How to Deal With Deferred Taxes
By: Garrett Shinn, CPA
Most of us have spent considerable time strategizing how to contribute funds to our tax-deferred savings accounts, such as IRAs and 401(k) s.
Equally important, however, is strategizing how to take money out.
Tax-deferred savings accounts allow you to start withdrawing funds at age 59 ½. By the time you turn 70 ½, these withdrawals, also called Required Minimum Distributions (RMDs), become mandatory. The amount that you must withdraw is based on a formula calculated by the IRS, which considers factors related to your life expectancy.
If you do not withdraw the correct amount, the IRS imposes hefty penalties. These penalties can be as much as 50% of the amount that you failed to withdraw.
Even when you do withdraw the proper amount, you are still subject to taxation. The Required Minimum Distribution may push you into a higher tax bracket, which could decrease the amount of savings you are able to realize.
Therefore, in order to lessen your overall tax burden, you should strategize early on. A common strategy is to convert your traditional IRA into a Roth IRA while you are between the ages of 59 ½ and 70 ½. A Roth IRA is funded with after-tax dollars, which means that you will have to pay taxes on your savings during the conversion. Nevertheless, since you will likely be in a lower tax bracket during this phase of your life, you will end up paying fewer taxes in the long run.
It is never too early to start strategizing for your retirement. By planning ahead, you can avoid some of the financial drawbacks of a tax-deferred savings account.
If you have any questions, please contact the Shinn & Co team at firstname.lastname@example.org or call 941.747.0500.