The CARES Act provided retirees with the ability to waive Required Minimum Distributions (RMD) for 2020. Those who did this may have a very attractive tax strategy available to them. Read on to learn more.
RMD is the process where the IRS requires you to begin taking withdrawals from your IRA, 401k, or 403b if you are age 72 or older. For most retirees, this is not an issue as most people need the money to live on. However, for those who don’t need the money, the CARES Act provides the ability to stop the withdrawals without penalty.
Why is This Important?
The amount of your RMD is based on prior year-end account value. So, RMD payments in 2020 would be based on 2019 year-end account value. Do you see a problem with this?
It is very likely that your account value in 2019 was much higher than it is in 2020 thanks to the coronavirus causing massive investment declines. And if your RMD withdrawals are based on 2019 values, then you are taking a large withdrawal from an account that is significantly down in value. Congress recognized this and provided the option to waive your RMD in 2020 if you desire.
Are You Primarily Living on Social Security in 2020?
If you stopped RMD because you determined that you can primarily live on Social Security (and / or cash reserves), then there could potentially be a powerful tax strategy that you can take advantage of.
The way Social Security works is that it is only taxed if you have other sources of taxable income (i.e. pensions, RMD, IRA withdrawals, etc.). Therefore, if you stopped RMD and you don’t have a lot of these other sources of income, then you would have very little taxable income and owe very little in tax. As such, you may have tax deductions that exceed your income. And if you don’t take advantage of the deductions in 2020, they will be lost forever.
How Do You Take Advantage of the Deductions?
To take advantage of the deductions, you would simply do a Roth Conversion. This is the process where you move money from your taxable IRA to your tax-free Roth IRA. Under normal circumstances, any money you transfer from your IRA to your Roth IRA would be taxable in that calendar year. However, if you have tax deductions that exceed your income you can now make this transfer completely TAX FREE!
Think about that for a second. You can move money from a taxable account to a tax free account at no cost!
You won’t always have these opportunities available to you, so you need to take advantage of them while they are.
Conclusion
In conclusion, if you’ve stopped your RMD payments and are living primarily on Social Security income and / or cash, then there is a very high likelihood that you can move money from your IRA to your Roth IRA tax free.
If you would like to explore this further, then please reach out to us. Remember that you must execute this strategy in 2020 as RMD will be reinstated in 2021.
Further benefit of moving money from your IRA to Roth IRA is that your IRA will be smaller. This leads to less RMD in the future, less taxable Social Security, and ultimately less taxable income!
If you have any questions or comments, please feel free to leave them below. I’d like to know if you’ve personally used this strategy or if there are other strategies that you’ve found useful during this coronavirus epidemic.
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Brad Tinnon
CERTIFIED FINANCIAL PLANNER™
