IRAs and RMDs

Tax Man or Stretch IRAs - Leaving a Legacy for your Family The other day I was listening to the Beatles channel on Sirius Radio and the song came on called, “The Tax Man” by Eric Clapton and George Harrison. And it goes like this: “Let me tell you how it will be / There’s one for you, 19 for me /Because I’m the tax man /Yeah, I’m the tax man.” I’m sure there was a reason these rock stars were singing the blues about paying a huge amount of taxes. Let’s assume you’re not a rock star. What is it you can do.... READ MORE OR Download PDF

Taking IRA Distributions - Lime in Coconut Do you remember a song by Harry Nilsson called “Coconut”? It goes a little like this: She put the lime in the coconut, she drank 'em bot' up / She put the lime in the coconut, she drank 'em bot' up Kind of a catchy tune, huh? While I don’t know if retirees..READ MORE...OR .... Download PDF

4% Withdrawal Rate : I was doing an investment seminar back in 2012 and I was approached by a very excited retiree. He promptly told me he had a “bone to pick with me”. I was certainly set back because the restaurant had told me that the chicken... READ MORE

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How to take IRA distributions: Put the Lime in the Coconut - Download PDF

Do you remember a song by Harry Nilsson called “Coconut”? It goes a little like this:

She put the lime in the coconut, she drank 'em bot' up
She put the lime in the coconut, she drank 'em bot' up

Kind of a catchy tune, huh? While I don’t know if retirees have a problem of making adult beverages, but what I do know is the vast majority of retirees probably have three or four different qualified type plans (i.e. IRAs, deferred comps, 401(k)s, 403(b)s, etc.). Indeed, many retirees I’ve met have anywhere from 5 to 12 different plans.

“John, Where Do I Take My Distributions From?”

Whether somebody is doing an RMD (which is forced distributions at 70½), or somebody’s doing volunteer distributions – they want to know the big question. The question I always get is – “John, I’ve got all these different IRAs, where should I take the money or should I take it all out of them?”

You know, if you have 10 or 14 multiple IRAs, it’s probably best to get it down to a more manageable level such as 3 or 4 just from a paperwork standpoint. Maybe you cannot because maybe the investments have early penalties or early withdrawals.

“Fee Here or Fee There, Fee Fees Everywhere”

Many IRA custodians charge a separate fee to help administer the IRA type plan. The fee is not charged per value, but per plan. So you get charged if you have $10,000 the same as somebody who has half a million dollars. In fact, in many cases, if they half a million dollars, the fee is exempted. So if you have 10 or 14 different IRA type plans, chances are you’re being charged for each by each custodian, maybe just $25 to $100, but every little bit adds up.

“Look at You a Millionaire”

Let’s say you have five different IRAs split equally with $200,000 in each, and congratulations, you’ve got $1 million. And for simplicity’s sake let’s say that your RMD or your volunteer distribution is going to be $40,000. The easy solution would be to take $8,000 out of each account.

“IRS Wants Their Cut”

The IRS is only concerned that you take the Required Minimum Distribution out. They don’t care if it comes out of one or all of them or different variations. They just want to make sure that it’s all been done, and there are some pretty big penalties if you don’t. But what I have found out over the years is it’s better to have somebody examine the different accounts and see if it’s more advantageous for you to take distributions from one or from all of the accounts equally. I’ve done this for my clients for years. Every year, when we get ready to do RMD’s for our clients, I examine their different accounts, and I always tell them, “look we’re going to try to take the money out of the things that are the weakest or that have the least potential for this year. We are not only examining the past return but the expected return going forward. If it’s an equity type IRA, what kind of market are we in, in a bull market, bear market or sideways trading market.”

Let’s factor in what phase the stock market is in.
Let’s factor in are interest rates rising or are interest rates falling.
Let’s factor in whether we’re in a recession or is the economy going good.

Keeping the above factors in mind, I would probably recommend liquidating the weakest performing in the expected return. Sometimes, you have to think of yourself as a football coach. As a coach, you might have about three or four different quarterbacks and you’ve got a depth chart. Your job is to put the best quarterback today on the field. That’s why you have a depth chart. Well, it’s the same thing with your investments. You need to have a depth chart on your investments. As an example: if you have a chance to liquidate a low-yielding money market at 1% versus a much stronger performer (let’s say we’re in a bull market and your equities are doing extremely well, then you probably want to liquidate the money market IRA).

So, what does the song have to do with IRA distributions? Well, really nothing. I was just trying to lighten up a pretty dry subject.

Sincerely,

John Romano, CFP®

John Romano, CERTIFIED FINANCIAL PLANNER™, has over 30 years experience in the financial field. John is a Registered Representative with Securities America, Inc. (member of the FINRA and SIPC), and an Investment Advisor Representative with Securities America Advisors. He has prepared hundreds of reports for retirees to assist in their retirement income planning needs. He is dedicated to providing portfolio analysis, dividend and income information, and investment management services to retirees (and those preparing to retire) in The Villages, Florida, and throughout the United States.

Securities offered through Securities America, Inc. Member FINRA/SIPC, John Romano CFP® Registered Representative. Advisory Services offered through Securities America Advisors, Inc. John Romano Investment Advisor Representative. Romano Income Strategies and Securities America are not affiliated.

Trading instructions sent via e-mail may not be honored. Please contact my office at (352)753-8590 or Securities America, Inc. at (800) 747-6111 for all buy/sell orders. Please be advised that communications regarding trades in your account are for informational purposes only. You should continue to rely on confirmations and statements received from the custodian(s) of your assets. The text of this communication is confidential and use by any person who is not the intended recipient is prohibited. Any person who receives this communication in error is requested to immediately destroy the text of this communication without copying or further dissemination. Your cooperation is appreciated.

John Romano, CFP®

305 Skyline Drive, Suite 3, Lady Lake, FL 32159

Phone: 352-753-8590

Email: John@RomanoJohn.com

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Most retirees are concerned today about outliving their income. Very few have a written income plan. Most realize we are the tail end of a great bull market, but all good things come to an end. This may be a good time to stress-test your retirement plan. Maybe I can help. Send me an email or schedule a phone time.

I will get back with you within one business day.

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Leaving a Legacy for your Family: Stretch IRA or the Tax Man

OR download the REPORT

The other day I was listening to the Beatles channel on Sirius Radio and the song came on called, “The Tax Man” by Eric Clapton and George Harrison. And it goes like this:

“Let me tell you how it will be.

There’s one for you, 19 for me.

Because I’m the tax man.

Yeah, I’m the tax man.”

I’m sure there was a reason these rock stars were singing the blues about paying a huge amount of taxes. Let’s assume you’re not a rock star. What is it you can do you to help your beneficiaries minimize taxes upon your demise?

Leave them a legacy through a Stretch IRA 1

The stretch IRA concept, which I have implemented for almost 20 years, is truly one of the most powerful money/investment techniques that I know, that doesn’t cost anything.

Background of the Stretch

In the late 1990’s, 401(k) rollovers had gotten huge and IRA’s were pretty hard to have if you were going to put aside $2,000 a year, in order to have a huge IRA 15 - 20 years down the road. People had rolled over their 401(k)’s into IRAs, and a lot of them had $1 million. There was very little planning on how this sum of money was going to be passed down to beneficiaries.

It would be best to discuss your stretch strategy goals with your heirs early on. With a clear understanding of the process, beneficiaries can take the proper steps to receive the greatest benefit from the account. Over time, the stretch strategy could result in an important legacy for your heirs if they choose to take advantage of it—and it can be especially rewarding to know that your children or grandchildren can benefit from substantial savings over time as a result of your generosity.

In the 90’s

I had a client whom I’ll never forget. He was from Germany and he was as stubborn as a mule. His wife had predeceased him a couple years prior and he said, “John, I’ve lived in a mobile home my whole life. I’ve sacrificed mainly because my kids don’t have anything - they have no retirement plan and they’re going to have a bleak retirement. My goal is to make sure that this money passes on to them.” I explained to him, “Well, upon your demise, there are a few ways you can do it. I explained some options to him and ultimately conveyed that we could set up a stretch IRA and not only set it up but counsel them on the correct actions to take.”This client wasn’t having any of the latter. He said, “No John, I want them to pay the taxes on it and that’s it,” and there was no more further discussion. Well, I’ll never forget when his kids finally did inherit the money—back then they were from California—they lost almost 45% of it due to state and federal income taxes. It was one of the first times I had ever seen somebody lose that amount of money to taxes. It was sad, and it didn’t have to happen that way.

Most of the time, when people pass away, they just want to get everything over with quickly and that’s when they make big mistakes. You’ll see some people do things they would actually never do. They’ll sell the home at a discount just to get rid of it within a week or two. It’s important to meet with someone who can say, “We understand that you’re just trying to get this over, and you’re in a lot of pain because you just lost a loved one. But let’s just hold on and see if there’s a beneficial way to inherit this money.”

Fortunately, There Is

It’s called an inherited IRA or stretch IRA. The mechanics are very simple. But just because the mechanics are simple doesn’t mean that people do it. (It’s just like losing weight, everyone knows how to diet) A stretch IRA is a method that avoids a large sizeable tax bill to the beneficiaries. If children or grandchildren are named this stretches the lifespan of the IRA. This extends tax-deferred growth for years beyond the life of the original account holder.

With a stretch IRA, the account holders name their IRA beneficiaries. Those younger relatives then take RMDs that are small enough to trigger minimal taxes. The rest of the inherited account can continue to grow tax-deferred and increase in value.

Let’s say upon your death, let’s say you have two beneficiaries and $1 million in an IRA, if an account has been titled properly, the beneficiaries have an option to either pay the tax or continue the IRA as an inherited/stretch IRA.

You may be thinking, “Why would anybody want to pay the tax?” Folks, it’s back to the prior example. They don’t know. They’re trying to deal long distance with somebody. They’re dealing with somebody, maybe the money is still in a 401(k), and they’re just trying to get the stuff done and off their desk.

The cool news is a stretch IRA doesn’t have to be for a relative. It can be for any beneficiary.

Mechanics of the Stretch

It’s really fairly simple. With this strategy, you name your non spouse (obviously if your spouse is still alive, then you should probably name your spouse as beneficiary) as your IRA beneficiary. He or she rolls your IRA into an inherited IRA in his or her name and starts taking RMDs at age 70.5. Your child or beneficiary names a member of the younger generation (such as your grandchild) so when your child dies, the grandchild beneficiary starts taking the small RMD’s and now they have their own stretch courtesy of you.

Family Dynamics

Let’s say your name is John Smith and you have your two sons Joe Smith and Melvin Smith as beneficiaries. Now, one of your sons is a frugal guy, and realizes that he doesn’t have enough money saved for retirement (There are very few people walking around today with pensions, so you either save it or you just try to exist on Social Security, which is tough). The other son, Melvin, now Melvin is a party guy and he’s not thinking about 20 years down the road. He’s thinking about right now, what he could do with that money, what kind of car he could buy, what kind of house he could have, his standard of living, and to heck with it, he may not even live that long. In many families, you’ll have two siblings that are fairly opposite with their outlook towards money.

Furthermore, people who have trusts, name their one more responsible son or daughter as the trustee and executor. And they always tells that son/daughter “Please look after your sibling, financially after I am gone.” The sibling who wants the money, Melvin, is going to be badgering the other one. The other one is going to say, “He wants this, but I know what my parents wanted me to do,” and then they’re just torn.

As you know, with any IRA, if you’re IRA owner and you reach age 70-1/2, you have to do required minimum distributions, which are based on your life expectancy (RMDs are calculated each year and must begin no later than December 31 of the year following your death.) The stretch IRA will have to do required minimum distributions, but they’re a lot less, because for example, at age 40, your life expectancy is probably 40 - so you’re going to be taking about 2.3% which is very minimal.

Pay Less Taxes, Pay Later

I don’t know who coined this phrase, but this phrase, “Pay less taxes, pay later,” really hit the nail on the head. Whether it’s a tax-deferred annuity, whether it’s tax-free municipal bonds, or whether it’s IRAs/401(k) s, everybody would rather have their money working for themselves. They would rather pay fewer taxes and pay it later. Most people understand that if you have a lot more money working for you, you’re going to end up a lot better down the road.

Can you imagine the difference to your beneficiaries if they were to receive the full value of your IRA? For example, let’s just use a $1 million IRA, and something happens and you pass away. If your beneficiaries cash it in because they’re being given bad advice, they don’t know what they’re doing, or they just get impatient, they’re going to lose 45%. That is a huge tax bill.

So the name of the game is, instead of losing that hypothetical $450,000 in the above example, you keep that money that was going to go to taxes working for your new beneficiaries, for their lifetime, and even possibly your grandchildren’s lifetimes.

Take a second and go back and think: If you had an extra $450,000 working in some kind of investment, I don’t care what the return was, for the last 40 or 50 years, how much more would you be worth? How better would your retirement have been?

Mind Blowing Legacy

So let’s say your grandchild is in college and every month he receives a check from your inherited IRA that says, “Favorite grandson BDA deceased owner name IRA.” The deceased owner is you- for the rest of the beneficiary’s life they are getting a check courtesy of you.

So what is a BDA IRA account? It is an inherited IRA, which is also called a beneficiary distribution account IRA. It is important that the IRA custodian registers the account properly. This is the key. If this is not done properly, then this whole concept does not work.

Now, if the beneficiary is NOT a spouse, this is where it gets a little bit trickier. A non spouse beneficiary must move the funds into a BDA IRA in his or her name and take life expectancy payments accordingly. For example, let’s say you have two kids, the two above-mentioned kids, one is a spender, and one is not. Regardless, what has to happen or should happen - the IRA should be split.

Spend this and start your own retirement

In a lot of cases, people will have, you know, let’s say half their money in IRAs and half their money maybe in homes and brokerage accounts and what not. I have had a lot of success when I sit down and talk to talk to these beneficiaries, I say, “you know, if you are like a lot of people out there today, you probably do not have enough savings for retirement, you probably do not have a pension,” and I review the above mentioned two courses of action. In many cases I will say to the beneficiary, “your parent had half their assets in IRAs and the other half in brokerage accounts. Let’s do this; we can get the other half of the money that is non IRA to either invest, spend, or whatever you would like to do with it. But let’s go ahead and set up this IRA as your own retirement plan.”

When you have beneficiaries with different outlooks, there is a smart way to distribute assets at death and there is also a dumb way. If you have ever been involved in a settlement of an estate worth a significant value with more than one beneficiary, you know exactly what I am talking about. There is not a whole lot of logic between a couple beneficiaries, their spouses, children, and a big pile of money. It is important for this to be taken care of on the front end because I tell you, in most cases; it will not be taken care of in the tail end.

Certain things have to be implemented at certain times. The main problem, as we mentioned before is the first time somebody has died and that has left them money, they do not know what they are doing. It is real hard for them to get advice. So they will call up wherever the account is being held and they will talk to some 24-year-old representative. Do not let them make a mistake. If there is a way I could help you, if you have any questions there are multiple ways to reach out to me. Either shoot me an e-mail, a phone call, come to the office or even Skype with me. And if you are not a client, I would be glad to explain this whole process to you about the benefits. I have done this for decades.

Sincerely,

John Romano, CFP®

1 Securities America does not offer tax advice.

John Romano, CFP®

305 Skyline Drive, Suite 3, Lady Lake, FL 32159

Phone: 352-753-8590

Email: John@RomanoJohn.com

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I will get back with you within one business day.

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The 4% Withdrawal Rule (Allegedly)

I was doing an investment seminar back in 2012 and I was approached by a very excited retiree. He promptly told me he had a “bone to pick with me”. I was certainly set back because the restaurant had told me that the chicken that was being served was boneless.

Turns out this retiree had not swallowed a bone, but he was upset about a statement I had made during the workshop. It's a statement I have made for 8 years now; it goes something like this: The 4% withdrawal rate is not like it used to be.

4%, 4%, 4%, 4%....

Here's a little background about the 4% rule in case you've never heard of it.

In 1994, a gentleman by the name of William Bengen came up with the 4% rule. He was a financial planner that ran some analyses on prior stock market returns in the last 75-100 years. He found that if a retiree drew no more than 4% of their portfolio in the initial year, and adjusted it to that amount over a subsequent years for inflation, they stand a great chance that their money would outlive them. Indeed, it became the retirees' mantra: 4%, 4%, 4%, 4%! It's kind of like when you're watching an international sporting event on TV and our fans are screaming USA! USA! USA! USA!

When William Bengen proposed this in '94, he said it served as a guideline. And let me repeat that again, it was a guideline. Retirees normally have balanced portfolios comprised of stocks, and/or bonds. The University of Chicago reported in the last 100 years, equities have averaged an annual 11.5% and bonds have averaged around 4.3%.

So back to Mr. Bone to pick; he said to me, “With your experience and fancy CFP designation, you ought to know better than to say that.” Indeed, he lectured me about the 4% withdrawal rule. He said, “My goodness, it's a rule.”

Here is the Low Down

During the 80s and 90s, my investment plan was to follow a variation of this rule pretty much. The distribution was a percentage anywhere from 3 - 5%. It worked wonderfully, but you have to remember, we had a long-term bull market from 1982 to 1999, and we had much higher interest rates. Can you think back to the days when CDs were paying 9%? So, this general rule perhaps works over decades and decades and even probably work over 60, 70, 80 years, but not so much in the normal retiree lifespan of 20 to 30 years. It's not like the law of gravity. It hasn't worked for years because of two factors:

1.) we had the stock market meltdown around 2008 of a 50% drawdown.

2.) Also, interest rates have gone down to very little and stayed down at almost with no returns.

Traditionally, retirees have set up allocation models where stocks are the offense and bonds are the defense. So when the stock market goes down, hopefully your defense allocation of bonds is still working. Now the definition of “still working” is paying 4-5% and sadly, they do not.

How low can they go?

Think back to 2010 – 2011. Interest rates had cratered, and indeed, whether it was a bond, CD, or Treasury, we were in multi-decades low interest rates. We were in interest rates that we hadn't seen for 70-80 years. So, let's fast forward to now, 2018. Have you seen your interest rates on your CDs go up very much? Do you have CD's paying a high return? Have you recently purchased a bond paying a high yield? Are treasuries paying 6 or 7%? I think the answer is NO.

The Light goes on

Shortly after holding this discussion with this retiree, I could finally see the lights go on in his eyes. I was almost like he was deflated. He said to me, “John, this explains what was happening to me because I took a beatdown on the equity side in 2008. But I'd always heard that a hood percentage of my portfolio would be in bonds paying 4-6%. I did not understand why my portfolio didn't seem to do very much. Now, to be fair, I was taking money out and I adhered to the initial 4%, which basically means when you take 4% of whatever you start with.” But then he said, “Now I understand the interest rate- the bond part of my portfolio was not producing those kinds of yields.”

You know what; it's pretty tough to start withdrawing 4 or 5% when your portfolio drops 30-40%, such as in 2008 and 2009. And then he looked at me and said, “As things stand, we are going to be out of money in 11 years. Now, I understand this is now not a rule, so what's the best way to handle distributions?” I replied, “Well, as you probably have learned the hard way, you just can't go with some general rule and never make changes. I believe the foundations of the distributions, should not only be based on the market performance, but also on the interest rate performance. So not only should your withdrawals be adjusted yearly, your allocations should as well.”

Houston we may have a problem

Now, it's the same problem going forward. Interest rates are still low and the average bull market runs 5 or 6 years. Well, guess what? This is the 10^th year of this bull market. We are way past the normal lifespan. Now, this doesn't mean that you need to panic. But, you do need to play the odds.

Think of it like this: If the average bull market lasts 4 or 5 years, and we are coming up on the 10^th year and interest rates are still down.

I'm not saying the market is done with this run, but it is definitely time to tighten up investment wise. Your investment plan better be real good going forward. Or you need to find someone who is experienced at distributing income to retirees. You don't want to experience a countdown like Mr. “bone to pick”.

Sincerely, John Romano CFP®

John Romano, CFP®

305 Skyline Drive, Suite 3, Lady Lake, FL 32159

Phone: 352-753-8590

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IRAs and RMDs