Year-End Tax Planning (Q & A)

Dec 2015

Q         Dear Rick:

I’ve read a number of articles on year-end tax planning but they don’t apply to me.  I hope you can give me some advice for my situation.  I am in my mid 50s and single.  This year I will have no income from a salary as I’ve taken a year of absence from my job in order to handle some personal affairs.  The income I received from dividends, interest and some capital gain distributions will be minor at best.  To cover my expenses this year I have drawn down on some of my investments and my bank account.  However, I have not had to touch my IRA.  I talked to my tax person and they recommended that I take a distribution from my IRA.  They said I could take out nearly $30,000 without having to pay any taxes.  He also mentioned that I may have to pay a penalty but it will be minor at best.  Other than that he gave me no other advice.  My question to you, is there anything that I should do that would make sense and save me money?  I should mention that in a normal year my salary is in the low six figures and I plan to work at least another 10 to 15 years.





A         Dear Keith:

You are correct that your situation is unique and does provide you with some unique opportunities.  In that regard, the first thing I would tell you is that you should delay any deductions you have into next year.  For example, if you’re charitable in nature and make year-end charitable contributions, it would be best to make them at the beginning of next year when the deduction would be worth something to you, as opposed to this year where it appears all you’ll be taking is the standard deduction.  The same thing would apply to your year-end property taxes.  As opposed to paying them this month, it would be better to pay them into 2016 where once again, the deduction will be worth something to you.


I disagree with the advice from your tax person.  I like the idea of taking advantage of your no-income situation and withdrawing money from an IRA where you virtually will not be taxed; this is a good strategy.  However, a better strategy for you would be, as opposed to taking a distribution, convert that money into a Roth IRA.  By converting the money into a Roth IRA, you won’t have to deal with any penalty issues and at the same time, when you invest that money, as opposed to investing in items that are subject to income taxes, you can invest in a Roth IRA and it will grow tax free.  In addition, because it is a Roth IRA, you won’t have to worry about minimum required distributions on this money.  It can grow tax free for as long as you choose.


With regard to the amount that you convert, what you may want to consider is actually converting more.  Yes, it would require you to pay some income taxes; however, if that money is taxed at the lower bracket, you’re going to save yourself a substantial amount of money on future taxes.  Therefore, I would have your tax person re-compute your number so they can determine how much you can take out and be taxed only at the lower bracket.  Considering your income and the fact that you will work for another 10 to 15 years, there could be a substantial tax savings for you.


Remember, the key with Roth IRA conversions is that they must be completed by the end of the year.  Time is ticking and therefore, I would contact your tax person and your IRA custodian as soon as possible to get the paperwork going.


The one issue that you do have to consider in the conversion is, if you converted enough where there will be some taxable income, remember that you have to have the money to pay the taxes.  It appears to me from what you have said that would not be a problem.  However, I did want to make you aware of it.


Converting traditional IRAs into Roth IRAs is a great strategy that everyone needs to consider.  My general rules, if by converting it won’t throw you into a higher tax bracket, you have the money to pay the additional tax liability and you can leave the money to grow in the Roth IRA for at least five to seven years, conversions make sense.


One last note, always remember when it comes to tax planning, never forget the goal is not necessarily to just reduce your taxes but rather, to increase your net worth.


Good luck!



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