What should I do in terms of RMD planning with an inherited IRA?
I am 25 years old and will be inheriting a Traditional IRA by the end of this year. The balance on the IRA is $310,000. After running a calculator on the withdrawals, I saw they start around $6,000 a year and will balloon quite higher.
Does it make more sense to pull out a higher amount early on from this account since I am still in a modest income bracket (15%) and look to be aggressive in investing? Or, should I stick to taking the minimum amounts and just make a lump sum max out of the retirement accounts?
Also, since this account is going to be progressively withdrawn from, does that change the investment strategy?
Very smart planning (well above average) by thinking of all the issues, investments vs. taxes owed vs. long-term RMD (Required Minimum Distributions) vs. Tax-Bracket Planning (as I talked about in my R.I.T.E. Planning article).
I would NOT take it out lump sum amount as that will push you into higher tax brackets...but I would consider FULLY utilizing the15% tax bracket or even Teh 25% tax brackets (but not higher...to see your rate, check the previous link). That can be done by taking the RMD + an amount that would only put your estimated income into the 15% or 25% income tax brackets. For those not familiar, your taxes are bracketed where you pay the higher rate only on the income that falls in the bracket (it does NOT go back to the first dollar at the higher bracket).
This strategy of taking some more now protects you also from paying higher taxes later if you have a higher income and/or if they raise taxes in the future. If congress passes new tax laws in 2017 or 2018 to reduce taxes, this strategy will be even more valuable as those lower rates will most likely be temporary (as were the lower brackets under President Reagan in the 1980s).
As for the investment strategy, it mostly depends on whether you will be SPENDING the distributions or just re-investing them after you take them out of your IRA.
If you spend them, then I would keep the expected distributions for the coming 2 years realatively conservative (money market and/or shorter term bonds). If you are going to re-invest them, then even if you sell out into a down market, you can re-buy in the after-tax account (a brokerage account you could set up to move the distribution into...at the same custodian if you like them to make things easier) and the market risk is less important.
Also, now that you have inherited a very nice sum, perhaps it is time to start looking a t your overall financial plan. Check out my series of four articles in Investopedia called "Planing Through LIfe's Stages to Avoid Money Worries".
Good thinking of how best use your inherited IRA. You’re correct of reasoning to withdraw more than the minimum since you’re currently in the low tax bracket. In fact, IRS could care less of how much your withdrawal amount is as long as you take the minimum; the more you withdraw, the more tax you give up to the IRS. Thus, it’s a delicate balance of taking out just enough; maybe more than $6k RMD but not too much to push you to the next tax bracket, 25%. You have to be vigilant and diligent of tracking your income and withdrawals to ascertain there’s no surprise next Apr. 15.
Once you know how much you need to take out, there’s no law says you must spend it all. Hence, the next steps is to invest properly and coupled with the tax efficiency since the withdrawn amount will be in a taxable account.
If you can handle those two steps efficiently, you’re good to go. However, what sounds simple and easy on paper may be different in reality as there are many variables can deviate you from the original plan, such as an urgent health/medical care, a layoff, etc. Therefore, it’s important at the early stage to find a trustworthy CFP® professional so you can always have a sound advice. Best!
If you do this properly and carefully, you going in awfully good shape and the minimum withdrawals will not increase substantially for many many years to come. The key to understanding your options has to do with the fact that you must begin making withdrawals in the year following the death of the IRA owner. Next, you then set up andinherited IRA which will include the name of the person who's leaving to the money and your name as an FBO or for the benefit of. Once the funds are transfeedrd, you will turn to an IRS table for 25 or 26-year-old and use this calculation to determine the minimum which I think you know how to do. The minimal dstribution each and every year is based on the value of the prior December 31 and the age factor but unlike your own traditional IRA, withdrawals must start in the year following the death of the owner. On one related subject, don't forget to name a new beneficiary and contingent beneficiary. I hope this helps and good luck
When considering the tax implications of your decision, you’ll not only want to think about the taxation of the inheritance itself, but also the potential taxation of the assets over the course of your life. That is, if we knew that the assets were never going to appreciate beyond $310,000, we could just assume an income and tax rate for you in each year of your life and compare the tax impact of distributing all $310k over five years at a presumably lower tax bracket versus distributions according to the IRS’s Table I at what we would hope would be progressively higher tax rates due to increased wages. From this comparison, you might make a decision according to the most tax advantageous scenario.
Obviously, even these simpler calculations would require a healthy amount of assumptions that, only a few years from now, might look totally different than reality. Unfortunately, the real calculation that you need to make also includes assumptions of growth (or loss) on the inherited assets. This is critical because, if the asset remain inside of the Inherited IRA, taxes on earnings will be deferred. Depending on what you do with the assets upon distribution, taxes may not be deferred, creating addition tax drag.
The real answer to your question will be highly dependent on your personal circumstances, financial situation, and investment objectives. To determine the course of action that is in your best interest, you will have to think about what you’re trying to accomplish and work through the math, and/or find a professional that can help you.
For what it’s worth, whether you distribute the assets to yourself sooner or later should not necessarily affect how aggressively or conservatively you can invest the assets. If the current custodian of the Inherited IRA doesn’t provide the investment options necessary to construct your ideal allocation, you can transfer the account to a new Inherited IRA account at a different custodian that provides the investment options you desire.
A big difference, as far as investment considerations are concerned, between assets within the Inherited IRA and those that are distributed, is how any earnings are treated from a tax standpoint moving forward. Different investments provide different tax advantages and disadvantages. You’ll want to be aware of those differences before you undertake any future investments.
It is always better to pay taxes later than it is to pay taxes early. Take only the minimum required by law each year. If you want to be aggressive (and why not, since at your age you can take risk) reinvest the IRA portfolio into more aggressive assets. If it works out you will have the added benefit of not having to pay tax on your gains.
Don't get crazy, though. This nest egg can last the rest of your life if you are prudent. By all means buy equities but don't take wild chances. Diversify -- no more than 5-10% of the portfolio in any one stock. Do your research and buy growing, financially sound, well-managed companies. Ideally, on average you will make more per year than you have to withdraw and the IRA will grow.
The withdrawal rate (2% the first year and increasing gradually) can easily be accommodated by making a few small sales right before you withdraw. We do this all the time for clients and by now it's second nature. It will be for you too. In your case you'd probably trim $500-$1,000 each from up to a dozen of your holdings. There's no need to alter any long-term strategy to accomplish this.