Personal Finances - 2017


IRAs – Your Questions Answered – Part II

By Mo Vidwans

Last month we answered some common questions about IRAs; this month I would like to continue on the same theme. More of the common questions that get asked.

I am the sole beneficiary of my mother's IRA. I have four siblings and want to share with them. My mother is 90 and I am 62 can I disclaim the IRS and have it pass to her estate?

Maybe, but first you should check with her IRA custodian. The account rules might specify who gets the money if there is no beneficiary which would be the effect if you disclaim. Also your state laws will have much to say with this issue. If the IRA goes to the estate and there is no beneficiary mentioned the assets would be distributed according to your mother's will or if she didn't have a will then according to her state's intestate rules. But before all this: you don't say if your mother is still alive, but I would suggest persuading her to put all four names on the beneficiary list with equal distribution.

Along with my sister, I am inheriting my father's IRA. What actions do I need to take in order to do a smooth transfer?

Inheriting the IRA comes generally at one of the most tumultuous times in life when you are dealing with the death of a loved one. But decisions you make about how to handle the account will make a big difference in how much it will be worth to you. In other words, you would want to avoid unnecessary taxes on that inherited IRA.

First, it should be divided equally between you and your sister, if those were his wishes. For sure you cannot roll the money into your own IRA; that will be the worst thing you can do. You must create a new properly titled inherited IRA. It must include the name of the decedent and the beneficiary clearly identifying who is who. Each beneficiary should have such account set-up in his/her name. Doing it this way, you can stretch the benefits and the tax shelter over your lifetime by taking annual withdrawal over your life expectancy. You will pay income taxes on this yearly amount at your own tax rate.

It will also be a good idea to touch base with the custodian of your father's account; they are knowledgeable about these precarious procedures.

I moved a stock, that had lost value, out of an IRA as part of my required distribution. When I sell it from my brokerage account what losses can I claim?

The cost basis for tax purposes of the transferred stock is the stock's value at the end of the day it came out of the IRA. Any loss that was incurred inside the tax sheltered IRA has no meaning and is ignored. In your brokerage account, if you sell this stock on a later date for less than the value of the stock on the transfer date, then only that decline in value is deductible as a capital loss. If from that day on, the value of the stock has gone up then you have a capital gain.

What are the pros and cons of converting a traditional IRA to a Roth IRA?

Not only this question gets stickier the older you get but the answer also changes according to the individual situation; it is especially dependent on your total IRA net worth and your heir's income tax rate among other things.

If you plan to leave a major portion of your IRA to an heir or two, paying the tax bill to convert now can make sense because the ROTH can grow tax free not only over your lifetime but also over your heir's lifetime.

By converting, you are taking an asset with an embedded tax liability and prepaying that tax; thus freeing up all tax liabilities for you and your heir. If the owner's tax rate is lower than the heir's, then the conversion could be even more advantageous to the heir. If, however, the heir is in a lower bracket, the advantage may be diminished or even disappear. (Keep this in mind as the Trump administration contemplates lowering income tax rates as part of a major tax reform push)

The conversion scenario outlined above assumes that the IRA owner pays the conversion tax bill with funds in the taxable account rather than dipping in the same IRA to pay the taxes. That makes a big difference. If the owner pays the tax bill from the IRA money, then the advantage of the conversion for the heir reduces to half after 30 years.

We would like to open a Roth IRA for our son who is in high school and works during the summers. Will the money in his Roth affect financial aid for college?

Assets in any IRA, whether held by the parents or by the student, are excluded from financial aid calculations. On the other hand, IRA withdrawals are included in income calculations on the Federal financial aid form (FAFSA). Once the money is withdrawn, it is considered as student's income and the federal financial aid formula expects students to contribute 50% of every dollar they earn/withdraw towards college costs. This is after an income-protection allowance of about $6,400.

So simple answer is this: if you are concerned about getting your financial aid reduced, then don't withdraw money from your child's IRA until after the last tax year that counts for financial aid which will be, in your son's case, starting in January of his junior year of college.

I am turning 50 in mid-2017. Do I have to wait until my birthday to make catch-up contributions to my IRA?

For IRA you can make contributions any time during the year that you are considering to contribute; in fact, IRS gives you till the tax-filing deadline for that year to contribute to your IRA and claim on your taxes. Similarly, for the catch-up additional contributions, you can make them at any time during the year you turn 50. For 2016, you had time to contribute additional $1,000 till April 18, 2017.