Last week we outlined the difference between using a Self Directed IRA and a Self Directed IRA LLC to start a fix and flip business.
We saw the advantages and disadvantages of each strategy. But what if we wanted to actually do some the work on the property ourselves?
Can we do it? Can we get paid for it? How would we do this?
Many of our clients are interested in buying fixer properties for their IRA’s to fix and flip with the profits going to their IRA accounts tax deferred (or tax-free in the case of a Roth IRA).
While this is certainly possible with a self directed IRA or Self Directed IRA LLC…is it the best or only way to accomplish your investment objective?
Not necessarily, let me explain….
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With many people living and working longer, there are important tax saving opportunities to contribute, defer, or convert well past age 70 ½.
A nice reminder by William H. Byrnes, and Robert Bloink is in their article “The Post-70 1/2 Retirement Plan Contribution Rules” about options to continue contributions which reads in part:
The rules for post-70 ½ IRA contributions depend upon whether the account is a traditional IRA, Roth IRA or SEP IRA. Direct contributions to a traditional IRA are not permitted after the client reaches age 70 ½, although the client may roll funds from another type of retirement account into his or her traditional IRA.
Conversely, the client may contribute directly to a Roth IRA after he or she has reached age 70 ½ (up to the annual $6,500 limit, which includes a $1,000 catch up amount). Direct Roth IRA contributions, however, are subject to income limitations that apply to reduce the contribution limits for taxpayers who earn more than $184,000 (married taxpayers) or $117,000 (single taxpayers) in 2016.
This means that although you can continue to contribute to your Roth IRA if you are under the income limits, if you are over those limits you can’t do a backdoor Roth after age 70 ½. You can, however, convert some of your traditional IRA to a Roth IRA after taking our your required minimum distribution.
If you are still working, you can avoid required minimum distributions and continue contributions to your employer-sponsored 401(k) or SEP IRA. You also don’t need to start taking required minimum distributions so long as you do not own 5% or more of the company:
Clients who are still working after age 70 ½ may generally continue contributing to employer-sponsored 401(k) accounts and SEP IRAs. In fact, employers must continue to make employer contributions to the SEP IRA of an employee who is over age 70 ½ if it makes similar contributions to younger employees’ accounts.
If the client plans to work past age 70 ½, he or she can avoid RMDs by leaving the funds in the employer-sponsored 401(k). As long as the client continues to work for the same employer that sponsors that plan, and does not own 5% or more of the company, he or she can avoid taking distributions from a 401(k), thereby avoiding the associated income tax liability that those distributions generate.
There are great tax savings opportunities between age 70 ½ and age 90. Which options provide the best tax savings depends on your specific situation.
Clients often consider whether it’s wise to convert their individual retirement accounts to Roth IRAs. There are pros and cons to doing so. But, for some clients, the Tax Cuts and Jobs Act of 2017 may tip the scales in favor of converting substantial amounts now.
The two most-important Roth IRA tax advantages are:
Unlike traditional IRA withdrawals, qualified Roth IRA withdrawals are federal-income-tax-free and usually state-income-tax-free too. What is a qualified withdrawal? It’s one that is taken after you, as the Roth account owner, have met both of the following requirements:
1. You’ve had at least one Roth IRA open for over five years.
2. You’ve reached age 59½ or become disabled or dead.
For purposes of meeting the five-year requirement, the clock starts ticking on the first day of the tax year for which you make your initial contribution to your first Roth account. That initial contribution can be a regular annual contribution, or it can be a conversion contribution. For example, say your initial Roth pay-in was an annual contribution made on 4/1/14 for your 2013 tax year. The five-year clock started ticking on 1/1/13 (the beginning of the tax year for which the contribution was made), and you met the five-year requirement on 1/1/18.
Unlike with a traditional IRA, you don’t have to start taking annual required minimum distributions (RMDs) from Roth accounts after reaching age 70½. Instead, you can leave your Roth account(s) untouched for as long as you live if you wish. This important privilege makes your Roth IRA a great asset to leave to your heirs (to the extent you don’t need the Roth money to help finance your own retirement).
Annual Roth contributions make the most sense for those who believe they will pay the same or higher tax rates during retirement. Higher future taxes can be avoided on Roth account earnings, because qualified Roth withdrawals are federal-income-tax-free (and usually state-income-tax-free too).
The downside is you get no deductions for making Roth contributions.
So if you expect to pay lower tax rates during retirement (good luck with that), you might be better off making deductible traditional IRA contributions (assuming your income permits), because the current deductions may be worth more to you than tax-free withdrawals later on.
The other best-case scenario for annual Roth contributions is when you have maxed out on deductible retirement plan contributions. For example, you’ve contributed the maximum possible amount to your 401(k) plan at work. In that case, making Roth contributions is basically a no-brainer.
The absolute maximum amount you can contribute to a Roth account for any tax year is the lesser of: (1) your earned income for the year or (2) the annual contribution limit for the year. Basically, earned income means wage and salary income (including bonuses), self-employment income, and alimony received that is included in your gross income (believe it or not). If you are married, you can add your spouse’s earned income to the total.
For 2018, the annual Roth contribution limit is $5,500 or $6,500 if you will be age 50 or older as of year-end.
For 2018, eligibility to make annual Roth contributions is phased out between modified adjusted gross income (MAGI) of $120,000 and $135,000 for unmarried individuals.
For married joint filers, the 2018 phase-out range is between MAGI of $189,000 and $199,000.
The deadline for making annual Roth contributions is the same as the deadline for annual traditional IRA contributions, i.e., the original due date of your return. For example, the contribution deadline for the 2018 tax year is 4/15/19. However, you can make a 2018 contribution anytime between now and then. The sooner you contribute, the sooner you can start earning tax-free income.
After reaching age 70½, you can still make annual Roth IRA contributions — assuming there are no problems with the earned income limitation or the income-based phase-out rule. In contrast, you cannot make any more contributions to traditional IRAs after you reach age 70½.
The quickest way to get a significant sum into a Roth IRA is by converting a traditional IRA to Roth status. The conversion is treated as a taxable distribution from your traditional IRA, because you’re deemed to receive a payout from the traditional account with the money then going into the new Roth account. So doing a conversion before year-end will trigger a bigger federal income tax bill for this year (and maybe a bigger state income tax bill too).
However, today’s federal income tax rates might be the lowest you’ll see for the rest of your life. Thanks to the TCJA, the rates shown below apply for 2018. These brackets will be adjusted for inflation for 2019-2025. In 2026, the pre-TCJA rates and brackets are scheduled to come back into force.
Single Joint HOH*
10% tax bracket $ 0-9,525 0-19,050 0-13,600
Beginning of 12% bracket 9,526 19,051 13,601
Beginning of 22 bracket 38,701 77,401 51,801
Beginning of 24% bracket 82,501 165,001 82,501
Beginning of 32% bracket 157,501 315,001 157,501
Beginning of 35% bracket 200,001 400,001 200,001
Beginning of 37% bracket 500,001 600,001 500,001
* Head of household
So if you convert in 2018, you’ll pay today’s low tax rates on the extra income triggered by the conversion and completely avoid the potential for higher future rates on all the post-conversion income that will be earned in your Roth account. That’s because Roth withdrawals taken after age 59½ are totally federal-income-tax-free, as long as you’ve had at least one Roth account open for over five years.
To be clear, the best candidates for the Roth conversion strategy are people who believe that their tax rates during retirement will be the same or higher than their current tax rates. If you fit into that category, please keep reading.
Converting a traditional IRA with a relatively big balance could push you into a higher tax bracket. For example, if you’re single and expect your 2018 taxable income to be about $110,000, your marginal federal income tax rate is 24%. Converting a $100,000 traditional IRA into a Roth account in 2018 would cause about half of the extra income from the conversion to be taxed at 32%. But if you spread the $100,000 conversion 50/50 over 2018 and 2019 (which you are allowed to do), almost all of the extra income from converting would be taxed at 24%.
For 2018 and beyond, you cannot reverse the conversion of a traditional IRA into a Roth account. Under prior law, you had until October 15 of the year after an ill-advised conversion to reverse it and thereby avoid the conversion tax hit.
The IRS has clarified that if you converted a traditional IRA into a Roth account in 2017, you can reverse the conversion as long as you get it done by 10/15/18. That 10/15/18 deadline applies whether or not you extend your 2017 Form 1040.
You accomplish a Roth conversion reversal by “re-characterizing” (weird word chosen by the IRS) the Roth account back to traditional IRA status. That is done by turning in the proper form to your Roth IRA trustee or custodian.
Low current tax cost for converting + avoidance of possibly higher tax rates in future years on income that will accumulate in your Roth account = continuing perfect storm for the Roth conversion strategy. However, talk to your tax adviser before pulling the trigger on a conversion — just to make sure you’ve considered all the relevant factors.
Even with the new law’s dis-allowance of the Roth conversion reversal privilege, Roth IRAs are still a tax-smart retirement savings alternative for many folks. Maybe now more than ever.
Many people believe a Last Will and Testament is sufficient to meet their estate planning goals.
If their goal is making the fulfillment of their wishes as easy as possible for their family and friends, with the least amount of expense, they might consider a Revocable Living Trust.
A Revocable Living Trust is a legal document that acts similarly to a Will, but does much more.
It seems every local paper, financial network, or informative media source is reporting about the historically low interest rates, the fear of near zero or negative interest rates, and the discussion of economic growth because of these conditions. What does this really mean and more importantly, what does it mean to you?
Ed. Note: This article first appeared in CNBC
The April 18 tax-filing deadline is looming, and many corporate executives, attorneys and other professionals earning high salaries are seeking to save more money and cut their taxes.
There is a great strategy that they could be overlooking that may save significant taxes in retirement: setting up a Roth Individual Retirement Account.
Roth IRAs are attractive for several reasons.
While funded with after-tax dollars, any earnings are tax-deferred and withdrawals in retirement are tax-free.
Additionally, Roth IRAs are not subject to the minimum annual withdrawals required from traditional IRAs during retirement, so they can also be an excellent tax-planning tool.
So you’ve inherited your spouse’s IRA. What you do now could have far-reaching tax implications. The one thing you cannot do is sit on your hands. Why? Because if you fail to withdraw at least the required minimum amount from your inherited IRA, you will be charged a penalty equal to 50% of the shortfall. This is one of the toughest penalties in our beloved Internal Revenue Code. So please pay attention and read on to learn how to calculate required minimum withdrawals from an IRA you inherited from your spouse.