior newsletter, the Qualified Charitable Distribution (QCD) strategy is even more helpful when you use a standard deduction. And with the larger proposed standard deductions, many more people will benefit from QCDs than before. QCDs are available for people with a traditional IRA who are over age 70½ and make charitable donations. Some of your required minimum distributions (RMDs) can be donated to charity, thus lowering your income and tax.
- And if you would otherwise qualify, but have left most of your retirement assets in your former employer’s retirement plan (not an IRA), consider rolling it over to an IRA instead, so that in future years you can save money with QCDs.
- Making retirement plan contributions will continue to be a useful tax saving idea. We generally say you should defer the maximum you can into a 401(k) or 403(b) plan.
- Making Roth IRA contributions when available will continue to be a great idea for you and your children.
- Develop a Roth conversion strategy that will build financial security for you and perhaps your beneficiaries over your lifetimes. Consider your future tax rates in retirement (and your beneficiaries’ future tax rates), and it may make sense to convert up to the top of the 15% or 25% tax bracket. If you are, and will be, in the 25% (or other) tax bracket, it may make sense to convert to the top of that tax bracket.
- Also, there are several other considerations regarding Roth conversion strategies. There is proposed legislation that would disallow Roth IRA conversions in the future. Though we don’t want to overreact when the proposal doesn’t have a lot of legs at this point, we do recognize the window for Roth conversions may be limited. In addition, even if Trump and the Republicans achieve these tax rates, it is unlikely they will become permanent. It isn’t all that difficult to predict if the tax rates do go down that eventually they will go back up. Doing Roth conversions while the tax rates are low and still allowed without limit might significantly increase family wealth. They are also helpful in Jim’s “Death of the Stretch IRA” analysis.
I should also point out that proposals may include eliminating the additional Medicare premiums for higher income people. These Medicare premiums, as well as the AMT, are often drawbacks of doing large Roth conversions. So the new laws may result in larger “low cost” Roth conversions becoming available. It will be even more important to know your goal on accumulating Roth IRA money. Having a pool of tax-free Roth money is a great idea since if all you have is traditional IRA money, a big future expense may require large IRA distribution which may taxed be at a higher tax rate. The new laws may present a call to action to achieve your Roth IRA accumulation goals.
We do not know when or exactly how tax laws will change. We do not know if the individual tax rates will be changed retroactively for 2017, phased in over a period of years, or start in 2018 or later. It is also important to realize that these “lower” tax rates may be only temporary, for a period of years, because the tax laws could change again after the next election. So it makes sense to take advantage of them when you can. There will be planning strategies we can help you with as things develop.
Steve Kohman, CPA, CSEP, CSRP, has worked with the Lange Financial Group for 21 years. He is the veteran “number cruncher” that consistently helps clients make great decisions and cut taxes.
Need an ice-breaker at a social event? Just mention some new little nifty device or app that you have discovered. In seconds the conversation will turn to the trials, tribulations, and sometimes the utter delight that technology provides.
I know I am not alone when I say I love technology until it doesn’t work. Then the frustration builds. Install an update and, suddenly, a program I have been using for years fails to work. You search for an item you need, but to purchase it you have to remember a password for the site you only visited once before several years ago… But frustration aside, I have learned to embrace technology because it really does improve my quality of life, and I think it can for you too. So, if you have been holding back from upgrading your flip phone to a smartphone, or trading in your old computer for a faster and lighter laptop, I’d like to share just a few of the recent advances in technology that have made my life better.
I am gradually becoming dependent on the GPS in the car, especially when I travel to new cities. It not only keeps you from getting lost, it alerts you to the approaching interchanges and helps you get in the appropriate lane for a turn or an exit. That seems much safer than having to pull a quick lane change at the last second.
I also use Google Maps for my bicycle rides which dramatically reduces the chance of getting lost or going the wrong way. You can create and download maps from www.ridewithgps.com or www.mapmyride.com. Google maps even knows about bicycle trails and will direct you to the best routes using bike trails or less busy streets. These apps work for walks too.
I have an Apple Watch that acts like a cell phone on my wrist. Plus, I connect wireless hearing aids to my phone which has dramatically improved my ability to hear conversations. I can easily adjust the volume with a single button, and the aids adjust for different sound environments like crowded rooms or noisy restaurants. Now, I can talk to my wristwatch just like Dick Tracey. I can’t help but think the designers at Apple were fully aware of that appeal! My Apple Watch even reminds me to stand up if I have been sitting too long.
I love my phone app that identifies the planets, stars, and constellations in the night sky. Is that Jupiter? Yup.
I use Uber in town and out of town. No more parking challenges when attending the symphony. And no cash exchanges, it is all handled via the app. I love that Pittsburgh (and Uber) is at the forefront of developing driverless technology, and here is an interesting tidbit: it is very likely that children born in 2017 will never learn to drive—they won’t need to.
I love speech recognition software. I love having so much entertainment—movies, music, pod casts, etc. available through my TV, computer, or phone. Pandora and Spotify are great music apps.
Oh, and getting back to passwords. There are at least three password management apps, Dashlane, 1Password, and Last Pass that will help you save passwords, remember them for you, and insert them when you need them. There is a good article in The New York Times “Apps to Manage Passwords So They Are Harder to Crack Than ‘Password’” that you should read for more details.
I get custom shirts from MTailor.com. You send a picture and your measurements through their app and you receive a perfect fitting shirt.
If you really want to jump into the water, consider purchasing a virtual reality headset! Your grandchildren will flip. Of course, there are a million games, but there are also meditation apps, exercise apps, and lots of interesting virtual experiences.
Despite what you might think, I am not really a techie. I rely on my wife, Cindy, who is patient and smart to install things, or I pay for help. I still get most of my business from referrals and workshops that people attend in person. I send old fashioned hard copy invitations using real (as in snail) mail. But, I also have a full-time internet marketing director to help spread my information across the country.
I will certainly admit that technology can also have an adverse effect on our social interactions. Frequently, that little noise that alerts you to an incoming email distracts you from your face-to-face conversation with your friend. When I go for a ride or a walk, I usually ignore calls, emails or texts until I’m home again. So, it is also good to turn off our devices.
Our office’s latest push has been to get out good information on the “Death of the Stretch IRA.” Maybe it was all this emphasis on “stretching” that made me think of this topic. I want to encourage people, especially people of my generation and older, to stretch your technology boundaries. Try something new, have some fun, learn to get comfortable with a couple of new apps or even a new phone. As with so many things, if used well, technology can improve your quality of life.
See solutions at the bottom of this page.
James Lange, CPA
Jim is a nationally-recognized tax, retirement and estate planning CPA with a thriving registered investment advisory practice in Pittsburgh, Pennsylvania. He is the President and Founder of The Roth IRA Institute™ and the bestselling author of Retire Secure! Pay Taxes Later (first and second editions) and The Roth Revolution: Pay Taxes Once and Never Again. He offers well-researched, time-tested recommendations focusing on the unique needs of individuals with appreciable assets in their IRAs and 401(k) plans. His plans include tax-savvy advice, and intricate beneficiary designations for IRAs and other retirement plans. Jim's advice and recommendations have received national attention from syndicated columnist Jane Bryant Quinn, his recommendations frequently appear in The Wall Street Journal, and his articles have been published in Financial Planning, Kiplinger's Retirement Reports and The Tax Adviser (AICPA). Both of Jim’s books have been acclaimed by over 60 industry experts including Charles Schwab, Roger Ibbotson, Natalie Choate, Ed Slott, and Bob Keebler.