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Death of the Stretch IRA?

Over the years, I’ve focused on the bits of the tax code that a middle class tax filer might benefit from. The Roth Conversion (still a good tool) and the Recharacterization, which the tax code killed, among them. Another bit of the tax code allowed a beneficiary of a taxable IRA or 401(k) to take distributions over his/her own lifetime, ‘stretching’ the withdrawals over decades to both allow for growth over time and reduce each year’s tax burden. Consider, if I have one married child, and leave her $1M, with no other income, no deductions, a $50K withdrawal taxed on $26K (due to the current standard deduction) produces a tax bill of $2739. Not too bad. Of course, if they have other income, they’ll see a higher bill, but this is just an example of the benefit of the stretch feature. Now, H.R. 5282, ironically titled “Retirement Enhancement and Savings Act of 2018” proposes to limit the withdrawal option for one’s inherited retirement accounts. A five year required withdrawal. The million would need to be withdrawn $200K/yr, resulting in a taxable $176K resulting in a $30,819 tax due. Over $150K (over the 5 years) or 15%+ vs an effective rate of about 5.5%.

Those who support this approach claim that once I (and my wife) are gone, we don’t ‘need’ the money and it’s up for grabs by the government. Yet the same folk pushed to get the estate tax exemption to $11M+ per person. Under the guise of ‘saving the family farms’, as if this were truly their motive. Adding to the irony are multiple New York Times articles, first reporting that Fred Trump, aided by his children, moved large sums of wealth into their names over their lifetimes to avoid proper taxes and the 55% tax rate on gifts over those decades. Second is that the president’s son-in-law also manages to escape any tax via his real estate holdings. In Jared’s case, the write off’s may be legal, albeit an example of how the tax code is structured to favor the rich and not the middle class who worked for decades to save up that $million vs accumulating hundreds of millions via tax loopholes.

Keep in mind, the bill hasn’t passed yet, but if it does, start doing the math. If you have multiple children, the tax hit is reduced. You can reduce it further if you have grandchildren, as the rules for their forced withdrawals are more lenient. If this new law is passed, you can also used Roth conversions over the next decades to move a small amount each year and pay the tax at your rate in retirement. Adding say, $25-$40K each year to your taxable income might have a far lower tax than to add 20% of the retirement account balance each year to your kid’s income.

If this bill is passed, or when I read that it failed to pass, I’ll be back with an update.

EDIT: The billed passed, and an easy estate planning tool for the middle class just went away. We are not likely to get it back.

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