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Message
Decisions on inherited 401k
Posted on 2/4/23 at 8:41 am
Posted on 2/4/23 at 8:41 am
I m managing a trust for 2 family members in mid 20s. Large portion of it is an inherited 401k/ beneficiary IRA. Have 10 years to withdraw all money from it. Kids income is low as they are just getting into workforce. Question becomes, if withdraw up to 170k with 2022 tax brackets the 80k between 90 and 170 would be taxed at 24 percent. For intermediate to long term wealth, is it worth paying the 24% now and investing the 76% in a non taxable account or should just stop at withdrawing up to 90 k where i22% would be taxed.
This post was edited on 2/4/23 at 9:21 am
7
Posted on 2/4/23 at 11:00 am to lctiger
This feels like a potentially very expensive decision. I'd use some cash from the trust to pay for a financial advisor to give you actionable advice based on real numbers. The two beneficiaries will be glad you did.
Posted on 2/4/23 at 1:36 pm to lctiger
How big a balance are you talking about for each of them?
What is their anticipated income over next 10 years?
I'd only withdraw earlier in 22-24% brackets if not doing so will likely bump withdrawals into 32% if you wait.
Is the entire balance traditional?
What is the "non taxable account" you're referring to?
A fee only fiduciary advisor might be worthwhile if you're talking a large balance thats going to be hard to withdraw over 10 years without hitting higher brackets.
What is their anticipated income over next 10 years?
I'd only withdraw earlier in 22-24% brackets if not doing so will likely bump withdrawals into 32% if you wait.
Is the entire balance traditional?
What is the "non taxable account" you're referring to?
A fee only fiduciary advisor might be worthwhile if you're talking a large balance thats going to be hard to withdraw over 10 years without hitting higher brackets.
This post was edited on 2/4/23 at 1:37 pm
Posted on 2/4/23 at 1:41 pm to lctiger
Are either married which would allow just under additional $30k withdrawal @ 12%? If not I would withdraw up to the 12% limit and in years when the market takes a big dump scale up the withdrawals and re-invest in taxable brokerage at the lower prices. Would have to keep an eye on prospective tax rate changes in 2026 and maybe change strategy.
Posted on 2/4/23 at 2:03 pm to tirebiter
Have discussed with 2 different financial advisors mine and their deceased fathers. Get mixed opinions. Neither are married. It’s enough money that after about 6 years will be hitting 32 percent on what will have to start taking out. It kinda boils down to the question would you rather have 75k in a non taxable account or 100k in an account that you’ll have to pay taxes on.
Posted on 2/4/23 at 2:27 pm to lctiger
quote:
It kinda boils down to the question would you rather have 75k in a non taxable account or 100k in an account that you’ll have to pay taxes on.
Yeah, it is hard to beat a taxable account holding tax efficient investments, especially if QDI tax rates remain so favorable. So many younger investors cram all their money into 401k's to save up front taxes when if they are in lower tax brackets should be contributing some to taxable for future flexibility. Maybe plan on taking the entire retirement sum down over 3 years or so, then they could use some of the money for max Roth contributions and rest in taxable. Seen so many people burn through inherited assets through the years it is crazy.
Posted on 2/4/23 at 2:48 pm to lctiger
What is this non taxable account?
This post was edited on 2/4/23 at 2:49 pm
Posted on 2/4/23 at 2:52 pm to TorchtheFlyingTiger
Moderate risk mutual fund
Posted on 2/4/23 at 3:06 pm to lctiger
I'm not familiar with a non taxable account you can put $75k into annually. I assume you're not talking about indirectly funding their post tax retirement accounts (Roth) or pre-tax (traditional) or non-retirement brokerage (taxable). What else is there, some sort of insurance or annuity product?
ETA: not trying to be obtuse just want to learn in case I'm missing a strategy since I'll likely be tackling estate planning issues soon myself.
ETA: not trying to be obtuse just want to learn in case I'm missing a strategy since I'll likely be tackling estate planning issues soon myself.
This post was edited on 2/4/23 at 3:09 pm
Posted on 2/4/23 at 3:39 pm to TorchtheFlyingTiger
Basically it is withdrawing from the account, paying the income tax on it and then investing it in a mutual fund. For the money made over time, capital gains taxes would apply but the income tax will have already been paid and done with.
I have an inherited IRA that I have 9 years left before have to have it all withdrawn. My situation is kinda opposite of this one as I am in mid 50s and hopefully retired in 6-7 years. I’m leaving as much as possible in so iimnot withdrawing on top of my income
I have an inherited IRA that I have 9 years left before have to have it all withdrawn. My situation is kinda opposite of this one as I am in mid 50s and hopefully retired in 6-7 years. I’m leaving as much as possible in so iimnot withdrawing on top of my income
Posted on 2/4/23 at 4:00 pm to lctiger
Ok, makes sense so just a regular taxable brokerage.
In that case, sounds like you're on right track. I'd try to keep it in tax differed inherited IRA as long as possible but careful to avoid getting hit with that higher bracket by waiting too long.
Couldnt you distribute a portion of the withdrawals to enable beneficiaries to fully fund their tax advantaged accounts?
In that case, sounds like you're on right track. I'd try to keep it in tax differed inherited IRA as long as possible but careful to avoid getting hit with that higher bracket by waiting too long.
Couldnt you distribute a portion of the withdrawals to enable beneficiaries to fully fund their tax advantaged accounts?
Posted on 2/4/23 at 4:41 pm to TorchtheFlyingTiger
quote:
I'm not familiar with a non taxable account you can put $75k into annually
NQ Supplemental 401k Plan - very powerful tool for high income W2 earners.
Posted on 2/4/23 at 4:50 pm to TorchtheFlyingTiger
It’s being distributed and then reinvested. In order to distribute it, the income taxes have to be paid. The whole purpose of this trust is to provide for the kids, and at set increments they get their money. Don’t want to distribute too much to a 23 year old or he may be broke before he’s 30.
Posted on 2/4/23 at 4:50 pm to KillTheGophers
quote:
NQ Supplemental 401k Plan
How does that apply to this situation? Besides, arent those also taxed at distribution? Thus they're not "non taxable."
Posted on 2/4/23 at 7:54 pm to TorchtheFlyingTiger
A layman that “inherits” the NQS plan is often confused. Many think the plan is post tax and / or part of 401k as a supplemental plan - if mom or pop was an executive or highly paid employee.
Again, to people like us, we can easily tell what the accounts are. For the amateurs, it all looks like a big hairball.
I see more confusion with NQS plans more so than stock options or anything else.
Fidelity for example - in a summary Fidelity statement, more often than not, the statement has the NQS plan directly under the 401k plan….and the 401k plan will be labeled tax deferred - the NQS will not.
To answer your first question, I doubt it applies in this situation….but if he is dealing with a NQS, there will be a tax bill.
Again, to people like us, we can easily tell what the accounts are. For the amateurs, it all looks like a big hairball.
I see more confusion with NQS plans more so than stock options or anything else.
Fidelity for example - in a summary Fidelity statement, more often than not, the statement has the NQS plan directly under the 401k plan….and the 401k plan will be labeled tax deferred - the NQS will not.
To answer your first question, I doubt it applies in this situation….but if he is dealing with a NQS, there will be a tax bill.
Posted on 2/5/23 at 10:03 pm to lctiger
I would set aside the question of what are going to do with the distributions (i.e. where you are going to reinvest that money) and instead focus more on the tax implications of the distributions themselves.
There's going to have to be some crystal ball gazing here.
Under current law, on 1/1/26, the 22 percent bracket becomes the 25 percent bracket and the 24 percent bracket becomes the 28 percent bracket. Will tha actually happen? Will the current Trump tax cuts be extended? Will rates go even higher?
What about their job prospects. You said they are just starting out... so likely they will have higher ordinary income in the last few years than they do today... so that higher income may bump them to a higher taxable bracket.
On the other hand... they are single now... if they get married in a few years... and the spouse has little or no income... they may get the benefit of shoving income down into a lower bracket due to the double-width of the married brackets at 24% and below. On the other hand, if they "marry up", that ticking time bomb is going to get a whole lot worse.
What state are they in? Need to pay attention to state tax implications as well.
Here's what I tell clients in a similar situation... if they are willing to pay 22% tax... 24% is only 2 percentage points more in tax. I wouldn't go above 24 right now, though.
Also... keep in mind if the money is indeed reinvested into a taxable account like a retail mutual fund, not only will they be taxed on capital gains from selling the fund... they will also be taxed on the dividends and capital gain distributions the fund throws off.
There's going to have to be some crystal ball gazing here.
Under current law, on 1/1/26, the 22 percent bracket becomes the 25 percent bracket and the 24 percent bracket becomes the 28 percent bracket. Will tha actually happen? Will the current Trump tax cuts be extended? Will rates go even higher?
What about their job prospects. You said they are just starting out... so likely they will have higher ordinary income in the last few years than they do today... so that higher income may bump them to a higher taxable bracket.
On the other hand... they are single now... if they get married in a few years... and the spouse has little or no income... they may get the benefit of shoving income down into a lower bracket due to the double-width of the married brackets at 24% and below. On the other hand, if they "marry up", that ticking time bomb is going to get a whole lot worse.
What state are they in? Need to pay attention to state tax implications as well.
Here's what I tell clients in a similar situation... if they are willing to pay 22% tax... 24% is only 2 percentage points more in tax. I wouldn't go above 24 right now, though.
Also... keep in mind if the money is indeed reinvested into a taxable account like a retail mutual fund, not only will they be taxed on capital gains from selling the fund... they will also be taxed on the dividends and capital gain distributions the fund throws off.
Posted on 2/5/23 at 10:09 pm to KillTheGophers
quote:
A layman that “inherits” the NQS plan is often confused. Many think the plan is post tax and / or part of 401k as a supplemental plan - if mom or pop was an executive or highly paid employee
If there are 30K companies that offer a Non-qual deferred comp plan... there 30K different plan structures. Almost no two plans are the exact same... because while 401(k) are highly regulated... non-quals are much, much less regulated. There are a few very wide guidelines and otherwise, lots of ability for each company to craft a plan how they want.
I've seen some that are really, really, really good... and I've seen some that are completely worthless and probably actually cause more harm than good if you participate.
A lot of companies do market it as sort of an extended 401(k). And to be fair... a lot of companies do structure their plan similar to a 401(k) - such as allowing similar investment options and very long runways for distributions.
But they can blow up... such as the guy I consulted for recently that had his position eliminated... had 500K in the non-qual, plan called for a full distribution within 30 days of termination...
Ole boy saved tax money at 24% on the front end and ended up paying 35%/37% on the back end. He says he had no idea it was all going to distribute at once... "but they told me it's just like a 401(k)..."
Posted on 2/8/23 at 5:57 am to evievaughan
Consider the plan for the money OP. As said tax brackets are likely going up.
But you should invest the money in the 401k as a part of their entire portfolio.
For example, if they have a 401k at work or can open a personal retirement account consider doing that with their own income and using the distributions from the inherited 401k to live off of.
Then any withdrawals from the 401k put in growth and dividend stocks/ funds. Anything left in the accounts keep diversified in low tax/ cash or whatever. If they need a home downpayment for example keep that cash in the 401k.
I don’t see anything wrong at all with moving the money sooner then later. Talk to the beneficiaries and get a plan. Moving the money out and putting it in accounts for their own retirement sooner is not a bad idea.
Too many people view each of their accounts individually, instead of managing each account together for their tax benefits.
But you should invest the money in the 401k as a part of their entire portfolio.
For example, if they have a 401k at work or can open a personal retirement account consider doing that with their own income and using the distributions from the inherited 401k to live off of.
Then any withdrawals from the 401k put in growth and dividend stocks/ funds. Anything left in the accounts keep diversified in low tax/ cash or whatever. If they need a home downpayment for example keep that cash in the 401k.
I don’t see anything wrong at all with moving the money sooner then later. Talk to the beneficiaries and get a plan. Moving the money out and putting it in accounts for their own retirement sooner is not a bad idea.
Too many people view each of their accounts individually, instead of managing each account together for their tax benefits.
This post was edited on 2/8/23 at 5:58 am
Posted on 2/8/23 at 7:21 am to baldona
Thanks for the advice, chances are I’ll do what I usually end up doing and hedge somewhere in the middle
Posted on 2/8/23 at 3:44 pm to lctiger
Sounds like they need someone else to manage their trust.
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