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Required Minimum Distributions in 2020 – What You Need to Know

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This was already a year of change for those impacted by required minimum distributions (RMDs). The SECURE Act signed into law at the end of 2019 includes some significant changes in RMDs starting in 2020. The CARES Act (passed in the wake of the coronavirus pandemic) included additional changes that apply only to 2020. Below is a discussion of some major changes for required minimum distributions in 2020 and what you need to know.

The CARES Act and RMDs

The CARES Act is a stimulus package geared in large part to providing relief for businesses, but it did contain some portions directed at individuals. One such piece is the waiver of RMDs for 2020.

This waiver includes 2020 RMDs for those who reached age 70 ½ prior to January 1, 2020 and were required to take them, this includes those who reached age 70 ½ in 2019 and who would have been required to take their first RMD on April 1 of 2020.

The waiver also applies to those who otherwise would have needed to commence their RMDs this year due to reaching the age of 72 as mandated by the rules in the SECURE Act. This effectively delays the commencement of their RMD a few years beyond their expectations prior to the SECURE Act.

The waiver applies to RMDs from IRAs, 401(k)s, 403(b)s and other types of retirement plans. Additionally, the waiver applies to those who would otherwise be required to take their RMD as the beneficiary of an inherited IRA.

Those who wish to make charitable contributions using the qualified charitable distribution (QCD) feature of their normal RMDs from an IRA can still do so. The amount donated to charity will still be exempt from federal taxes up to the donation limits. A benefit of doing this in 2020 is that it can serve to reduce their IRA balance and potentially lower the amount of future RMDs.

For those who have already taken their 2020 RMD, there ae some limited options to take advantage of the waiver. One is to take advantage of the 60-day rollover rule. This would allow you to redeposit the distribution back into a qualified retirement account such as an IRA or a 401(k). The 60-day rule is a bit complex so be sure that you consult with your financial advisor and your account custodian or administrator to be sure you don’t violate the rule and incur an unwanted tax hit.

Those who took their RMD from an inherited IRA account are out of luck. There is no 60-day rollover rule for these accounts.

For those who wish to or need to make withdrawals from their retirement accounts they can of course continue to do so. There were other changes to retirement accounts enacted under the CARES Act, including relaxed rules on 401(k) loans and on withdrawals from retirement accounts to help those impacted by COVID-19.

RMDs and the SECURE Act 

This was already a year of change for required minimum distributions. The SECURE Act raised the age to commence RMDs, called the required beginning date (RBD), from IRAs, 401(k)s and other retirement accounts from 70 ½ to 72 for those who turned 70 ½ on or after January 1, 2020. For those who would normally have commenced taking their RMDs in 2020 upon reaching age 70 ½, this pushed the requirement back by two years.

QCDs

The SECURE Act did not change the age for qualified charitable distributions from age 70 ½, so even though they do not have to take their RMDs until age 72, those who wish do so can still make a charitable contribution via a distribution from their traditional IRA account up to the $100,000 limit and the distribution will not be subject to federal income taxes.

Inherited IRAs 

One of the biggest changes for IRAs in the SECURE Act pertains to inherited IRAs. Non-spousal beneficiaries of inherited IRAs prior to January 1, 2020 could stretch these accounts using RMDs based on their life expectancy. To the extent the beneficiary was younger than the original account owner this could allow them to stretch the RMDs out for many years while the value of the IRA grew tax-deferred.

Under the SECURE Act, most non-spousal beneficiaries of an IRA will now be required to withdraw all funds from the account within a ten-year period. This means that in many cases a higher percentage of the account will go towards taxes than in the past. For example, if a parent passes their IRA to an adult child, that child will need to take a full distribution from the account within ten years and pay the income taxes that will be due. If this child is in their 40s or 50s and in their peak earning years, the amount of any distributions will be added onto their earned income and potentially be taxed at a much higher rate than they would have been in the past.

Beneficiaries, known as eligible designated beneficiaries, will still be able to take distributions from an inherited IRA using RMDs. These beneficiaries include:

  • Surviving spouses
  • A minor child of the deceased IRA account owner
  • A beneficiary who is no more than ten years younger than the deceased IRA account owner
  • A beneficiary who is deemed to be chronically ill

This provision is expected to result in changes to the estate planning of many IRA account owners in the coming years.

The Bottom Line 

Between the planned changes under the SECURE Act and the unplanned changes under the CARES Act, those normally faced with taking RMDs have a number of changes to be aware for 2020 and beyond. It’s a good idea to consult with your financial or tax advisor to ensure that you understand how these rules apply to your situation.

How has the volatility in the stock market impacted your investments and your financial plan? Approaching retirement and want another opinion on where you stand? Not sure if your investments are right for your situation? Need help getting on track? Check out my Financial Review/Second Opinion for Individuals service for detailed guidance and advice about your situation.

NEW SERVICE – Financial Coaching. Check out this new service to see if its right for you. Financial coaching focuses on providing education and mentoring for the financial transition to retirement.

FINANCIAL WRITING. Check out my freelance financial writing services including my ghostwriting services for financial advisors.

Please contact me with any thoughts or suggestions about anything you’ve read here at The Chicago Financial Planner. Don’t miss any future posts, please subscribe via email. Check out our resources page for links to some other great sites and some outstanding products that you might find useful.

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Roth IRA Conversion – A Good Idea for 2020?

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A Roth IRA conversion can be a good idea for many investors. Whether or not they are a good idea for you in 2020 or in any year will depend upon your unique situation. That said, 2020 is shaping up as a year where a number of factors that could make a Roth IRA conversion desirable for many people are all coming together.

What is a Roth conversion? 

A Roth IRA conversion is a conversion of some or all of the money in a traditional IRA account to a Roth IRA account. The funds converted will be taxed with the exception of value of any after-tax contributions made to the account.

A Roth conversion may also be an option within a 401(k) or a 403(b) plan that offers a Roth option. This will be subject to the rules of the plan, it’s best to check with the plan administrator.

Benefits of a Roth conversion 

The main benefit of a Roth conversion is typically the ability of the account owner to make tax-free withdrawals from the account in retirement if certain requirements are met. A related benefit is tax diversification for someone who holds the bulk of their retirement savings in traditional IRAs or 401(k)s.

From an estate planning perspective, Roth IRAs are not subject to required minimum distributions, which offers a number of advantages for those who don’t need to money from the distributions and who want to preserve their IRA accounts for their heirs.

Due to a combination of circumstances, 2020 might be a desirable year in which to do a Roth conversion if this strategy otherwise fits your situation.

Roth conversions in 2020 

Entering 2020, two factors were already in place that potentially make a Roth conversion desirable:

Based on the circumstances arising out of the coronavirus pandemic, two other factors have emerged in 2020 that serve to make a Roth conversion potentially desirable:

Let’s take a look at these factors in detail.

Lower tax rates 

The lower federal tax rates arising out of the tax reform that began with the 2018 tax year make it cheaper to convert to a Roth, all else being equal. Converting the same amount in 2020 will result in a lower tax bill than under the old tax rates.

The SECURE Act and inherited IRAs 

The SECURE Act drastically changed the rules for most non-spousal beneficiaries of inherited IRAs who inherit these accounts on or after January 1, 2020. In the past these beneficiaries could take required minimum distributions based on their own life expectancy. For beneficiaries who were younger than the original account owner, they were able to stretch out the benefits of tax-deferred growth of these accounts for a number of years.

With the rule changes, most non-spousal beneficiaries now must withdraw the entire value of the account within ten years and pay taxes on the withdrawals. This can vastly diminish the value of the account for these beneficiaries.

Inherited Roth IRAs are still subject to the 10-year withdrawal rule for most non-spousal beneficiaries, but there are no taxes on withdrawals if certain requirements are met.

The decision whether or not you want to do the Roth conversion during your lifetime in order to provide the benefit of tax-free withdrawals for your beneficiaries can be a complicated one. You will need to factor in your own tax situation, was well as the potential tax situation of your intended beneficiaries.

Lower account valuations 

At the time this was written, we’ve seen a significant drop in the stock market from its highs reached in February of 2020, though the market has erased some of these losses over the past couple of weeks.

The advantage of lower account valuations in doing a Roth conversion is that a higher percentage of the account’s value can be converted. For those who wish to convert their entire account they can do so and pay taxes on a lower conversion amount. This offers the potential for growth under the Roth umbrella with tax-free withdrawals of these appreciated funds in retirement.

The waiver of RMDs for 2020 

As part of the CARES Act, RMDs are waived for 2020 for IRAs, 401(k)s and other retirement accounts. This includes not only RMDs for the account holders, but also for inherited IRA account beneficiaries.

Where this can come into play in terms of a Roth conversion is instead of taking the amount of your RMD for the year, you might consider converting that amount to a Roth IRA. You will still pay the same amount in taxes; these dollars will now be in a Roth account allowed to grow tax-free and these dollars will not subject to an RMD for 2021 or beyond.

The Bottom Line 

If a Roth IRA conversion is right for your situation, 2020 is a good year to do the conversion. The factors mentioned above have created a favorable environment for Roth conversions. If you work with a financial advisor they can help decide if a Roth conversion is right for you and to make sure everything is executed correctly if you move forward.

Photo by Carlos Muza on Unsplash

Concerned about the stock market’s volatility? Approaching retirement and want another opinion on where you stand? Not sure if your investments are right for your situation? Need help getting back on track? Check out my Financial Review/Second Opinion for Individuals service for detailed guidance and advice about your situation.

NEW SERVICE – Financial Coaching. Check out this new service to see if it’s right for you. Financial coaching focuses on providing education and mentoring on the financial transition to retirement. We can design a full coaching program or do a one-time call to discuss your situation.

FINANCIAL WRITING. Check out my freelance financial writing services including my ghostwriting services for financial advisors.

Please contact me with any thoughts or suggestions about anything you’ve read here at The Chicago Financial Planner. Don’t miss any future posts, please subscribe via email. Check out our resources page for links to some other great sites and some outstanding products that you might find useful.

401(k) Options When Leaving Your Job

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Retirement Funds over Time

Perhaps you are retiring or perhaps you are moving on to another opportunity. Perhaps you were downsized. Whatever the reason, there are many things to do when leaving a job. Don’t neglect your 401(k) plan during this process.

With a defined contribution plan such as a 401(k) you typically have several options to consider upon separation.  Here is a discussion of several 401(k) options when leaving your job and the pros and cons of each. Note this is a different issue from the decision that you may be faced with if you have a defined benefit pension plan.

Leaving your money in the old plan 

I’m generally not a fan of this approach. All too often these accounts are neglected and add to what I call “financial clutter,” a collection of investments that have no rhyme or reason to them.

In some larger plans, participants might have access to a solid menu of low cost institutional funds. In addition, many of these plans tend to be among the cheapest in terms of administrative costs. If this is the case with your old employer’s plan, it might make sense to leave your account there. However, it is vital that you manage your account in terms of staying on top of changes in the investment options offered and that you reallocate and rebalance your account when applicable.

Unfortunately far too many lousy 401(k) plans are filled with high cost, underperforming investment choices and leaving your retirement dollars there may not be your best option.

Rolling your account over to an IRA 

This route not only allows for the consolidation of accounts which makes monitoring your portfolio easier, but investors often have access to a wider range of low cost investment options than might be available to them via their old employer’s plan.

Even for do it yourself investors, rolling over to an IRA is often a good idea for similar reasons. You will want to take stock of your overall portfolio goals in light of your financial plan to determine if the custodian you are using or considering to offers a range of appropriate choices for your needs.

Rolling your account into your new employer’s plan 

If allowed by your new employer’s plan, this can be a viable option for you if you are moving to a new job. You will want to ensure that you consult with the administrator of your new employer’s plan and follow all of their rules for moving these dollars over.

This might be a good option for you if your 401(k) balance is small and/or you don’t have significant outside investments. It might also be a good option if your new employer has an outstanding plan on the order of what was mentioned above.

Before going this route, you will want to check out your new employer’s plan.  Is the investment menu filled with solid, low cost investment options? You want to avoid moving these dollars from a solid plan at your old employer to a sub-par plan at your new company. Likewise, you don’t want to move dollars from one lousy plan to another.

Other considerations

A fourth option is to take a distribution of some or all of the dollars in your old plan. Given the potential tax consequences I generally don’t recommend this route.

A few additional considerations are listed below (I mention these here to build your awareness, but I am not covering them in detail here.  If any of these or other situations apply to you, I suggest that you consult with your financial or tax advisor for guidance.):

  • The money coming out of the plan is always taxable, except for any portion in a Roth 401(k) assuming that you have satisfied all requirements to avoid taxes on the Roth portion.
  • You will likely be subject to a penalty if you withdraw funds prior to age 59 ½ with some exceptions such as death and disability.
  • There is also a pretty complex method for those under age 59 ½ to withdraw funds and avoid the penalty called 72(t). Additionally, there are complex rules for those who are 55 and older who wish to take a distribution from their 401(k) upon separating from their employer. In either case consult with a financial advisor who understands these complex rules before proceeding.
  • If your old plan offers a match there is likely a vesting schedule for their matching contributions.  Your salary deferrals are always 100% vested (meaning you have full rights to them).  Matching contributions typically become vested on a schedule such as 20% per year over five years. You will want to know where you stand with regard to vesting anyway, but if you are close to earning another year of vesting you might consider this in the timing of your departure if this is an option and it makes sense in the context of your overall situation.
  • If your company makes annual profit sharing contributions, they might only be payable to employees who are employed as of a certain date. As with the previous bullet point, it might behoove you to plan your departure date around this if the amount looks to be significant and it works in the context of your overall situation.
  • Another factor that might favor rolling your old 401(k) to your new employer’s plan would be your desire to convert traditional IRA dollars to a Roth IRA now or in the future via the use of a backdoor Roth. There could be a tax advantage to be had by doing this, please consult with your financial advisor here for guidance tailored to your unique situation.
  • If you are 72 or older (or had been subject to required minimum distributions under the old rules prior to the SECURE Act) and still working, you are not required to take annual required minimum distributions from your 401(k) as long as you are not a 5% or greater owner of the company and if your employer has made this election for their plan. This applies only to the retirement plan of your current employer, you are subject to any RMDs that would apply to IRAs or old 401(k) plans with former employers. This might also be a reason to consider rolling your old 401(k) or even an IRA to your new employer’s plan if they accept these types of rollovers, again consult with your financial advisor.

There are a number of 401(k) options when leaving your job.  The right course of action will vary based upon your individual circumstances.  The wrong answer is to ignore this decision.

Approaching retirement and want another opinion on where you stand? Need help deciding what to do with your retirement plan when leaving a job? Not sure if your investments are right for your situation? Need help getting on track? Check out my Financial Review/Second Opinion for Individuals service for detailed guidance and advice about your situation.

NEW SERVICE – Financial Coaching. Check out this new service to see if it’s right for you. Financial coaching focuses on providing education and mentoring on the financial transition to retirement.

FINANCIAL WRITING. Check out my freelance financial writing services including my ghostwriting services for financial advisors.

Please contact me with any thoughts or suggestions about anything you’ve read here at The Chicago Financial Planner. Don’t miss any future posts, please subscribe via email. Check out our resources page for links to some other great sites and some outstanding products that you might find useful.

Photo credit:  Flickr

SALT and Your Taxes

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One of the big topics again this tax season is SALT. This is not a seasoning for food, but rather SALT stands for state and local taxes. The treatment of these expenses in terms of their deductibility for those who itemize was a major change beginning with the 2018 tax year, arising out of the Tax Cut and Jobs Act passed at the end of 2017.

What is SALT?

As mentioned above this includes state and local taxes. In most cases the biggest components will be your state income tax, state and local sales taxes and the real estate taxes on your home.

The SALT cap 

Beginning with the 2018 tax year, SALT taxes have been capped at $10,000 as an itemized deduction. This represents a significant reduction for many taxpayers compared to prior years. Those in states with high state income taxes and areas with high real estate taxes will likely feel the greatest impact.

Our latest real estate tax bill alone has put us over the cap limit. The state income tax rate for Illinois stands at 4.95%. As with the 2018 tax year, his means that none of the state income taxes on income earned by my wife and I will be eligible as an itemized deduction for 2019 and beyond. These rules extend through the 2025 tax year.

Fewer taxpayers can itemize 

One estimate indicated that the number of itemizers would drop from about 46.5 million in 2017 to about 18 million in 2018. The increase in the standard deduction is another major change impacting the ability to itemize along with the SALT cap.

  • For those filing married and joint the standard deduction increased from $12,740 to $24,000 for 2018. For the 2019 tax year this increases to $24,400, it increases to $24,800 for 2020.
  • For single filers the standard deduction increased from $6,350 to $12,000. For the 2019 tax year this increases to $12,200, it increases to $12,400 for 2020.

This means for those with itemized deductions less than these amounts it makes financial sense to just take the standard deduction.

What impact does the SALT cap have on your taxes? 

Beyond whether or not you can still itemize deductions, you will need to determine the effect of the SALT cap and other changes under the new rules on your overall tax situation.

For example, a married couple might have previously been able to claim $18,000 in itemized deductions prior to the new rules. Now with the SALT cap, their itemized deductions will be lower, and they will be forced to claim the standard deduction. However, the $24,400 standard deduction for 2019 likely provides a greater benefit than the amount they itemized in prior years.

Other factors to consider:

  • Tax rates are generally lower than in prior years starting with 2018.
  • Some businesses and the self-employed might be eligible for a pass-through deduction of 20% of their business income in some cases. In our case this will be helpful to our situation for 2018 and will be again in 2019.
  • The income limits on the child-care credit have been increased allowing more parents to take advantage of this credit. Remember a direct credit on your taxes is worth more than a deduction in income.
  • The alternative minimum tax will impact fewer taxpayers than in past years due to changes in the income limits.
  • Along with the increase in the standard deduction, the personal exemption has been repealed under the new rules. This was worth $4,050 per person in 2017.

The point is the SALT cap will impact each of us differently depending upon our situation.

The impact on real estate

Some have said that the SALT cap was retribution to those in “blue” states that didn’t support the president in the last election. I’ll leave that to you the reader to decide.

This cap disproportionately impacts states with high state income taxes and relatively high real estate values. According to one study, New York, New Jersey, Connecticut, California and Maryland were the top five states in terms of the deduction for SALT as a percentage of taxpayer’s AGI (adjusted gross income) in 2016.

The inability to fully deduct property taxes and mortgage interest will make the after-tax cost of buying a home in high cost areas more expensive. Some have speculated that the cap on the ability to deduct these taxes might influence decisions about where people live and potentially cause some people to relocate to lower tax, lower cost states. It could also have an impact on the level of housing starts in these high cost areas, and the fortunes of home builders and related industries.

Planning around the SALT cap

Most of the changes enacted as part of the Tax Cut and Jobs Act expire after the 2025 tax year, so the SALT cap will be around for a few years. Here are some planning considerations.

Bunch deductible expenses. This could involve deferring or accelerating expenses that are eligible for itemizing into one year to get you over the standard deduction threshold. A couple of examples:

  • Bunch your charitable contributions in to a single year. If you were going to make say $5,000 in contributions over several years, bunch all or as much of that amount as possible into a single year if it will help you to reach the level where you will be able to itemize.
  • Same thought process as above with elective medical expenses. If there is a procedure or other elective expense, plan to incur it in the year that is most beneficial tax-wise if possible.

Consider directing some of your RMD to charity. For those who are taking required minimum distributions from their retirement accounts, consider using the QCD (qualified charitable deduction) to contribute some or all of your RMD to a qualified charity. There is no charitable deduction, but the amount of the QCD is not subject to federal taxes.

Max out your retirement plan contributions. This has nothing to do with itemized deductions, but this can provide the double benefit of a larger tax break if you aren’t currently doing this along with the added savings for retirement. If your company offers a 401(k) or similar plan be sure that you are contributing as much as possible. If you are self-employed be sure that you have a retirement plan set-up and that you are contributing as much as possible as well.

Review your mortgage and real estate situation. It may behoove you to pay down your mortgage if you can, especially if you can no longer itemize. If you are looking at buying a new home, be sure to take the SALT cap into account when calculating the after-tax cost of ownership.

The Bottom Line 

Tax season is a good time to take a look at your tax situation not only for last year but also going forward. Be sure to consult with a qualified tax or financial professional to help you review your situation as needed.

Need help looking at your overall financial plan and want another opinion on where you stand? Not sure if your investments are right for your situation? Concerned about stock market volatility? Check out my Financial Review/Second Opinion for Individuals service for detailed guidance and advice about your situation.

NEW SERVICE – Financial Coaching. Check out this new service to see if it’s right for you. Financial coaching focuses on providing education and mentoring on the financial transition to retirement.

FINANCIAL WRITING. Check out my freelance financial writing services including my ghostwriting services for financial advisors.

Please contact me with any thoughts or suggestions about anything you’ve read here at The Chicago Financial Planner. Don’t miss any future posts, please subscribe via email. Check out our resources page for links to some other great sites and some outstanding products that you might find useful.

8 Year-End Financial Planning Tips for 2014

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When I thought about this post I looked back at a post written about a year ago cleverly titled 7 Year-End 2013 Financial Planning Tips.  The year-end 2014 version isn’t radically different but it’s also not the same either.

Here are 8 year-end financial planning tips for 2014 that you might consider:

Consider appreciated investments for charitable giving 

This was a good idea last year and in fact always has been.  Many organizations have the capability to accept shares of individual stocks, ETFs, mutual funds, closed-end funds and other investment vehicles.  The advantage to you as the donor is that you receive a charitable deduction equal to the fair market value of the security on the date of the completed transfer to the charity.  Additionally you will not owe any tax on the gains in the investment unlike if you were to sell it.

This does not work with investments showing a loss since purchase and of course is not applicable for investments held in tax-deferred accounts such as an IRA.  I suggest consulting with a financial or tax advisor here.

Match gains and losses in your portfolio 

With the stock market having another solid year, though not nearly as good as 2013 was, year-end represents a good time to go through the taxable portion of your investment portfolio to review your gains and losses.  This is a sub-set of the rebalancing process discussed below.

Note to the extent that recognized capital losses exceed your recognized gains you can deduct an extra $3,000.  Additional losses can be carried over.  This is another case where you will want to consult a tax or financial advisor as this can get a bit complex.

Rebalance your portfolio 

With several stock market indexes at or near record highs again you could find yourself with a higher allocation to stocks across your portfolio than your financial plan calls for.  This is exposing your portfolio to more risk than anticipated.  While many of the pundits are calling for continued stock market gains through 2015, they just could be wrong.

When rebalancing take a look at all investment accounts including your 401(k), any IRAs, taxable accounts, etc.  Look at all of your investments as a consolidated portfolio.  While you are at it this is a good time to check on any changes to the lineup in your company retirement plan.  Many companies use the fall open enrollment event to also roll out changes to the 401(k) plan.

Start a self-employed retirement plan 

There are a number of retirement plan options for the self-employed.  Some such as a Solo 401(k) and pension plan require that you have the plan established prior to the end of the year if you want to make a contribution for 2014.  You work too hard not fund a retirement for yourself.

Take your required minimum distributions

If you are one of the many people who need to take a required minimum distribution from a retirement plan account prior to the end of the year you really need to get on this now.  The penalties for failing to take the distribution are steep and you will still owe the applicable income taxes on the amount of the distribution.

Use caution when buying mutual funds in taxable accounts 

This is always good advice around this time of year, but is especially important this year with many funds making large distributions.  Many mutual funds declare distributions near year-end.  You want to be careful to wait until after the date of record to buy into a fund in your taxable account in order to avoid receiving a taxable distribution based on a few days of fund ownership.  The better path, if possible, is to wait to buy the fund after the distribution has been made.  This is not an issue in a tax-deferred account such as an IRA.

Have a family financial meeting 

With many families getting together for the holidays this is a great time to hold a family financial meeting.  It is especially important for adult children and their parents to be on the same page regarding issues such as the location of the parent’s important documents like their wills and what would happen in the event of a long-term care situationWhile life events will happen, preparation and communication among family members before such an event can make dealing with any situation a bit easier. 

Get a financial plan in place 

What better time of year to get your arms around your financial situation?  If you have a financial plan in place review it and perhaps meet with your advisor to make any needed revisions.  If you don’t have one then find a qualified fee-only financial advisor to help you.  Just like any journey, achieving your financial goals requires a roadmap.  Why start the journey without one?

If you are more of a do-it-yourselfer, check out an online service like Personal Capitalor purchase the latest version of Quicken.

These are just a few year-end financial planning tips.  Everyone’s situation is different and this could dictate other year-end financial priorities for you.

The end of the year is a busy time with the holidays, parties, family get-togethers, and the like.  Make sure that your finances are in shape for the end of the year and beyond.  

7 Year-End 2013 Financial Planning Tips

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Thanksgiving is behind us and we are in the home stretch of 2013.  While your thoughts might be on shopping and getting ready for the holidays, there are a number of financial planning tasks that still need your attention.  Here are 7 financial planning tips for the end of the year.

Use appreciated investments for charitable donations

 If you would normally contribute to charity why not donate appreciated stocks, mutual funds, ETFs, closed-end funds, etc.?  The value of doing this is that you receive credit for the market value of the donated securities and avoid paying the capital gains on the appreciation.  A few things to keep in mind:

  • This only works with investments held in a taxable account.
  • This is not a good strategy for investments in which you have an unrealized loss.  Here it is better to sell the investment, realize the loss and donate the cash.

 

English: A bauble on a Christmas tree.

 

Harvest losses from your portfolio

The thought here is to review investments held in taxable accounts and sell all or some of them with unrealized losses.  These may be a bit harder to come by this year given the appreciation in the stock market.  Bond funds and other fixed income investments might be your best bet here.

The benefit of this strategy is that realized losses can be offset against capital gains to mitigate the tax due.  There are a number of nuances to be aware of here, including the Wash Sale Rules, so be sure you’ve done your research and/or consulted with your tax or financial advisor before proceeding.

Establish a Solo 401(k) 

If you are self-employed and haven’t done so already consider opening a Solo 401(k) account.  The Solo 401(k) can be an excellent retirement planning vehicle for the self-employed.  If you want to contribute for 2013 the account must be opened by December 31.  You then have until the date that you file your tax return, including extensions, to make your 2013 contributions. 

Rebalance your portfolio

With the tremendous gains in the stock market so far this year, your portfolio might be overly allocated to equities if you haven’t rebalanced lately.  The problem with letting your equity allocation just run with the market is that you may be taking more risk than you had intended or more than is appropriate for your situation.

Rebalance with a total portfolio view.  Use tax-deferred accounts such as IRAs and 401(k)s to your best advantage.  Donating appreciated investments to charity can help.  You can also use new money to shore up under allocated portions of your portfolio to reduce the need to sell winners.

Review your 401(k) options 

This is the time of the year when many companies update their 401(k) investment menus both by adding new investment options and replacing some funds with new choices.  This often coincides with the open enrollment process for employee benefits and is a good time for you to review any changes and update your investment choices if appropriate.

Be careful when buying into mutual funds 

Many mutual fund companies issue distributions from the funds for dividends and capital gains around the end of the year.  These distributions are based upon owning the fund on the date the distribution is declared.  If you are not careful you could be the recipient of a distribution even though you’ve only owned the fund for a short time.  You would be fully liable for any taxes due on this distribution.  This of course only pertains to mutual fund investments made in taxable accounts.

Required Minimum Distributions 

If you are 70 ½ or older you are required to take a minimum distribution from your IRAs and other retirement accounts.  The amount required is based upon your account balance as of the end of the prior year and is based on IRS tables.  Account custodians are required to calculate your RMD and report this amount to the IRS.

Note beneficiaries of inherited IRAs may also be required to take an RMD if the deceased individual was taking RMDs at the time of his/her death.

If you have multiple accounts with multiple custodians you need to take a total distribution based upon all of these accounts, though you can pick and choose from which accounts you’d like to take the distribution.  Make sure to take your distribution by the end of the year otherwise you will be faced with a stiff penalty of 50% of the amount you did not take on top of the income taxes normally due.

If you turned 70 ½ this year you can delay your first distribution to April 1 of next year, but that means that you will need to take two distributions next year with the corresponding tax liability.  Also if you are still working and are not a 5% or greater owner of your company you do not need to take a distribution from your 401(k) with that employer.  You do, however, need to take the distribution on all remaining retirement accounts.

For those who take required minimum distributions and who are otherwise charitably inclined, you have the option of diverting some or all of your distribution via a provision called the qualified charitable distribution (QCD).  The advantage is that this portion of your RMD is not treated as a taxable income and may have a favorable impact on the amount of Social Security that is subject to income taxes for 2014 and other potential benefits.  Note that you can’t double dip and also take this as a deductible charitable contribution.  Consult with the custodian of your IRA or retirement plan for the logistics of executing this transaction.

With all of the strategies mentioned above I recommend that you consult with a qualified tax or financial advisor to ensure  that the strategy is right for your unique situation and if so that you execute it properly. 

Certainly year-end is about the holidays, family, friends, food, and football.  It is also a great time to take execute some final year-end financial planning moves that can have a big payoff and in the case of RMDs save you from some hefty penalties.

Please contact me at 847-506-9827 for a complimentary 30-minute consultation to discuss all of  your investing and financial planning questions. Check out our Financial Planning and Investment Advice for Individuals page to learn more about our services.  

Photo credit:  Wikipedia

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