Supreme Court Upholds Washington State Capital Gains Tax – What You Need To Know

Supreme Court Upholds Washington State Capital Gains Tax – What You Need To Know

by | Mar 30, 2023 | Advisors, Ask Merriman, News, Scott Christensen, Tech Focus, Wealth Protection

 

Supreme Court Upholds Washington State Capital Gains Tax – What You Need To Know

 

On March 24, 2023, the Washington State Supreme Court ruled in favor of a state capital gains tax, which was originally passed in 2021 to take effect starting January 1, 2022. In light of the court’s ruling, the state will continue as planned and collect the tax due for tax year 2022. The due date corresponds with the federal tax return filing deadline (which lands on April 18th this year), leaving just a few short weeks to file a return and pay the tax. With the clouds of uncertainty dispersed, it’s important for Washington residents to understand what is at play.

 

Who pays the tax?

Individuals with realized long-term capital gains above $250,000 are now required to file a Washington state capital gains tax return. A 7% tax on gains above this threshold will apply. The $250,000 annual standard deduction applies to spouses or domestic partners whether they file joint or separate returns (it is not $250,000 per person rather $250,000 per household). Income from work, pensions, social security, etc. are not included in this tax. It applies to the sale of intangible or tangible property such as stocks and bonds (including mutual funds, ETF’s, and other pooled investments), art, and other collectables. There are, of course, important exemptions to be aware of – we are talking about taxes after all! These include among others:

  • Sale of real estate, regardless of whether it’s a residential or commercial property. The property can be owned by a business, individual, or trust. It doesn’t matter how long the seller owned the property or whether the seller was renting the property.
  • The gain on the sale of a private entity, to the extent that gain is directly attributable to real estate owned by the entity.
  • Gains in retirement accounts, including 401(k)s, deferred-compensation plans, IRAs, Roth IRAs, employee-defined contribution plans, employee-defined benefit plans, and similar retirement savings accounts.

In addition to the exemptions outlined above, there are specific deductions that apply to the taxable capital gain income in Washington. Beyond the $250,000 standard deduction already mentioned, the following deductions also apply:

  • Long-term gains on the sale of qualified family-owned small businesses
  • A charitable deduction up to $100,000 for qualifying charitable gifts in excess of $250,000. The catch is that the charities need to be directed or managed in the state of Washington, which makes it unlikely for donor-advised funds to qualify for the deduction. Since the deduction is capped at $100,000 annually, to qualify for a full deduction one would need to have made qualified charitable contributions of $350,000.

The Revised Code of Washington defines the specifics for applying each of the family-owned small business and charitable deductions. Please don’t hesitate to reach out to us if you have questions.

For general examples of how the tax is calculated, please see our previous article on the topic. We also include a specific example for the charitable gift deduction below.

Charitable Deduction Example:

Sarah had $300,000 of long-term capital gains subject to the Washington state capital gains tax. She owes a tax of 7% on $50,000 (the excess above the $250,000 standard deduction). If Sarah contributed $50,000 to a charity directed or managed in the state, she would still owe tax on the full amount since the minimum charitable contribution is $250,000. Since the $50,000 charitable contribution is below the minimum, it would not reduce the $50,000 taxable income.

If Sarah had instead contributed $300,000 to a qualified charity directed or managed in Washington, she would qualify for a $50,000 charitable deduction which would eliminate her taxable realized gains subject to Washington state capital gains tax.

 

How do I pay the tax?

The Washington state capital gains tax return is filed separate from your federal tax return, but because your federal income tax return is required to be attached to your Washington state capital gains tax return, it’s necessary to first complete your federal return. Then you will submit the Washington state capital gains tax return electronically using the Washington Department of Revenue website. This video tutorial walks through the process of filing the return and paying the tax.

An extension can be granted to those who file an extension for their federal income tax return, but payments must still be made by April 18, 2023 or penalties will apply.

 

What you need to know when filing

  • When completing the capital gain tax return, you will be asked whether the gain is allocated to Washington. Only gains allocated to Washington apply when calculating the tax. So what is and is not allocated to Washington? It depends where the sale or exchange occurred, regardless of where it was purchased. You could have purchased a stock years ago while living in a different state, but if you sell the stock while you reside in Washington, it is allocated to Washington.
  • For tangible property, such as art or collectibles, there are a few more rules to determine whether it is allocated to Washington. A FAQ can be found on the DOR website that covers tangible property, cryptocurrency, business owners, and mutual fund distributions.
  • Since this is a tax only on realized long-term capital gains (property held for more than one year), property that is sold within a year is not included in the Washington state capital gains tax. This means there may be a difference between what is reported on your federal return and the state return since both short-term and long-term capital gains are netted together at the federal level, but only long-term gains are considered at the state level. Capital loss carryovers can be used but are limited to the amount used in determining the federal net long term capital gain.
  • For those receiving restricted stock units (RSU’s), vested shares sold within one year will not be considered in the Washington state capital gains tax. Only shares held for longer than a year after vest are considered long-term and potentially subject to the tax.

 

Conclusion

It’s more important than ever to be aware of how much capital gains income is being realized. It will likely make sense to diversify from a concentrated stock position over time where possible, to not incur an extra 7% tax. In cases where cash is needed, we can help analyze other options such as using short-term borrowing tools like a home equity line of credit or margin on your brokerage account. With a payoff plan in place, these tools may present a lower interest cost than the capital gains tax that would otherwise be paid. For those subject to the tax this year, your CPA should be able to help fill out your Washington state capital gains tax return. If you have questions determining how this impacts you, we’re happy to help.

 

 

 

Disclosure: All opinions expressed in this article are for general informational purposes and constitute the judgment of the author(s) as of the date of the report. These opinions are subject to change without notice and are not intended to provide specific advice or recommendations for any individual or on any specific security. The material has been gathered from sources believed to be reliable, however Merriman cannot guarantee the accuracy or completeness of such information, and certain information presented here may have been condensed or summarized from its original source. Merriman does not provide tax, legal or accounting advice, and nothing contained in these materials should be taken as such.

Can You Afford to Spend More and Give More? You Might Be Surprised by the Answer!

Can You Afford to Spend More and Give More? You Might Be Surprised by the Answer!

by | Mar 21, 2023 | Advisors, Ask Merriman, Charitable Giving, Family Talk, Geoff Curran, Goal Planning, Retirement Savings, Tech Focus, Wealth Enhancement

 

When I started my career in financial planning over 12 years ago, I discovered a deep passion for helping others navigate important life decisions such as retirement. What I didn’t realize at the time was just how difficult it can be for clients to feel comfortable spending money and giving away their wealth to family or charities they feel good about (and the regret that can come later in life by these decisions). I’ve come to term this as “financial immortality,” which is quite common among clients and was the inspiration for writing a new eBook, Merriman’s Guide to Living Fully in Retirement: How to Feel Comfortable Spending and Giving More.

 

No matter where you are on your financial journey, this new book covers topics and strategies suggested by our advisors to help you Live Fully in retirement. Whether you are currently retired, soon to be retired, or just looking ahead to the future, you can learn about options and make smart decisions that may enable you to spend more and give more. Perhaps you can make that vacation home purchase you have always dreamed of. Maybe starting a home-based business to dabble in during retirement is within reach. Or perhaps you’d like to spread your wealth across the family. Maybe there is a cause you’d like to support in a meaningful way. The giving part can be the act of gifting resources to loved ones or to charitable organizations. The point is, with the right plan of action, you can likely do more with your money!

 

A client of mine passed away in her late 90s with enough resources to survive two to three additional lifetimes relative to her spending needs. While her heirs were grateful for their inheritance, they kept sharing versions of the same story: “Aunt Susan always lived so frugally and was never comfortable with spending money. I wish she had traveled more.” From my conversations with her, I know she wished she had too.

 

Another client of mine reached financial independence in his mid-40s with three children. The problem was that each year he kept moving his own personal goalpost, pushing him to continue to work in a high-pressure role that he didn’t enjoy anymore. It took several planning sessions to build his comfort around the plan, and he was able to step away to spend more time with his family and work on something that he was actually passionate about.

 

If you recognize traits like these in yourself or someone you care about and want to explore ways to positively change attitudes about saving, spending, and giving, we can help! We are happy to share our new eBook, Merriman’s Guide to Living Fully in Retirement: How to Feel Comfortable Spending and Giving More.

 

Learn more about:

  • defining financial immortality and the importance of having a financial plan to help determine if you can afford to spend more and give more
  • spending and giving as it relates to different withdrawal rates and methods and from which account to withdraw
  • actionable strategies to help you save on taxes, donate to charity, and how best to transfer wealth to your family
  • common roadblocks or distractions that clients encounter

 

This book offers great perspective as a collaborative effort from our team of Merriman advisors. To help explain these strategies, each section is filled with real-life examples from over 200 years of our collective experience, including stories from the following advisors: Jeff Barnett, Tyler Bartlett, Aimee Butler, Paige Lee, and Paresh Kamdar. CLICK HERE to get your copy!

 

Do you need help figuring out if you can afford to spend more and give more? Schedule a time with a Merriman advisor to build your own personalized plan and assessment because we truly enjoy helping others LIVE FULLY in retirement.

 

 

 

Disclosure: All opinions expressed in this article are for general informational purposes and constitute the judgment of the author(s) as of the date of the report. These opinions are subject to change without notice and are not intended to provide specific advice or recommendations for any individual or on any specific security. The material has been gathered from sources believed to be reliable, however Merriman cannot guarantee the accuracy or completeness of such information, and certain information presented here may have been condensed or summarized from its original source.  Merriman does not provide tax, legal or accounting advice, and nothing contained in these materials should be taken as such.

The SVB Bank Collapse and What It Means For You

The SVB Bank Collapse and What It Means For You

by | Mar 15, 2023 | Emergency Savings, Kristi de Grys, Merriman's Take, News, Tech Focus, Wealth Protection

 

The SVB Bank Collapse and What It Means For You

 

On Friday March 10, the world woke up to headlines that Silicon Valley Bank (SVB) had “failed.” Bank failures, though rare, are nothing new and the story roughly plays out the same each time. Runs start with higher-than-anticipated demands for cash that turn into a contagion as depositors become fearful they won’t be able to get their money out and withdraw it, even though they don’t need it right then. The speed at which the SVB collapse happened showed us what a run looks like in an age when information travels almost instantaneously and money can be requested from anywhere via a simple request from a phone.

The Federal Deposit Insurance Corporation (FDIC) was established expressly to prevent the fear that drives bank runs. If depositors are guaranteed they will get their money back, there is no need for panic and small dislocations don’t turn into full-blown explosions with wide-reaching collateral damage. The challenge for SVB and Signature Bank, which was also shut down by government regulators over the weekend, was that the vast majority (up to 97%) of depositors had exceeded limits for FDIC coverage.

SVB was also particularly susceptible due to its concentrated depositor base of startups and small technology companies. In the pandemic, many of them became flush with cash and parked it at SVB. SVB, seeking yield and safety, invested it in longer-dated Treasury bond and other government backed securities. As higher interest rates hit the tech sector and startups particularly hard, companies began withdrawing cash at a faster rate. At the same time, the value of SVB’s longer-dated bonds fell. This pattern had been going on for multiple months until last week when SVB announced the sale of securities at a loss to cover withdrawals. That announcement triggered broad concern and the fear that SVB would not be able to cover the full amount of their deposits. Whether that would have ultimately been true or not remains unclear.

To avoid further panic and contagion risk across the banking system, the FDIC stepped in and took over the bank on Friday, following up with a guarantee to cover all deposits at SVB and Signature Bank, even those above the standard insurance limit. Given the commitment to cover deposits for these two banks, it seems likely they would do so for others. They also extended very attractive loan arrangements that can be used by any bank. Many believe these actions should be more than enough to provide stability.

While the government has stepped in to cover depositors, this intervention is far different than what happened in 2008 when the government also bailed out bond and equity shareholders. With the government takeover, the equity of SVB is worthless as is that of Signature Bank. Thankfully, the ETFs we recommend in our core portfolio had immaterial exposure to these stocks (< 0.1%).  

However, our core portfolio overweighs U.S. small-cap value ETFs that have exposure to many other regional bank stocks which have been hit hard by association. Fear-driven market pullbacks are never fully logical, so one never knows what will happen in the next few days and weeks, but there are good reasons to believe that SVB and Signature Bank were outliers in many respects and that other small and medium-sized banks are in a stronger position.

It is very common in fear-driven market declines for small-cap stocks to suffer greater losses and then rise more quickly during a recovery than the broader market. The COVID crash in March of 2020 was the most recent example of this phenomenon. We believe one reason small-cap value stocks have historically delivered returns higher than the broad market is their greater volatility in times of stress. To be in a position to capture the potentially higher returns and diversification benefit of investing in these stocks, we must stay the course.

Anytime there is stress in the financial markets, it is an opportunity to assess whether we are taking undue risk. Investing is never risk free, but our goal is always to maximize our return for a given amount of risk. There are already some good reminders coming out of the current situation:

  1. Make sure the cash you hold at any given bank is below the FDIC insurance limit. There are plenty of good options to help you do this even for cash balances in the millions. If you, someone you know, or the business you work for is in this situation, please reach out to us and we can help direct you to solid options based on the specific needs.

     

  2. Reassess any concentrations you may have in your wealth. One of the major reasons SVB was susceptible to a bank run was the concentration of its depositor base and the high exposure in its investments to a single risk – rising interest rates. The likelihood of any given company going bankrupt is small, but the consequences can be catastrophic if a significant portion of your wealth and livelihood are tied to a single entity. The power of diversification across all aspects of your current and future wealth should not be underestimated as an effective means of protection.

Financial market stress and the associated volatility can be unnerving. We strive to provide peace of mind by designing our portfolios to keep clients on track to reach their goals through a variety of market conditions.

 

 

 

 

Disclosure: All opinions expressed in this article are for general informational purposes and constitute the judgment of the author(s) as of the date of the report. These opinions are subject to change without notice and are not intended to provide specific advice or recommendations for any individual or on any specific security. The material has been gathered from sources believed to be reliable, however Merriman cannot guarantee the accuracy or completeness of such information, and certain information presented here may have been condensed or summarized from its original source.  Merriman does not provide tax, legal or accounting advice, and nothing contained in these materials should be taken as such.

I’ve Been Laid Off — What Now?

I’ve Been Laid Off — What Now?

by | Feb 13, 2023 | 401k, Advisors, Ask Merriman, Chris Waclawik, Emergency Savings, Frank McLaughlin, Lowell Parker, Risk & Reward, Sarah Kordon, Sierra Butler, Tech Focus, Wealth Protection

 

News headlines everywhere are talking about widespread layoffs, particularly in the technology industry. Thousands of people have lost their jobs with still many more losses predicted in Q1 of 2023. With so many heavy hitters right here in the Pacific Northwest—Microsoft, Google, and Amazon, just to name a few—it’s likely these tech world layoffs affect you or someone you know.  Many of our own clients have expressed concern over their own job security, understandably anxious and full of questions.

 

Of course, the primary concern when facing a layoff is finding a new job, but that can take time. Here are a few things to think about as you adjust to your new normal. Perhaps most importantly, DON’T PANIC!

 

Here are the things that should be first on your list:

  • Give us a call! Your Wealth Advisor is here to help put your financial picture into perspective and to assist with planning to protect your investments. We can help you wade through the pros and cons of everything in this article—decisions regarding your 401(k), insurance, benefits, cash flow, taxes, retirement concerns, and more.
  • Start networking! Reach out to alumni groups, job boards, professional organizations, former colleagues, recruiters, etc.
  • Understand your rights under state law.
  • Review company documents and your severance agreement. There may be some terms of the layoff you can negotiate, like extending healthcare or retaining some company perks.
  • Apply for unemployment benefits.
  • Once you know the details of your severance agreement and unemployment benefits, plan out how to fill the income gap. See below for the pros and cons with some of the different options available.
  • Look at your options for any vested and unvested stock options or RSUs.
  • Review healthcare options. Should you sign up for Cobra, get coverage via a Marketplace plan, or join your spouse’s coverage? A layoff is a triggering event, so these options are all available to you, but there are pros and cons to each that depend on your situation.
  • Review your expenses and cut back if needed.
  • Consider your 401(k) options.

 

 

What are your options for filling the income gap?

 

Spending down your assets – Sarah Kordon, CFP®, CRPS®, Wealth Advisor

Ideally, you have an emergency savings account specifically appointed for a situation like this. If so, this should be the first asset you begin to use to supplement your income. Keep in mind that you will want to rebuild your emergency savings account after you are settled in a new job, so don’t spend frivolously. Revisit your monthly budget and look for ways to cut costs so you can stretch these savings for a longer period and rebuild them quickly when your new income stream picks up.

Spending down assets may also affect your larger financial goals, so before you dip into your savings and investments too heavily, be sure to consider the ramifications. Hopefully shorter-term goals, such as buying a new home or taking a grand vacation, can simply be postponed. Longer-term goals, such as retirement at a certain age, can also be adjusted if needed, but hopefully your emergency cushion is large enough to keep that from being necessary.

If you need to take distributions from investments, we can help you evaluate the tax consequences and understand the impact of such actions on your goals, which may make some tough decisions a little easier and provide you peace of mind.

 

Taking a 401(k) loan or withdrawal – Sierra Butler, CFP®, CSRIC™

When you’ve stopped getting a paycheck, using some of your 401(k) assets through a loan or withdrawal might seem like an attractive choice, but here are some reasons why it should be your last resort.

Most 401(k) plans do not allow new loans after an employee has left the company. If you already have a 401(k) loan, the plan may demand an immediate repayment or a shorter repayment plan. The loan must be repaid before rolling over the balance into a new 401(k) or IRA, which would prevent you from consolidating your accounts and potentially taking advantage of superior investments in a different account.

If you instead take a withdrawal from your 401(k), or if the loan is not repaid, it will be treated as a taxable withdrawal and is subject to ordinary income tax. Additionally, you will incur an early withdrawal penalty of 10% if you are younger than age 55.

One of the biggest risks of a 401(k) loan or withdrawal is missing out on market gains should the investments do well after you take the withdrawal. I caution folks from viewing their retirement accounts as piggy banks for current spending as it can be a quick way to deplete their retirement nest egg.

 

Should I take on gig or contract work? – Frank McLaughlin, CFP®, CSRIC™

This question depends entirely on your financial situation and tradeoff preferences. Assess these by asking yourself questions like:

  • Have I saved up enough cash to weather this period between jobs?
  • Am I able to cut back on certain expenses to allow me to search for a new job without taking on a gig? Is cutting back on expenses worth it, or do I prioritize maintaining a certain lifestyle?

Note: Don’t forget to consider new potential expenses, such as healthcare costs.

  • Do I have another source of income, such as a working spouse who could temporarily pick up the additional burden for a while? Would my significant other be okay with that arrangement?

If you find yourself answering no to more than one of the assessment questions above, taking on a side gig or contract work may be a great option to explore.

 

 

Could there be a silver lining?

 

Consider retiring early, staying home with the kids, or taking a sabbatical – Lowell Parker, CFP®

After a layoff, the most common course of action is to work toward finding a new job. But that isn’t the only path available to you. Burnout is real! Maybe this is your sign to take a break if you can afford to. Can you take this opportunity to retire early or stay home with the kids for a few years? Or perhaps take advantage of the temporary break from work and go on that long trip you’ve been dreaming about, or use the time off to work on a home remodel?

The obvious and large warning for any of these options is that your financial plan must support it. Do you know what these choices would mean for your future lifestyle? This is a major decision to make, and there are many factors to consider. What retirement lifestyle are you dreaming of? Are the assets you have saved enough if you won’t continue to have an income stream from a job? It’s important to revisit your financial plan and make sure you have saved enough to make work optional, whether temporarily or permanently, throughout a variety of potential future market scenarios. If this is something you’re considering, reach out to your Wealth Advisor to see if you can make it happen.

 

Make it work to your advantage at tax time – Chris Waclawik, AFC®, CFP®

After you’ve reviewed your income sources following a layoff and you have an estimate of the tax impact of using these sources for income, you may be able to create a plan to take advantage of the situation.

The “good” news is that a layoff, especially one that happens early in the year, can potentially place you in a lower tax bracket for the year, which opens up some planning opportunities. Here are a few to consider:

First, your health insurance choice may come with tax perks. When being laid off, many employees have the choice of COBRA, to extend current health insurance, or health insurance through the Marketplace. Purchasing coverage through the Marketplace can have subsidies (provided through your tax return) that can reduce the cost of coverage by over $1,000 per month depending on age, income, and the number of family members to cover.

Second, it may be possible to realize long-term capital gains at a 0% rate. This is a great opportunity to diversify out of a concentrated position without incurring a huge tax burden.

Third, finding yourself temporarily in a lower tax bracket can be a good opportunity for Roth conversions. By intentionally moving some investments from an IRA to a Roth account, you may be able to reduce taxes over your lifetime.

While I think everyone agrees layoffs aren’t fun to experience, at least we may be able to take advantage of them to reduce our tax burden for that year and potentially well into the future.

 

If you are experiencing a layoff yourself, remember: Your first step should be to contact your Wealth Advisor. If you’re not already working with one, schedule a meeting today. We can take some of the stress of these decisions off your plate and help you find the silver lining.

 

 

 

 

Disclosure: All opinions expressed in this article are for general informational purposes and constitute the judgment of the author(s) as of the date of the report. These opinions are subject to change without notice and are not intended to provide specific advice or recommendations for any individual or on any specific security. The material has been gathered from sources believed to be reliable, however Merriman cannot guarantee the accuracy or completeness of such information, and certain information presented here may have been condensed or summarized from its original source.  Merriman does not provide tax, legal or accounting advice, and nothing contained in these materials should be taken as such.

What Should I Do With My Old 401k?

What Should I Do With My Old 401k?

by | Feb 10, 2023 | 401k, Ask Merriman, Retirement Savings, Tech Focus, Tyler Bartlett, Wealth Enhancement

 

Whether you are part of a recent layoff or are giving your two weeks’ notice, life can be stressful during a job transition. Moving on can be bittersweet as you gather your personal items and turn over keys, ID badges, or a laptop while saying goodbye to co-workers and friends as you head into the next chapter of your life.

 

If you have been recently laid off, life is probably a bit more stressful as you may not have the next job already lined up. You may be fearful and anxious as many major employers, particularly in the tech industry, are currently announcing planned layoffs and/or are in a hiring freeze. However, this may be an opportunity to take a long overdue vacation or a brief sabbatical—or even try your hand at something new.

 

Whether you chose to make this change or it was forced upon you, this is a busy and often confusing time as you transition between jobs. It may be tempting to delay (and even easier to completely overlook) one of the most important decisions about your financial life: what should you do with your old 401(k)?

 

When it comes to changing jobs and what to do with your old 401(k) account, you have many options available to you.

 

One option is to maintain the status quo and leave the account with the old employer (if plan rules allow you to do so). However, you should avoid leaving a trail of “orphaned” 401(k) accounts in the wake of your professional career. Having orphaned accounts can limit your ability to stay present within those investments and make administrative updates.

 

You could also cash out the balance, which typically would not be recommended unless your financial circumstances make it an attractive option. Cashing out a 401(k) plan triggers a taxable event and potentially causes you to have to pay penalties for early withdrawal.

 

Alternatively, you could roll the old 401(k) balance into a traditional IRA, enjoy a greater range of investment options, and potentially save on fees. If you go this route, you will need to make important decisions about what kind of account to open, how hands-on you want to be, and which brokerage firm will handle your account.

 

You might also consider rolling the old 401(k) into your new 401(k) plan if that is allowed per the plan rules.

 

We will now explore each option in more detail and look at additional reasons you might consider one option over another given your specific situation and desired outcome.

 

Option 1: Do nothing

Given all that is going on now, you may not feel like you have a lot of time or energy to do anything with your old 401(k). At a minimum, you will want to look at your plan to compare the investment options available to you, along with the associated fees. You may choose to leave everything in your old plan if you have a good selection of low cost investment options that span all the major asset classes like US Large Cap Stocks, US Value Stocks, US Small Cap Stocks, Real Estate, International Large Cap Stocks, International Value Stocks, International Small Cap Stocks, Emerging Markets, High Quality Short-term Bonds, High Quality Intermediate-term Bonds, and Treasury Inflation Protected Securities.

 

Some plans may even have access to asset classes that are not available in your new 401(k) or a Rollover IRA. For example, Boeing has access to a Stable Value Fund, TIAA has access to a unique private real estate portfolio, and Amazon has access to a lower cost Vanguard Institutional Index fund.

 

If you are between 55 and 59 and are planning to take a sabbatical or retire, you may want to review the details of your former 401(k) plan, as you might be able to access the funds penalty free.

 

Most employer-sponsored retirement plans, such as a 401(k), qualify under the Employee Retirement Income Security Act (ERISA) and are generally protected from creditors, bankruptcy proceedings, and civil lawsuits. Depending on the state in which you live, an IRA or other non-ERISA plan may, or may not, be protected from creditors. If you are at risk of creditors pursuing you, you will want to seek out legal counsel from an attorney who understands the nuances of your state, as the laws can be quite complex.

 

If your former employer was a publicly traded company and you own company stock in your old 401(k) plan, you have another item to consider. The net unrealized appreciation (NUA) of your company stock is the difference between your cost basis (or what you paid for the stock) and its current market value. Under the current NUA rules, employees can roll over the portion of their 401(k) invested in company stock to a brokerage account (not a retirement account) and pay tax at long-term capital gains tax rates rather than ordinary income rates when the shares are sold. It does not always make sense to use this strategy or to keep employer stock in your retirement plan. You will need to carefully weigh the pros and cons.

 

Inertia may seem like the easy choice. However, you might be surprised to find out that doing nothing may still require work on your part.

 

Remembering your old 401(k) account looks easy enough when you have just changed jobs. But if this is your default solution every time you change jobs, then you may be leaving a slew of orphaned 401(k) accounts in several companies over your career. A decade or two later, it may be difficult to remember where those accounts are—or that they even exist.

 

You will also need to monitor any changes to the investment lineup and cost structure within the old plan. It is important to note that employer-sponsored retirement plans like a 401(k) are not governed by your will or trust, and you will need to update your beneficiaries in the event of a marriage, divorce, or other major life events to ensure your 401(k) is inherited by the individual(s) you desire.

 

Finally, you will want to take a deeper dive beyond the basic fees for the investments within your 401(k) to consider how much it will cost you to keep your funds where they are. Most 401(k) plans have three basic types of fees: administrative, individual, and investment fees. The investment fee is how much it costs to invest in a fund. If your old plan doesn’t offer index funds, you’ll almost certainly pay higher investment fees. The administrative fee covers various costs of running the plan. These include costs like statement processing fees, web hosting fees, and customer service fees. In some cases, there may be “hidden” fees, such as wrap fees or revenue sharing arrangements. The individual fees, such as withdrawal fees or loan processing fees, apply to special plan features that a participant may opt to use.

 

Most investment accounts have fees associated with them. Your task is to make sure that you are getting a fair level of investment management service in exchange for the fees that you pay. Some 401(k) plans are more competitively priced than others, so you will need to review the details of your situation and a few alternatives before you can make a smart choice.

 

Possible Advantages:

  • Doesn’t require any effort or time at the moment
  • Retirement savings continue to grow tax-deferred
  • Might have unique or lower cost investment options
  • Potential for penalty-free withdrawals after age 55
  • Enhanced protection from creditors
  • Might have special tax treatment for company stock

 

Possible Disadvantages:

  • Must stay engaged with any changes within the plan
  • Lack of full transparency for all fees
  • Limited investment options
  • Remember to update beneficiaries
  • Multiple sites to log into and statements to organize
Option 2: Cash out

Let’s start with a small bit of good news. The most obvious (and possibly the only) benefit of taking a full distribution from your old 401(k) plan is getting your money immediately. If you are in dire financial straits with no other options, this may be something to consider. However, that distribution will come with a price tag.

 

If your account holds pre-tax money, the IRS is going to treat the distribution as taxable income to you. You will potentially owe federal and state income tax on your distribution. Keep in mind that depending on your taxable income in relationship to tax income brackets, a cash-out distribution may push you into a higher tax bracket, which means that a portion of your income for the year will be taxed at a higher rate.

 

If paying income taxes on your distribution isn’t punishment enough, in most cases you may also have to pay a 10% early withdrawal penalty if you are under age 59 ½. Unless you have specific plans for how you will use this money, remember that you will receive less than the total account balance after accounting for income taxes and penalties. There are a few exceptions that may allow you to avoid the 10% early withdrawal penalty.

 

If you change your mind about the cash out, you have 60 days to deposit the distribution into another qualified plan or a traditional IRA. This is called an “indirect rollover.” Within 60 days, you will need to deposit the cash you received plus any taxes that were withheld into a qualified retirement account. You are only allowed to do an indirect rollover once every rolling 12 months.

 

Possible Advantages:

  • Might need the cash if you’re facing extraordinary financial needs
  • Potential for penalty-free withdrawals after age 55

 

Possible Disadvantages:

  • Subject to federal tax and a 10% early withdrawal penalty
  • Your money is no longer growing tax-deferred
  • Might severely impact your ability to retire
Option 3: Direct rollover to an IRA

If you don’t want to cash out and potentially face a tax bill, but you also don’t like the thought of being tethered to your former company, one option is to do a direct rollover from your old 401(k) to a traditional IRA.

 

IRAs generally offer far more investment options than a typical 401(k) plan. With an IRA, you may get access to many more mutual funds than you would have in a 401(k) plan. You may also invest in individual stocks and bonds, exchange-traded funds (ETFs), and certificates of deposit (CDs). Depending on your investment preferences and goals, that degree of flexibility can potentially make a difference.

 

As you look at IRA fees, keep in mind that some custodians have asset-based fees (meaning you pay a percentage of the amount of money in your IRA), while other custodians have transaction-based fees, which you incur each time you buy or sell investments. Some investment options may have no additional trading or transaction fees. Be sure to read the fine print and estimate what a typical annual fee on an account with your size and activity would look like.

 

In general, assets in your IRA have some protection if you file for bankruptcy, but they are not necessarily protected from creditors. Whether or not your IRA offers creditor protection depends on your state of residence. Research your residency state for more details and seek out legal counsel from an attorney who understands the nuances of your state, as the laws can be quite complex.

 

Possible Advantages:

  • Retirement savings continue to grow tax-deferred
  • Wider range of investment options available
  • Consolidation of retirement plans
  • Greater control and visibility of the fees you are paying
  • Possibly lower expenses than your 401(k)

 

Possible Disadvantages:

  • Possibly higher expenses than your 401(k)
  • May lose special tax benefits on company stock
Option 4: Direct rollover to your new 401(k)

If your new employer offers a 401(k) plan that accepts direct rollovers from other 401(k) plans, you may opt to take this route. But be sure to ask the question first, as not all plans accept rollovers.

 

The main benefit of choosing this option is less administrative hassle for you. All your employer-sponsored retirement plan assets will be in a single account. That means less paperwork, fewer statements, fewer passwords, and fewer investment options to align. It will also make it easier to maintain proper beneficiaries.

 

The option to roll your old 401(k) into your new 401(k) gives you the benefit of simplicity. Instead of updating investments or risk preferences in multiple accounts, you can do it in one account.

 

However, that only works if you are satisfied with your investment choices. Research whether your new 401(k) offers investment options that you find attractive. Many employers offer excellent choices inside their 401(k) plans while others do not. Perhaps you want the ease and low cost of investing in index funds but your new plan only offers mutual funds that are run by a portfolio manager. Or maybe you find the plan rules to be too restrictive for your liking.

 

Possible Advantages:

  • Retirement savings continue to grow tax-deferred
  • Consolidation of retirement plans
  • Might have unique or lower cost investment options
  • Potential for penalty-free withdrawals after age 55
  • Enhanced protection from creditors
  • Might be able to borrow against the new plan

 

Possible Disadvantages:

  • Must stay engaged with any changes within the plan
  • Lack of full transparency for all fees
  • Limited investment options

 

There is no one-size-fits-all path for what to do with your old 401(k). Choose what best fits your financial goals and resources. Your decision should also account for how hands-on (or hands-off) you wish to be in your investing, how much time you are willing to dedicate to reviewing your accounts and making course-correcting decisions, along with researching the investment vehicles that are available in each plan or account.

 

At the end of the day, any of these options may be right for you. What’s most important is that you make a strategic choice about what to do—and that you complete the rollover correctly to avoid unnecessary taxes.

 

If you have additional questions or if you would like help with keeping your retirement savings on track through your job and life changes, reach out and schedule some time with one of our advisors today!

 

 

 

 

Disclosure: All opinions expressed in this article are for general informational purposes and constitute the judgment of the author(s) as of the date of the report. These opinions are subject to change without notice and are not intended to provide specific advice or recommendations for any individual or on any specific security. The material has been gathered from sources believed to be reliable, however Merriman cannot guarantee the accuracy or completeness of such information, and certain information presented here may have been condensed or summarized from its original source.  Merriman does not provide tax, legal or accounting advice, and nothing contained in these materials should be taken as such. To determine which investments may be appropriate for you, consult your financial advisor prior to investing. As always please remember investing involves risk and possible loss of principal capital and past performance does not guarantee future returns; please seek advice from a licensed professional.

Medicare Income-Related Monthly Adjustment Amount (IRMAA) Surcharge – What Does It Mean, What Can I Do, and How?

Medicare Income-Related Monthly Adjustment Amount (IRMAA) Surcharge – What Does It Mean, What Can I Do, and How?

by | Jan 24, 2023 | Healthcare, Jeff Barnett, Michelle Lach, Preparing for Retirement, Wealth Preservation

 

 

Co-written with Jeffrey Barnett

 

The first question on many retirees’ minds is how to pay for expensive healthcare costs and health insurance when you’re no longer covered by the employer plan you relied on throughout your career. Medicare is the U.S. government’s answer for supporting healthcare costs throughout retirement. While you might have already enrolled in Medicare or are at least looking forward to beginning benefits at age 65, you may not know how Medicare premiums work. Let’s explore Medicare premiums and an important potential speedbump known as IRMAA.

 

What Is IRMAA?

 

To provide some background, approximately 75% of the costs of Medicare Part B (Medical Insurance) and Part D (Prescription Drug) are paid directly from the General Revenue of the Federal Government, with the remaining 25% covered through monthly premiums paid by Medicare enrollees. If you receive Social Security or Railroad Retirement Board benefits, your Medicare Part B premiums are typically deducted automatically from your monthly benefits. For those who don’t receive these benefits, you’ll receive a bill to pay your premiums instead. Medicare premiums increase as your income grows through Income-Related Monthly Adjustment Amount (IRMAA), which is an additional surcharge for higher income individuals on top of the 2021 Medicare Part B baseline premium of $148.50.

 

Medicare premiums and any surcharges are based on your filing status and Modified Adjusted Gross Income (MAGI) with a two-year lookback (or three years if you haven’t filed taxes more recently). That means your 2021 premiums and IRMAA determinations are calculated based on MAGI from your 2019 federal tax return. MAGI is calculated as Adjusted Gross Income (line 11 of IRS Form 1040) plus tax-exempt interest income (line 2a of IRS Form 1040). The table below details the base premium amount you’ll pay for Medicare in 2021 depending on your MAGI and filing status, inclusive of any additional IRMAA surcharge.

 

 

 

Fortunately, the Social Security Administration (SSA) tracks these numbers for you and uses MAGI data from the IRS. For every year that they determine IRMAA applies to you, you’ll receive a pre-determination notice explaining what information was used to make the determination and what to do if individuals feel the finding is incorrect, like due to a life-changing event as defined by the SSA. After 20 or more days, the SSA sends another notice with additional information regarding your appeals rights. For the instances you feel an incorrect determination was made, you can request a “New Initial Determination.”

 

Am I Eligible to Request a New Initial Determination?

There are five qualifying circumstances where an individual may be eligible to request a “New Initial Determination.” They are:

  1. An amended tax return since original filing
  2. Correction of IRS information
  3. Use of two-year-old tax return when SSA used IRS information from three years prior
  4. Change in living arrangement from when you last filed taxes (e.g., filing status is now “married filing separately” but you previously filed jointly)
  5. Qualified life-changing event(s)

 

According to the SSA, a Life-Changing Event (LCE) can be one or more of the following eight events:

  • Death of spouse
  • Marriage
  • Divorce or annulment
  • Work reduction
  • Work stoppage
  • Loss of income-producing property
  • Loss of employer pension
  • Receipt of settlement payment from a current or former employer

 

A common scenario we often see is with new retirees age 65 or over where income is much lower in retirement than it was two years ago, but the SSA determines that the IRMAA surcharge should be applied to your premium costs given the lookback period. Fortunately, an exception can be requested under the “work stoppage” LCE, and we can help you navigate that process. Luckily, this is typically irrelevant after the first or second year of retirement since post-retirement income is often significantly reduced and naturally falls below the IRMAA threshold. Another common scenario for retirees is having portfolio income that pushes you above the IRMAA tiers. However, it’s important to point out that portfolio income from things like capital gains or Roth conversions are not allowable exceptions to request for the IRMAA surcharge in a high-income year.

 

If you don’t qualify to request a new initial determination based on the 5 qualifying circumstances noted above, you also have the right to more formally appeal the determination, which is also known as requesting a reconsideration.

 

 

Requesting a New Determination

 

If any of the above life-changing events apply, individuals are likely eligible to request a new initial determination by calling their local Social Security office or, alternatively, completing and submitting this form for reconsideration along with appropriate documentation. We highly recommend calling the Social Security hotline at 800-772-1213 to discuss if more than one LCE applies to you, if you have questions about why IRMAA applies to you, or if you have questions about requesting a reconsideration.

 

We know that Medicare can be tricky and that this only scratches the surface, so we also encourage you to contact us if you have any questions. We regularly serve as a resource for questions around enrolling for Medicare along with many of the other factors involved in planning for retirement, and we are happy to help you as those questions move to the forefront.

 

Sources:
Income Thresholds:  https://www.medicare.gov/your-medicare-costs/part-b-costs

Life-Changing Event: https://www.ssa.gov/OP_Home/handbook/handbook.25/handbook-2507.html

Determination Notices: https://secure.ssa.gov/poms.nsf/lnx/0601101035

 

Disclosure: All opinions expressed in this article are for general informational purposes and constitute the judgment of the author(s) as of the date of the report. These opinions are subject to change without notice and are not intended to provide specific advice or recommendations for any individual or on any specific security. The material has been gathered from sources believed to be reliable, however Merriman cannot guarantee the accuracy or completeness of such information, and certain information presented here may have been condensed or summarized from its original source.  Merriman does not provide tax, legal or accounting advice, and nothing contained in these materials should be taken as such. To determine which investments may be appropriate for you, consult your financial advisor prior to investing. As always please remember investing involves risk and possible loss of principal capital and past performance does not guarantee future returns; please seek advice from a licensed professional.