Use an in-kind transfer for your IRA distributions to save thousands on taxes
Taxes on your IRA distributions can be a pain, especially when you don’t really need the money and when they force you into a higher income tax bracket. If you’ve reached the age of 70 ½, you might not have a choice and have to withdraw an annual Required Minimum Distribution (RMD).
RMDs are basically just a way for the government to get its money sooner rather than later. Designed to keep people from being able to enjoy the benefits of tax-deferred savings, your annual RMD can easily be in the tens of thousands of dollars. Taxes are high enough and likely going to rise for high net worth individuals, seems the government is intent on adding insult to injury.
But there is one way to beat the tax man and use your IRA distributions to save on taxes.
Using an In-Kind Transfer to Save on Taxes
The actual calculation for your RMD involves your age, account value and other factors but it’s generally at least 4% of your IRA value. That means a required withdrawal of at least $40,000 on a million-dollar portfolio and $12,000 in income taxes at the 30% bracket.
Let’s start with an example to see how you can save thousands in taxes with an IRA distribution strategy.
Example, you have a specific investment in your IRA that has been hit lately and is only worth $50,000 though you believe it will rise to $75,000 over a matter of time. Common thinking would be to keep the investment until it reaches $75,000 before you sell and withdraw it from the account. You would benefit from the rebounding investment value but would pay $22,500 on income taxes at a 30% tax rate.
What if I could show you a way to save $3,750 in taxes from the above scenario?
Instead of keeping the investment in your retirement account, potentially having to sell other investments to meet your required minimum distribution, perform an in-kind transfer of the assets.
If you are just going to reinvest the assets, you want to withdraw assets from your IRA that have the lowest gains or the most potential for increase. These assets are going to be withdrawn as an in-kind transfer into a taxable investment portfolio.
You are moving the stock certificates or investments directly from your IRA custodian into your taxable investment account. You will still have to pay income taxes on the amount withdrawn as your RMD but taking the investments out when there is still strong value in them will save you money compared to leaving them in the account and being taxed when the investment returns to a higher value.
With the investments in a taxable portfolio account, you’ll only pay taxes on the capital gains when you go to sell the investment and withdraw the money.
Using the example above, your new cost basis for the investment that you withdrew as the RMD is now $50,000 in your taxable account. If the investment value increases to $75,000 then you’ll only own $3,750 in capital gains taxes at the 15% rate. Your total taxes in this scenario would be $18,750 as opposed to $22,500 in the scenario above, a savings of $3,750 in taxes!
Don’t let the conventional wisdom of buy low, sell high cost you thousands in taxes. Use your IRA distributions to save on taxes by transferring lower value assets into your taxable portfolio, shifting your taxes to capital gains rather than income taxes.