Tax

Retirement Savings:  A New Year Brings New Opportunities

2015

As we get ready to ring in the new year, now is a great time to re-evaluate your retirement plans for 2016.

In addition to providing benefits for retirement, many plans offer current tax benefits. Employee benefits for retirement savings vary based on the type of account and can include tax-deferred or tax-free compounding and reduced current-year income taxes.

Regular Contributions & Catch-Up Contributions

It’s important to start saving for retirement early to allow for compounding growth. Taxpayers should consider increasing their annual contributions and taking advantage of employer matching programs.

In addition, taxpayers age 50 and older at the end of the tax year can make elective catch-up contributions to their retirement accounts over and above the current contribution limits.

Roth IRA Conversions

Taxpayers with traditional individual retirement account (IRA) plans might consider converting all or part of their IRA to a Roth IRA. Conversion lets taxpayers turn tax-deferred future growth into tax-free growth. Depending on whether deductions were taken for past IRA contributions, all or part of the amount converted is taxable in the year of the conversion. Taxpayers should review several factors, including age, current tax bracket, expected tax bracket in retirement, ability to pay the conversion tax out of pocket and potential applicability of the additional 3.8 percent Medicare net investment income tax (NIIT) before moving forward with a conversion.

There are currently no income limitations for taxpayers to convert to a Roth IRA. It’s most advantageous if the taxpayer can pay the additional taxes out of pocket and not use the converted IRA funds. This offers the taxpayer additional compounding and growth of the funds tax-free. One additional benefit of Roth IRAs: They don’t require distributions during the taxpayer’s life, so the balance can continue to grow tax-free for the benefit of any heirs.

Required Minimum Distributions

Required minimum distributions (RMD) represent the minimum amount a retirement account owner must withdraw annually beginning at age 70½. If the account holder is still employed, the RMD from an employer-sponsored plan can be delayed until the year in which the account owner retires, unless the account holder owns more than 5 percent of the employer.

RMD rules apply to all employer-sponsored retirement plans and IRAs, excluding Roth IRAs, while the owner is alive. Taxpayers who have not taken IRA distributions before reaching age 70½ may elect to delay the first payment until April 1 of the following year. For all subsequent years, the taxpayer must take the RMD by December 31. The RMD is calculated by dividing the account balance as of the prior December 31 by an IRS-provided life expectancy factor. In addition, IRA owners must calculate their RMD for each IRA they own. While it’s possible to withdraw the combined RMD from one IRA, this task can be difficult if the accounts are with different brokerage firms.

Taxpayers approaching age 70½ should consider the potential tax benefit or detriment of deferring the first distribution. For taxpayers that don’t comply with the RMD rules, penalties can equal 50 percent of the amount that should have been distributed.

Qualified Charitable Distributions

The Tax Increase Prevention Act of 2014 extended the provision allowing qualified charitable distributions (QCD) from IRAs through December 31, 2014. Under this provision, individuals age 70½ and older could exclude up to $100,000 from adjusted gross income (AGI) for donations paid directly to a qualified charity from their IRA. Married individuals filing a joint return could exclude up to $100,000 donated from each spouse’s IRA.

QCDs provide a powerful tax strategy for philanthropic individuals because the QCD counts toward IRA RMDs for the year. By excluding the QCD from AGI in lieu of an itemized charitable deduction, certain deductions and credits that phase out based on AGI may be preserved; this could also reduce NIIT exposure.

Taxpayers interested in taking advantage of this provision for 2015 will need to stay tuned for potential year-end legislation that might extend this provision for the 2015 tax year.

Direct Transfers & Rollovers

Did you switch jobs in 2015? Have you left funds in a former employer’s workplace savings plan? Now might be the time to consider a retirement plan direct transfer or rollover.

A direct transfer or trustee-to-trustee transfer occurs when the taxpayer requests the plan administrator make a payment directly to another retirement plan or IRA administrator. No federal income taxes are withheld from these transactions.

A rollover occurs when taxpayers take a retirement plan distribution and deposit the funds into another retirement plan or IRA within 60 days. The transaction usually is tax-free when funds are rolled over within 60 days and not withdrawn from the new plan. In this scenario, the taxpayer can deposit all or a portion of the amount in an IRA or retirement plan within the 60-day window. When this occurs, federal income taxes will be withheld from the distribution. If the taxpayer wishes to roll over the entire amount, he or she will need to use additional funds to make the rollover for the entire amount of the distribution. Any withdrawn payments or withholdings are subject to income tax and an additional 10 percent penalty for early distributions if not rolled over within 60 days. If taxpayers miss the 60-day deadline to roll over their distribution, there are limited exceptions where the IRS may waive the requirement if there were circumstances beyond the taxpayer’s control.

As of January 1, 2015, taxpayers only may make one rollover in any 12-month period. If a taxpayer exceeds the one-rollover-per-year limitation, the taxpayer will include the distribution amount in gross income and may be subject to the 10 percent early withdrawal penalty on the amount included in income. If taxpayers recontribute the distributed amounts to another IRA, the amounts could be treated as excess contributions and be subject to an excise tax of 6 percent per year for the period they remain in the IRA.

It’s important to note the one-rollover-per-year limitation does not apply to the following events:

  • Rollovers from traditional IRAs to Roth IRAs (conversions)
  • Trustee-to-trustee transfers to another IRA
  • IRA-to-plan rollovers
  • Plan-to-IRA rollovers
  • Plan-to-plan rollovers

Both direct transfers and rollovers allow taxpayers to transfer the funds into another plan where they can continue to grow tax-deferred.



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