Ep 22 - The Best Account to Inherit - Congress's Gift to Us

Ep 22 - The Best Account to Inherit - Congress's Gift to Us

Ledly Jennings: [: 00:00:00

That's what we're going to hit on today. But to refresh our memory a little bit, um, Um, previous episodes and go back and listen to the previous two, uh, to learn about what we, what we've already discussed. We started out with discussing IRAs and the new secure act and all the impacts that may have, and then how those IRAs would play with your trust, um, if you make your trust your beneficiary.

year stretch. Now this is [: 00:01:00

But if you're leaving your IRA ultimately to a kid or someone that isn't your spouse or underage or special needs, Like most of us do, you leave it to your grown children, typically, then they are subject to a 10 year stretch, and what that means is they have to withdraw the entire account out within 10 years.

So think about the impact of this. If you have a million dollar IRA, then that entire million dollar balance has to be taken out within 10 years. So your child could do it, you know, a hundred thousand per year for 10 years or they can wait until year nine and take it all out. But either way it has to come out.

people's retirement accounts [: 00:02:00

Uh, it keeps bouncing back and forth, but just say that 35, 37%. If they get bumped up into that, then your inheritance that you're leaving them is now reduced by that same amount. So, if you can avoid it, you, you want to avoid it so they get 100 percent of your inheritance rather than just, you know, 70 percent of it.

So, that is the downside of inheriting an IRA. And most people don't think about that because it is a new law. But we are lucky that Congress has given us one of the best gifts they've ever given us in the form of the best type of retirement account to inherit. And that is a Roth IRA. So the best account to inherit is a Roth IRA.

ild would inherit an account [: 00:03:00

Um, Um, and just why it's good for inheriting is because those taxes are already paid. So it's income tax free, 0 percent tax rate, and there are no RMDs. Now it is subject to that same 10 year stretch, meaning you have to take it out of the IRA account at the end of 10 years, but there's no RMDs before that time.

Um, so it could sit there and grow and grow and grow. for that entire period before you take it out. And then when you take it out, there's no income tax on it. So a Roth IRA is a great account to inherit. Now, what is a Roth IRA? Many of you have probably heard of it and it is a retirement account, just like an IRA, but different benefits.

So with an [: 00:04:00

So then you take it out, say, when you're 70, and you don't pay taxes on it, because the tax has already been paid. Um, Some of the rules with the Roth IRA and these are subject to change every so often, but right now you can, um, you can't take out your money in a Roth IRA until you're age 59 and a half. I don't know where they came up with that half number, but that's what they decided on.

and there's no penalty. But [: 00:05:00

So, you could still access it but there's a penalty. Um, another difference in this is there's no RMDs with a Roth. Um, and you can contribute. So, like an IRA, when you reach 73, you have to start taking RMDs. Um, you can contribute. Um, But with a Roth, you do not. So, and you can also contribute beyond age 73, which is a little different than a regular IRA.

So that's generally, um, what a Roth is. Now, how do you contribute to a Roth? Well, the normal way is just you earn, you have to earn income. So you have to have a job. And if you have earned income, you can contribute to a Roth. There's limits, um, I believe we're at 7, 000 per year, um, is your limit that you can contribute into a Roth IRA.

[: 00:06:00

So, there's limits on who can contribute. Now, if you're married and filing jointly, then that number is 236, 000. So, if you make under those amounts, you can contribute to a Roth. If you make over those amounts, You cannot contribute to a Roth. Now, I say that, most people follow the rules that way and think that I make too much money, I can't contribute to a Roth.

ow is called a backdoor Roth [: 00:07:00

Now, that sounds a little fishy, um, sounds like you're skirting the rules, but, uh, actually Congress and the IRS have confirmed that this is okay. This is an okay method because the tax is still getting paid on it. Um, so it's just a way to contribute to a Roth, even if you make too much money. Now, I would advise talking with the financial advisor.

To help you do this because there's a lot of little technicalities about when and how much that you can do this So I would work with someone that is well versed in backdoor Roth conversions And most certified financial planners are so I would work with someone that is a CFP The other way we can contribute is just A regular conversion.

r existing IRA to a Roth and [: 00:08:00

Um, but there's rules in how you do that and steps you have to take to get there depending on your financial situation. So just because you make too much money does not mean you cannot contribute to a Roth. Um, so I just told you, you know, this is the best account to inherit. Everyone loves a Roth. Then you may ask well, why doesn't everyone do it?

Well, one is that rule I just mentioned where if you make too much money, they think you can't so a lot of people don't do it for those reasons But another reason is people fear this sounds too good to be true Congress is going to come in and change the law and then I will have built my whole estate plan Retirement plan around this and now it doesn't make sense anymore more.

in pencil. It can always be [: 00:09:00

If you think about it, this Roth money is upfront money. So as soon as you get the money, you're paying the tax on it. And that means immediate money for Congress. So they're unlikely to change something that is paying them today. Now, if you think about it with your regular IRA, they have to wait until years and years down the road before they get their money.

So they're, it's actually an incentive to Congress to encourage more Roths because they get the money up front and you see our deficit that we're in right now. We probably want as much money up front as we can get. So I see it as very unlikely that Congress would actually change these laws. Um, and then with the secure act and.

Um, [: 00:10:00

You know, you have to pay it now and you don't get the deduction. And this can be a valid reason depending on your particular tax situation. And your advisor can look into this. If it makes sense to convert to a Roth, they have Roth calculators that can break down your specific tax situation, your income, you know, all the factors that may go into it and tell you if it makes sense to convert, uh, this particular podcast is just about the estate planning implications of.

t calculation, but if you do [: 00:11:00

Um, if you kept it in a Roth, so your ultimate take home pay may be more if you convert it, even if you pay the tax up front. So in my situation, I am contributing everything to a Roth right now because of that exact thing. I think in the long run, my tax rate will be higher and what I contribute today will be more value to me down the road at a 0 percent tax rate.

Um, so that's my thought process on it. And that, that is really the name of the game of when you contribute is what is your tax rate now and what will it be in the future. Now a lot of people think that their tax rates goes down when they retire, but, and I've seen this a lot with my clients, um, that is typically not the case because most people I work with are good savers, investors.

Um, maybe [: 00:12:00

And how I really evaluate it is it always makes sense to convert to a Roth if your tax rate will be the same. Um, or higher in the future. So even if it's just going to maintain the same, then it makes sense because you're converting it into a 0 percent uh, environment in the future. Um, one other thing I would want to hit on is, historical tax income tax rates.

y high tax rate environment, [: 00:13:00

We're at a discounted, uh, historical value when you look at past income tax rates. So it makes a lot of sense from that perspective to convert to a Roth. Um, let me look at my, yeah, the historical rate. And so let's just say in 1944 to 45 income tax, the highest marginal tax bracket was 94%. Compared to today, which is, you know, um, 30%.

And then in the: 1950

It's going to go up. Um, maybe that's not the case, but that's just what the history shows us. Um, one other thing I wanted to hit on too, why Ross makes sense from an inheritance perspective. And we call this the, uh, widower's penalty. So most husband's wife leave their retirement accounts to each other.

And there's actually a penalty that not a lot of people think about when we talk about, um, Widowers inheriting an account because when you inherit an account, you're married filing jointly. But when one spouse passes away, all of a sudden you're now a single taxpayer, so you're filing single. That means you have to pay more taxes on less income, um, is essentially what that means.

Roth, it helps the surviving [: 00:15:00

But they are gaining the income in some RMDs and, you know, retirement accounts, but now they're paying higher taxes on less income because they are single, uh, filing single rather than filing jointly. Um, so that's the reasons people don't contribute to a Roth, but otherwise it always makes sense to contribute to a Roth, especially if you're going to inherit something.

Cause again, it is the best account to inherit. Now, when I'm advising people what they need to roll over to a Roth or convert, um, is they need to have the income to pay the taxes right then. So you don't want to pay it from your actual Roth, I mean from your IRA account. You want to have other liquid assets to pay the tax.

then it could make sense to [: 00:16:00

And you definitely do not want to start taking them if you're already taking your RMDs. Um, so if you're over 73, then converting to a Roth is not usually a good idea. Um, but generally the best account to inherit is a Roth because it is tax free money. So that is the takeaway I wanted to say for this episode is that when you leave your beneficiary, a Roth account, they don't pay taxes on it.

ways talk with your advisor. [: 00:17:00

And that has been the Good Steward Law and Wealth Podcast. Thank y'all for listening. Um, and, uh, see you next time when we will talk about an overall beneficiary plan for your retirement accounts.