How to Make Sense of Retirement and Estate Finance

estate planning, retirement planning, cpa, financial advisor

Retirement is far off until it isn’t. This chapter of life can sneak up on just about anyone, and we do ourselves a favor to be as prepared as we can. Like anything involving the government, finances can be confusing, with different tax treatments, contribution limits, beneficiary rules and more.

A lot has changed since your parents or grandparents “took a pension” and retired, and it doesn’t look like it will get any less complex. Let’s look at the current landscape of retirement income planning and answer some of your questions to try to simplify this part of the wealth journey.

How do we know who is entitled to receive the participant’s death benefit from the 401(k) plan if no one can locate a beneficiary form?

Estate planning documents such as wills, trusts and prenuptial agreements are typically ignored. The reason is that they are subject to state law, while retirement plans are subject to specific federal laws that override the states.

So, where do we look for guidance? The good news is that plan documents specify what to do in the event the participant did not affirmatively designate a beneficiary. Usually, the order goes something like this:

  • Surviving spouse
  • Children in equal shares,
  • Surviving parents in equal shares, then
  • Estate

While that seems pretty straight forward, there are several words of caution. The passing of a loved one can be quite an emotional situation for all involved, so it is critical for plan sponsors to act in strict accordance with the plan’s provisions and not to allow a heated situation to tempt them into making the wrong determination.

Estate as Beneficiary of Traditional IRA or Retirement Plan

If your estate ends up as your IRA or retirement plan beneficiary at your death (either because you intentionally named your estate as your beneficiary, or by default because you died with no living individual named as a beneficiary), you will be treated as if you died without designating a beneficiary.

Required post-death distributions from the account will therefore have to be made at the fastest rate possible, potentially increasing the income tax liability on the funds. And the more rapidly the funds must be distributed from the IRA or plan, the less time they have to continue growing in a tax-deferred environment.

Here are the specific rules you need to be familiar with:

First, review the Plan Document to determine the rules when no beneficiary is designated and everything is left to the Estate. If the 401(k) Plan allows – the IRS tax laws then say that the plan fund must either be:

  • Distributed within 5 years after the year of death
  • Or, if death is after age 72, the plan funds must be distributed over the decedent’s remaining Single Life expectancy table.

How does the SECURE Act impact IRAs and my beneficiaries, and what can I do to counter its restrictions?

A longtime strategy – called the stretch provision – is no more, thanks to the SECURE Act. That means beneficiaries can no longer “stretch” distributions over their lifetimes. Investors often deployed the stretch system to help accounts grow and also shield the assets from taxes.

But, as of January 1, 2020, when the SECURE Act passed, beneficiaries have to fully distribute taxable accounts within 10 years of the account holder’s death. That could push your loved ones into a higher tax bracket.

You shoulder consider other tax-efficient strategies in light of this change. Talk to your advisor about Roth conversions, charitable remainder trusts and insurance products, which can’t replicate the stretch provision but could provide similar benefits under a shortened distribution period. Roth conversions, CRTs and insurance products require planning to maximize their effect. Your beneficiaries will be grateful you took the extra step.

How would Joe Biden’s proposed 401(k) changes impact me?

Joe Biden’s proposed 401(k) plan would move from a tax deduction when you contribute to the plan to a tax credit. This benefit gives a bigger benefit to those who earn less. It would reduce the benefit for those who earn more, who benefit from a deduction because they have more money to invest.

Consider the numbers: Right now, if you are in the highest tax bracket, you receive a $37 tax benefit for every $100 contributed, whereas those in the bottom bracket receive a $10 tax benefit for a $100 contribution.

Under Biden’s proposal, it’s estimated that those who invest in 401(k) accounts would see a credit at 26% of the dollar amount contributed, a move meant to equalize the benefit.

This proposal could drive people, particularly high earners, to leverage Roth accounts, paying taxes on contributions now, but withdrawing money tax-free later – a move that could help your beneficiaries, too.

Remember, this proposal might not come to pass at all or in its current form. Keep an eye on the news, and talk to your financial advisor or tax planner for specific guidance should Biden’s 401(k) reimagining move forward.

Not Just Savings, But a Plan

Remember, the long journey of retirement isn’t about simply savings, but income planning and taking care of your loved ones. Planning now can free you up then to enjoy your retirement years and know that your family is taken care of.

It’s important to put together a retirement plan you can feel confident in. Get in touch today and let’s start the conversation.

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Converting from a traditional IRA to a Roth IRA is a taxable event.

This piece is not intended to provide specific legal, tax, or other professional advice. For a comprehensive review of your persona situation, always consult with a tax or legal advisor. Neither Cetera Advisor Networks LLC, CWM, LLC, nor any of their representatives may give tax or legal advice.

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