You know, 2016 is going to be one of those years many of us will remember for a very long time. We’ve watched the stock market reach record heights, felt our jaws drop when the Brits voted for Brexit, saw Michael Phelps cement his Olympics legacy and the Chicago Cubs break the longest championship drought in sports history, and witnessed Donald Trump’s presidential upset.
Yes, 2016 has been something else, all right. But here’s another milestone you can add to the year…
In 2016, the first Baby Boomer turned 70.5 years old!
Why’s that such a big deal? Well, that means some Boomers must begin tapping their 401(k) and Traditional IRA plans. In other words, those who turned 70.5 years old in 2016 will need to start taking their required minimum distribution (RMDs).
For those of us who need the income from our 401(k)s and IRAs, the strategy we’re going to cover here won’t apply. However, I’ve met with many Boomers who have found themselves not needing the income from these retirement accounts.
When you don’t need the additional income, RMDs can quickly become a hassle – especially if they bump you into a higher tax bracket.
And of course, taxes are what this all boils down to. Whether you need the income or not, the IRS imposes RMDs because they want the tax revenue. So, if we have enough income coming in from other sources, what can we do about these unneeded RMDs?
Last week, I had the pleasure of meeting a woman we’ll call Evelyn. She had recently turned 70, but had the energy of a lady half her age. Between her Social Security benefits and a very nice pension, Evelyn had little need for her IRA.
“Isn’t there something we can do about these required minimum distributions?” she asked. “I was hoping to give that money to my grandchildren.”
“Absolutely!” I told her.
We went over several possible solutions. While not all of them were relevant to her desire to pass the funds along, I wanted Evelyn to have all the information at her disposal before making a decision.
Here are six of the more popular options for RMDs…
1. Charity – you can reduce your tax burden by donating some or all of your RMDs to charity, up to $100,000 per year.
2. Reinvest in a taxable account – no, your investment won’t grow tax-deferred, but this is certainly an option for many people depending on their unique situations.
3. Roth IRA – you might qualify for a Roth IRA, which has no RMDs and no cutoff age for contributions.
4. QLAC – by converting up to 25% of your 401(k) or IRA into a qualified longevity annuity contract (QLAC), you can reduce your RMDs while securing a postponed income.
5. Guaranteed Universal Life – you could also use RMDs to purchase a guaranteed universal life insurance policy, which is an excellent way of creating a legacy for future generations.
Now, it’s probably no surprise that Evelyn, wishing to pass down as much to her grandchildren as possible, chose to purchase a guaranteed universal life insurance policy.
Her IRA was valued just over $400,000. And we figured her RMDs would be roughly $15,000. After taxes, that would leave her with around $10,000 annually to buy a policy worth $432,000.
Not bad at all.
Needless to say, Evelyn was thrilled with her decision. Not only would her grandchildren inherit the death benefit, which they would receive tax-free, but they would also receive the remaining value of her IRA.
Is Evelyn’s choice right for you?
Whether or not using your RMDs to purchase a guaranteed life insurance policy is as great a move for you as it was Evelyn – well, that would depend on your unique situation. While I believe it’s one of the more powerful tools we have for managing unneeded RMDs, it certainly isn’t right for everyone.
Here are some points to consider…
- You must be able to qualify medically for life insurance.
- Before you do anything, make certain that your advisor understands the life insurance marketplace and is independent. An independent advisor can shop the market for you and get you the best plan for you and your specific situation.
- If you do qualify, and assuming the product is designed well then the value of a guaranteed life insurance policy will be much greater than the sum of taking those individual RMDs over the years.
- The life insurance death benefit is paid tax-free to beneficiaries.
To find out if this solution makes sense for you, I encourage you to follow Evelyn’s example and consult with a qualified retirement planning professional.
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