By Patrick Simasko and Luke Stempien
I bet you were excited to learn that the new CARES Act waived the taking of your required minimum distribution (RMD) from your retirement accounts in the calendar year of 2020. Who wants to pay the tax on it, right? But the real question is not whether you have to take the distribution, but whether you should take the distribution.
Under the CARES Act, a taxpayer who is collecting on a retirement account maintained by their employer or an individual retirement plan is not required to take their minimum distribution as they have had to previously. This is true even if this would have been their first year to do so, such as those who turned age 70 ½ in 2019, and, post-Secure Act, those who are age 72 this year.
Admittedly this is an excellent planning opportunity for our elderly population because it gives them a chance to decide whether they need the money or not. But, as an elder law attorney and financial advisor, it is the hardest conversation to have with my clients. It ranks right up there with talking about having to go into a nursing home or getting a root canal done.
Everyone hates paying taxes, but what they don’t realize is that taxes will always have to be paid. We want to pay them at the lowest tax bracket possible. My job is to dig in the trenches with them to determine how to maximize their distributions, not at the lowest tax bracket but at the best tax bracket possible. So the real question is whether you are better off taking distributions from the retirement accounts and pay the tax now or let your children inherit the retirement accounts and pay the tax later.
Most clients do not realize that when they pass away and their beneficiaries inherit their retirement accounts, they have 10 years to deplete the retirement account and when they do, they pay the tax at their tax brackets. They cannot wait until they are age 72.
So, to answer the question, let’s look at the tax brackets. A married couple in 2020 can have an adjusted income between $19,401 and $78,950, and remain in the 12% tax bracket. The next bracket is taxed at 22%. Historically speaking, this is one of the lowest brackets that Americans have ever seen. Will it stay this low for our children or do you think it will go up? I’ll let you answer that one.
Now, let’s say you pass away and your children inherit your retirement accounts. They are still working and their adjusted income is $78,950 per year. When your children take their required distributions from the inherited retirement accounts, these distributions will be taxed at the higher bracket of 22%. So, you just gave the IRS an extra 10% tax. The opposite is true, though, if you are at a 22% bracket and your children are at a 12% bracket. You should minimize your distributions while you are alive and let your children pay at their lower tax bracket.
So, if you truly want to save, disinherit the IRS as much as possible. You need to watch the tax brackets and not the tax you pay. You might not have had this conversation with your financial advisor because if they get paid by the amount they have under management; it behooves them to keep as much in the account as possible. If all of their clients start taking funds out of their retirement accounts it could affect their bottom line.
You have until December 31, 2020 to decide if it’s best to take your distribution this year and for how much. So, if you want to disinherit the IRS, compare your brackets with your children’s brackets.
About the authors: Patrick Simasko and Luke Stempien
For more than 20 years, Patrick Simasko has dedicated his legal career to the practice of elder law. As a partner with Simasko Law in Mt. Clemens, Mich., he helps families plan for their future, protect their assets and receive the financial and medical benefits available to them. Patrick also conducts seminars and workshops across the country to educate communities about elder law, financial planning and Medicaid, as well as VA Benefit Aid and Attendance.
Luke Stempien is a current law student at WMU-Cooley Law School. He currently works at Simasko Law Office in Mt. Clemens, Mich., where he hones his estate planning skills and has developed a great understanding of all probate matters. He hopes to continue his career in this field of elder law to better serve those he feels could use his help the most.