What Should You Do When You Turn 59½?
What should you do when you turn 591/2?

What Should You Do When You Turn 59½?

Minor stuff aside, there are some real financial benefits to reaching age 59½, says Kiplinger in the article “What Should You Do When You Turn 59½?” Here are some important tasks to accomplish when you turn 59½ that will help you explore new opportunities and build a strong foundation for your future retirement.

Review Your 401(k). At age 59½, you reach the magic age when you can start taking money out of your retirement accounts without penalty. That’s not to say it’s time to drain your accounts, but it does give you more options.

Create a Safety Net. Hopefully you know about the benefits of having an emergency fund. Having a “rainy day” fund can give you peace of mind.

Until now, your only real options to beef up such a fund were a savings or money market account that couldn’t even keep up with inflation. Now that you’re 59½ and the withdrawal penalty is no longer applicable, you can actually use your 401(k) as a readily accessible, tax-deferred safety net. Plus, in a retirement account, you can invest some of the funds for growth. Still, you should keep a bit of cash for emergencies. In addition, withdrawals from retirement accounts will be taxable because you’ve never paid taxes on that money.

Take Advantage of Catch-Up Contributions. The IRS lets folks age 50 and older contribute extra to their retirement accounts—both IRAs and employer-sponsored accounts. This not only builds your retirement savings, it can decrease your taxable income. A lower income can keep you in a lower tax bracket and make you eligible for more tax deductions. That saves money on taxes.

Look into an In-Service Rollover. The major complaint with 401(k) plans is the lack of investment options available within a given plan. The average 401(k) plan has fewer than a dozen options, according to FINRA. Compare that with the variety of options available on the open market. Once you hit 59½, you may be eligible for an in-service rollover, which lets you to move 401(k) funds into an IRA without penalty while still working at the same job. It’s a unique opportunity to access better investments that’s not available to most workers. There are more investment options within an IRA and greater flexibility and control.

Monitor Your Spending. One of the tough things about retirement planning when you’re younger is that you have almost no idea what your retirement needs will be. However, at 59½, it’s near enough that you should have a better sense of what your needs will be.

Start tracking your spending to create a retirement budget. This will help you decide when to retire because you’ll be able to see the trade-offs between working longer and the lifestyle you’ll be able to afford in retirement.

Remember Health Care. Start to consider your health care. A common mistake people make when retiring early is to neglect health insurance. While you can access your money penalty-free now, you don’t have access to Medicare until age 65. If you’re playing with the notion of retiring before 65, start looking into your health care options now and make certain that you have coverage until you reach Medicare eligibility.

Reference: Kiplinger (June 28, 2019) “What Should You Do When You Turn 59½?”

 

How Will My IRA Be Taxed?
IRA taxation

How Will My IRA Be Taxed?

The most common of IRA tax traps results in tax bills through Unrelated Business Taxable Income (UBTI). The sources of business income from stocks, bonds, and funds like interest income, capital gains, and dividends are exempt from UBTI and the corresponding tax (the Unrelated Business Income Tax or UBIT).

Fox Business’s recent article, “Your IRA and taxes: Don’t get a surprise tax bill” explains that IRAs that operate a business, have certain types of rental income, or receive income through certain partnerships will be taxed, when the total UBTI exceeds $1,000. This is to prevent tax-exempt entities from gaining an unfair advantage on regularly taxed business entities.

UBIT can take a chunk from an IRA, and the Tax Cuts and Jobs Act of 2017 replaced the tiered corporate tax structure with a flat 21% tax rate. That begins in tax year 2018 (this tax season). These tax bills often have penalties, because IRA owners aren’t even aware that the bill exists.

Master Limited Partnerships (MLPs) held within IRAs are a good example of how UBTI can catch investors by surprise. MLPs are fairly popular investments, but when they’re held within an IRA, they’re subject to UBIT. When the tax is due, the IRA custodian must get a special tax ID number and file Form 990-T to report the income to the IRS. That owner must pay the tax, and is typically unaware of the bill, until it arrives as a completed form to be submitted to the IRS (completed and signed on behalf of the owner). In some instances, the owner may have to pay estimated taxes throughout the year. This can mean a significant underpayment penalty.

Working with prohibited investments will also result in a tax bill. Self-directed IRAs can violate the rules. Alternative investments such as artwork, antiques, and precious metals (with some exceptions) are generally considered as distributions and are subject to taxes.

Prohibited transactions are a step above prohibited investments and can result in the loss of tax-deferred status for the entire IRA. This includes using an IRA as security to obtain a loan, using IRA funds to purchase personal property, or paying yourself an unreasonable compensation for managing your own self-directed IRA. Executing a prohibited transaction can result in the entire IRA being treated as a taxable distribution to you.

Therefore, like fund holdings, ETFs, and other investments, it’s critical to understand exactly what you own and how to deal with the tax liabilities.

Reference: Fox Business (March 6, 2019) “Your IRA and taxes: Don’t get a surprise tax bill”