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Christine Benz: Hi, I’m Christine Benz for Morningstar. Required minimum distributions are on hold for 2020. Joining me to discuss some strategies to consider in this no-RMD year is tax and retirement planning expert, Ed Slott.
Ed, thank you so much for being here.
Ed Slott: Thanks, Christine. Great to be back here.
Benz: It’s great to have you. Let’s talk about this pause on required minimum distributions. It went into effect in the very early stages of the pandemic when the stock market was in free-fall. Now the market has recovered pretty well. So, I guess the question is: Why does Congress pass these periodic pauses on required minimum distributions?
Slott: Well, don’t ask me why Congress does anything. That’s not even a fair question. They overreact; they panic. That’s the first thing people worry about, and it’s an easy one. Congress says, “Oh, let’s help people with RMDs. It will sound like we’re really giving them great relief.” But then, like you said, the market came way back. But it is what it is. So, I don’t know why Congress goes to RMDs first.
Actually, it only really helps the people who don’t need the money because people who need the money are taking the RMDs anyway. So, I don’t know who they thought they were helping. If you needed the money, not having to take it doesn’t help you.
Benz: That’s a good point. I think a question might come up for people who have multiple pools of assets. As I’m guessing, many of our viewers would have where they have maybe Roth IRAs, traditional tax-deferred accounts, taxable assets. If they don’t have to take from those traditional tax-deferred accounts this year, but they still need some cash, where is the best place to go for those funds? How would you suggest that people approach that question?
Slott: I’ll tell you where the worst place would be: Roth IRAs. Roth IRAs, remember, you had to pay to get that money in a Roth, either by forgoing a deduction as a Roth contribution or paying the tax to convert from an IRA to a Roth IRA. So, that money is bought and paid for, and it’s growing tax-free. Nothing beats the growth on a Roth IRA because it’s tax-free. And a tax-free account grows better than any other account because it’s not eroded by taxes. So, that would be the last place. To me, that’s the Holy Grail. That’s the item that’s growing tax-free forever for the rest of your life. And even after the SECURE Act, it’s going to grow at least 10 more years for beneficiaries. So, that would be the last place.
Maybe it depends on your bracket. If you’re in a low bracket, you might even say, “You know what, there are no RMDs, but maybe loss of income, my income stops, maybe I’m in a low bracket, maybe I should take some voluntarily.” Why on earth would you take when you don’t have to? Because waiving RMDs just puts the problem off for another day. Let’s take it to the extreme. Let’s say they waived RMDs to age 80. Can you imagine how your account would have built up, what your RMD would be at age 81 or 82? It’s just building up. It doesn’t go away. It’s more money in your IRA that may be taxed at a future higher rate. Look at our deficits and debts. Rates may increase sooner than you think. So, it may be to your advantage to take voluntarily and bring your IRA balance now at known tax rates. Today’s tax rates are the lowest you may ever see in your lifetime. There’s not even a guarantee what next year’s rates might be. So, it may pay to get that money out of your IRA now even though you are not required to. And this goes to people not even subject to RMDs, maybe people in their 50s or 60s looking ahead, doing Roth conversions, moving from a tax-deferred account to a tax-free account.
The foundational principle of all good tax planning is really very simple. Always pay taxes at the lowest rates, when the rates are the lowest, the lowest costs. Anytime you can get money out of that taxable, tax-deferred IRA at low bargain-basement rates, which is what we have now, that should be something you should take advantage of.
Benz: You referenced conversions, Ed, and I wanted to ask specifically about that strategy for people who would normally be subject to RMDs but don’t have them this year. It sounds like you think that they should at least explore the idea of taking a portion of their tax-deferred accounts and seeing what a conversion could do for them long term.
Slott: Yes, because remember when you’re normally subject to RMDs, RMDs cannot be converted in a normal year. Because there’s no RMDs this year, you can convert now for the waning days of 2020, amounts that next year couldn’t be converted. Once you’re in an RMD year like next year, you first have to take the RMD, pay the tax. That can’t be converted. The rest of the balance could be, but it’s going to cost you more. And again, anytime you can get money out, not even for a Roth conversion, maybe even for spending, if you can get it out at a low rate, or maybe put it into a life insurance policy, a permanent policy that can grow tax-free, or use it for gifting if you don’t have other money. Now, you might look at other money. Same idea with capital gains. You may be able to sell stocks that have appreciated and pay very low capital gains taxes. So, anytime you can use these low rates, that’s where you go. So, to your original question, which bucket do I take the money out of? Wherever you can take advantage of these low rates. And the low rates are the regular income tax rates and the capital gain rates. Roth money is already tax-free, so I wouldn’t touch that.
Benz: One strategy that often goes hand in hand, I think, in a lot of retirees’ minds with required minimum distributions is the qualified charitable distribution. So, you can still do the qualified charitable distribution in 2020, even though there aren’t any RMDs. The question is, should retirees take advantage of the QCD this year. What do you think?
Slott: Well, the first item you said is confusing to people because the SECURE Act increased the required minimum distribution age from 70.5 to 72. The question we always get, “Oh, does that mean you can’t do a QCD, a qualified charitable distribution, which is a direct transfer from an IRA to a qualified charity? So, you can’t do that till 72?” No. The QCD age stayed at 70.5. So, you have this gap where some people are not even subject to RMDs because they’re not age 72–forgetting this year where nobody is subject to them–and the question is, Should I do my gifting that way anyway if I qualify? The first question is, remember the QCD only applies to IRA owners and IRA beneficiaries who are 70.5 years old or older. It doesn’t apply to 401(k)s or other plans. So, you first have to qualify.
If you qualify, maybe you’re 71 and you say, “Well, I’m not subject to RMDs.” If you’re giving to charity anyway, this is the most tax-efficient way to do it. IRAs are the best assets to give to charity because they’re loaded with tax. That’s another great way. Remember I said, always get that money out at the lowest tax costs. Getting that money, bringing that IRA balance down, with giving you were going to do anyway, you can do that at a zero tax cost as opposed to the old way, writing a check, giving it to the charity, and getting no tax benefit for it because you’re not itemizing deductions. Most people, more than 90%, use the new higher standard deductions. Yes, if you’re giving and you qualify for a QCD, that’s the way to do it: a direct transfer from the IRA to the charity.
Benz: Ed, always helpful insights. Thank you so much for taking the time to be here.
Slott: Thanks, Christine.
Benz: Thanks for watching. I’m Christine Benz for Morningstar.