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Are you trying to learn how to deliver massive tax value to your clients? Then look no further. Retirement Tax Services Podcast, Financial Professional’s Edition is a show hosted by Steven Jarvis, CPA. Steven aims to bridge the gap between tax professionals, financial advisors and their mutual clients in their quest for reducing tax expenses in retirement.
Welcome to the Welcome to the Retirement Tax Services Podcast! Steven’s guest on Monday was Frank Murillo of Snowden Lane Partners. His tax-efficient insights were excellent.
In fact, as he discussed his tax strategizing practice, he mentioned Required Minimum Distributions (RMDs). This is an important enough topic to cover in-depth. As a result, Steven is focused on the key considerations and planning opportunities they involve today.
RMDs are the IRS’s way of making sure a taxpayer’s deferred savings eventually get taxed. Get them over with. Any amount of an RMD not taken in a given year will be taxed at 50%.
Do you hate telling clients that they have to take an RMD? Most advisors do.
Nevertheless, it could be worse: Imagine telling them that they owe 50% in taxes. Additionally, imagine informing them that it’s because you could’ve been proactive, but weren’t.
The RMD rules apply to all tax-deferred savings. That includes employer-sponsored retirement plans and individual accounts.
The intricacies of inherited IRA accounts are probably best left for another discussion.
Currently, required distributions begin when someone turns 72. Prior to the Secure Act, the starting age was 70½.
They have to be taken in the year they apply to—unless it’s the year in which you’re turning 72: If that’s the case, the distribution can be delayed into the next year.
In other words, if a client hits the 72 mark in 2021, they can wait until April 1, 2022. In contrast, for 2022, when they’re 73, they will have to take an RMD by December 31, 2022.
Note this distinction. Some IRS rules are based on the tax year. Those can be complied with through the filing deadline.
Meanwhile, RMDs are based on calendar years. The year in which a taxpayer turns 72 is the only exception.
As of December 31st of the prior year, RMDs are calculated based on the balance of all tax-deferred accounts. That amount derives from a combination of the outstanding balances and the IRS’ life expectancy tables.
Note that if multiple IRA accounts are involved, the RMD is calculated based on each balance. At the same time, the distribution itself can come from any combination of these accounts.
As long as it exceeds the number calculated, it can even be a lump sum drawn from one of them. Relax: If the amount is right, the IRS is content.
As a best practice in these cases, round each calculation up. It’s better to be a little over the RMD than under. Do this to make sure you don’t incur that 50% penalty.
Don’t leave RMD calculation up to the custodian. They often don’t coordinate with one another. Therefore, do it yourself to deliver massive value to your client.
Have or establish a system for identifying which clients need an RMD calculation done. Note how you’ll be communicating with them, too.
Above all, make sure the RMDs are taken well ahead of the deadline. Consider targeting November 15th. This makes sure there are no last-minute issues
Steven has even more tips and insights in today’s Retirement Tax Services Podcast. You can reach him at email@example.com.
Thank you for listening.
Hello everyone and welcome to the next episode of the Retirement Tax Services Podcast: Financial Professionals Edition. I am your host Stephen Jarvis, CPA and in this show I teach financial advisors how to deliver massive value to their clients through retirement tax planning. Today’s episode is going to dive into something my guests mentioned in our last episode. If you haven’t had a chance to listen, I had Frank Murillo, a CFP and partner at an independent RIA firm, Snowden Lane partners on the show to talk about his experience with delivering value through tax planning to his clients. Frank spent the first 10 years of his career at a wire-house where tax planning was always deferred to a tax professional. So it’s only been the last couple of years that Frank has really embraced tax planning as a great way to deliver value.
In that episode, he shared what he has learned and how his practice, and more importantly, his clients have benefited from his ability to identify and talk through tax strategies. So if you didn’t have a chance to listen, I’d really encourage you to go back and hear my conversation with Frank. One of the examples Frank shared was of a client who knew they had to eventually make required minimum distributions or RMDs, but that was the extent of their understanding. They really didn’t know anything else about what that might entail, just that someday they needed to worry about it. Frank and I didn’t really get into the weeds in our conversation from the last episode, but Frank was able to help his client by understanding the planning opportunities available to taxpayers who plan ahead to reduce the impact RMDs otherwise might have in retirement. So like so many topics we talk about on this show, that proactive approach is really what makes all the difference.
So Frank prompted the topic, but today we’re going to dive a little bit further into RMDs and focus on, some of the key considerations for taking RMDs as well as some of the planning opportunities available to advisors and their clients. So before we cover a couple of ways to reduce RMDs, well, let’s just start with avoiding pitfalls because fun fact, any amount of an RMD not taken in a given year is taxed at 50%. So if you think telling a client that they have to take RMDs, isn’t any fun, good luck explaining to them that they owe 50% in taxes because you weren’t working with them proactively.
RMDs are essentially the IRS’s way of making sure your client’s tax deferred savings eventually get taxed, the IRS is only so patient. In general, it applies to all tax deferred accounts, whether they are in an employer-sponsored retirement plan or an individually held account. There are nuances to these rules if you have inherited IRA accounts but for our discussion today, we’re just going to focus on RMDs for the original account holder. Based on current IRS rules, RMDs start when you are 72, which is up from age 70 and-a-half, which is what the requirement was prior to the secure act. RMDs are required to be taken in the year they apply to, except for the year you turn 72, in which case you can delay the distribution to April 1st of the following year. So that means if I turn 72 in 2021, I can wait until April 1st, 2022 to take my RMD for 2021.
But for 2022, when I’m 73, I will have to take my RMD by December 31st, 2022. This is a really important distinction because some IRS rules are based on tax year and can be applied or complied with, through the tax filing deadline. But others like RMDs are based on calendar years, except of course for the year you turn 72. So it’s easy to see why Frank’s client had questions, many clients do. RMDs are calculated based on the balance of all of your qualified accounts, your tax deferred accounts as of December 31st of the prior year, the amount of the RMD in a given year is based on those outstanding balances. And the IRS’s life expectancy tables, which I will link to in the show notes. If you have multiple IRA accounts, RMDs are calculated based on each balance, but the distribution itself can come from any combination of your accounts or all from the same account.As long as it exceeds the combined calculation. The IRS is not going to go through and enforce that you withdraw a certain amount from each account, it’s just that collectively you have to withdrawn enough. As a best practice when there are multiple accounts involved, you should round each calculation up so that you make sure that you’re a little bit over the RMD and not a little bit under, back to that 50% penalty we talked about earlier that 30% tax, it’s not really a penalty, it’s just that it will be taxed at 50% if you don’t meet the RMD amount.
While some of your clients’ custodians will calculate an RMD for their account holders, custodians do not coordinate with each other and leaving the RMD calculation up to the custodian is not delivering massive value to your client. You really should have a system for identifying which clients need an RMD calculation done and how you’re going to communicate with them and ensure the RMDs are taken well before the deadline. Some advisors I work with target November 15th to have all of their client RMDs done, just to make sure there are no last minute issues.
Even though RMDs are a requirement, great advisors are taking the time to time to tie RMDs to their client’s goals. Like so many other strategies we talked about on this show, you have to understand your client’s specific needs and circumstances to effectively help them plan. Taking this approach, it also leads you to discussing RMDs with your clients well before they turned 72. In part, so they are not surprised by the process when they turn 72, and because being proactive gives us more opportunities to be in control, regardless of the tax topic we’re discussing. As you are doing long-term tax planning with your clients you should have a meeting where you have some version of this conversation of Mr. and Mrs. Client when you reach age 72, the IRS will require to begin taking money from your IRA accounts so they can start collecting taxes, based on your current balance of -fill in the blank for your client- your RMD would be X dollars. And the better you have a system for this, so that you aren’t manually doing this, the more effective and efficient it’s going to be for your team and for your clients. So this is a great way to set the stage for bringing up planning strategies that can help reduce the impact of the RMDs later on, instead of generically talking about Roth conversions or QCDs or any other planning opportunities. Setting the stage of, here are the actual dollars that this will impact you each year. So, you can take that a step further and not just ‘here’s what your RMD would be’ but,‘here’s the tax you will pay on those RMDs in each year’ or estimated of course. None of us are promising to predict the future.
So, recently on the podcast, we talked about qualified charitable distributions or QCDs, which are a great way for your charitably inclined clients to take care of some, if not all of their RMDs in a year. The IRS does not care what you do with the distribution, they just expect you to take it. QCDs are an excellent tool for meeting your RMD and avoiding paying the tax on it. If you wait until a client turns 72 to start talking about their RMD situation, you may have already missed nearly two years of being able to take QCDs to reduce the total balance their RMDs are calculated on, since QCDs are allowed starting at age 70 and-a-half. Another great tool for reducing RMDs is helping clients with Roth conversions. Again, focusing on the original account holder, Roth accounts are not subject to RMDs because taxes have already been paid on those amounts. Doing Roth conversions in the years, leading up to retirement does not avoid taxes altogether, but does provide for more control over what years the income is taken and reduces a client’s exposure to the risk of higher marginal tax rates in future years, whether that’s due to changes in tax law, or simply having more income and being in a higher tax bracket in a given year. Especially as we talk about Roth conversions, this really reinforces the value, really the importance of doing multi-year tax projections.
Really, I encourage advisors to lifetime tax projections for their clients, because if the conversation around Roth conversions is just, ‘Hey, let’s convert to Roth. And oh, by the way, you’re going to pay a bunch of extra taxes this year, but just trust me, it’s going to work out.’ That’s a lot more difficult of a conversation to have than if you can show, you know, Mr. and Mrs. Client ‘here is – based on what we know of your account balances and current tax rates – here is your lifetime tax liability. If we were to do Roth conversions now to reduce RMDs later, to take out this risk of tax rates going up, if that’s something you’re concerned about, here’s how it impacts that total lifetime tax projection.’ So you start to see where there can be so much value, especially as it relates to taxes and putting actual dollars in quantifying what this looks like over time, and then once you’ve built that model anytime there’s a tax law change, or one of these strategies is implemented, you can go back and compare. Here’s what we were originally looking at, and here’s how it changed as we adjust the amount of this Roth conversion, or as we get to our RMDs or making QCD or whatever the tax planning strategy we’re implementing might be.
Okay, so let’s talk about action items related to RMDs. So, like I was just talking about, the first thing is: do lifetime tax projections for your clients. Making sure you’re including their projected RMDs. Of course, you’re going to make sure they know that these are projections, these are estimates. This is not you predicting the future, but if you’re only working one year at a time, it’s really hard. Also, basically impossible to really come out ahead, to really avoid leaving the IRS that tip that we always talk about. We want our clients to be completely compliant with the tax rules, but there is no award for overpaying the IRS. So we have to be looking at it multiple years at a time. If we want to be able to help our clients reduce what they’re ultimately paying the IRS.
The next action item I’m going to recommend is having a checklist or a system in place for handling RMDs for your clients. This should both be notifications of when you need to be having these conversations with your clients, as well as what happens when in years they need to take these required minimum distributions. Starting July 1st our RTS or Retirement Tax Services members will have access to a checklist library that we’ve worked with advisors to put together, including one covering RMDs. So if you’d like to be on the wait-list to get into our membership, the next time it opens up, go ahead and send an email to firstname.lastname@example.org, or go out to our website, retirementtaxservices.com.
The last action item I’ll recommend will come as no surprise, make sure you’re getting tax returns for all of your clients and prospects every year. So that you can make sure that you’re uncovering opportunities, that you’re making sure that strategies you’re implementing with your clients are being properly reported, and that you are really delivering value consistently on, retirement tax planning for your clients.
Really appreciate everyone listening today. If you can take a few minutes to go out and leave a five-star review and provide any feedback, so we keep making sure this is dialed in and really providing value to you and to your clients. Really appreciate it. Thanks for listening. Good luck out there, and remember to tip your server, not the IRS!
The information on this site is for education only and should not be considered tax advice. Retirement Tax Services is not affiliated with Shilanski & Associates, Jarvis Financial Services or any other financial services firms.