Financial Newsletter 2.23 - Armstrong Advisory Group

The Taxes Are Coming

Mid-February is the toughest part of the winter to get through. It’s been a month since the holidays. The Super Bowl leaves you feeling full, bloated, and wishing there weren’t another month until the start of the March Madness and even longer until the NHL and NBA playoffs. The snow on the ground is covered in sludge from cars driving past it.

But, it’s almost tax time!

February is a great time to get all your documents together for filing your taxes. That means you need to be looking for the following documents:

W-2s if you are still working as an employee
1099-NECs if you are working as an independent contractor
1099-Rs if you have made withdrawals from your retirement accounts in 2020
1098s if you have one or more mortgages or home equity lines of credit outstanding
1099-Gs if you have any government payments such as unemployment compensation or state tax refunds
1099-Ks if you sold any goods through a merchant online such as eBay, Etsy, or Stubhub
1099-INTs from interest-bearing accounts
1099-DIVs from accounts with dividend income
K-1s from any partnerships you are a part of

These are just a sampling of the tax documents you may need to start getting together. In general, most documents are typically available by the end of February, but some K-1s may take longer to push out because of the filing requirements of the partnership, so those are often not ready until March in many cases. Take a look at your return from last year and the documents you filed for a guide as to what you should be looking for in the mail this year, and be sure to account for any new accounts or changes that may have occurred. For example, if you refinanced a mortgage last year, you may receive two Form 1098s, one for the old mortgage and one for the new one that you refinanced into. Likewise, if you changed investment accounts, make sure you note that you may have two sets of 1099s as well. As always, make sure you consult a tax professional to ensure you have all the forms you need to file, and remember that the above list is just some of the most common forms that people receive, not a comprehensive list of every possible tax form.

Guardians of the Galaxy

It’s pretty much the worst scenario imaginable – you have children, and through some calamity, both you and your spouse pass while they are still minors. No one wants to think about it, and no one wants to talk about it. To be honest, it’s incredibly unlikely to happen to you. But unlikely does not mean impossible, and that means that regardless of how uncomfortable the thought makes you, failing to plan for it may create major problems.

Guardianships are the solution to the question of what happens to your children if you predecease them while they are minors. Guardianships are typically designed as part of a last will, though they could be a separate document as well. A guardianship is a specific legal relationship in which an adult has the ability to make decisions on behalf of a child who is not their own. It differs from an adoption in that the child is not necessarily legally becoming part of a new family, but it allows for that adult or multiple adults to exercise authority over children who are not their own.

Guardianships typically last until a child reaches the age of majority, typically 18 years old in most states. Establishing guardianships while you are alive may help prevent several uncomfortable situations in the event of you and your spouse passing. First, it prevents situations in which multiple parties may be in conflict regarding who has the authority to make decisions for the children. Second, it also provides guidance for situations in which no one wants the authority to take care of the children. Lastly, it can also help to spell out how your remaining finances may be used to help your children in the event of your passing. Guardianships are uncomfortable to think about, but failing to deal with that discomfort while you are alive could result in far greater discomfort to your children and remaining family if you pass while they are still children. Please contact an estate planning professional if you are interested in learning more about guardianships.

Is Your 401(k) Contribution OK?

Many people receive a raise at or around the start of a new year. With this in mind, this additional income may be a way to kick-start your retirement savings by directing it towards your retirement account, rather than by spending it. Here are the updated contribution limits for various retirement accounts in 2023:

401(k), 403(b), and 457 plan: $22,500, with a bonus $7,500 catch-up contribution for participants 50 and older.
IRA and Roth IRA: $6,500, with a bonus $1,000 catch-up for participants 50 and older
SIMPLE IRA: $15,500, with a bonus $3,500 catch-up for participants 50 and older
SEP IRA and Solo 401(k) plans: $66,000, with the compensation limit in the savings calculation raised to $330,000
Defined Benefit Plans: $265,000

In addition to the changes in contribution limits, there are also new income limits for deductible contributions on traditional IRAs in which you or a spouse are covered by a workplace retirement plan, and also on any direct contributions to a Roth IRA:

Deductible IRA Phase-Outs Covered by Workplace Plan: Fully deductible for singles and heads of household under $73,000 in modified adjusted gross income (MAGI), with deduction phasing out completely by MAGI of $83,000. For those who are married filing jointly, the phase-out range runs from $116,000 to $136,000.
Deductible IRA Phase-Outs with Spouse Covered by Workplace Plan: Fully deductible for AGI below $218,000; deduction phases out full at $228,000.
Roth IRA Phase-Outs: For singles and heads out household, the phase-out runs from $138,000 to $153,000. For those who are married and file jointly, the phase-out runs from $218,000 to $228,000. If you do fall above these limits, you may be able to make non-deductible contributions to a traditional IRA, and then go through a Roth IRA conversion to complete a “backdoor Roth” contribution. This is a complex procedure, and you should consult a tax professional before attempting to execute a “backdoor Roth” contribution.

What Time is the Right Time for Roth IRA Withdrawals?

No catchy title for this section, we just want to answer what is one of the most-misunderstood retirement accounts when it comes to actually utilizing it. The Roth IRA can be a fantastic tool for some families to save for retirement. If you aren’t familiar with how a Roth IRA works, the premise is simple. You put money into the Roth IRA. You receive no tax deduction for doing so in the year you make the contribution, but the proceeds grow tax-free for the rest of your life. Once five years from the initial deposit into a Roth IRA has elapsed, the earnings and principal can be withdrawn with no taxes and no penalties after age 59.5. The idea is that you are effectively pre-paying your taxes on the money you put into a Roth IRA, and then after age 59.5, you have no tax burden if you want to withdraw the funds.

We meet with a lot of families each year, and many of them often look at the Roth IRA as the last place they want to withdraw money from. Often, they’ll say either “That’s my tax-free money so I want to let it grow as long as possible,” or “I want to save it for later in case tax rates go up.” There isn’t anything inherently wrong in either of those statements. Both are logically-sound, and both have real-world cases for being accurate. But here’s the rub.

Since none of us know when we’re going to die, the danger of waiting too long to use funds from a Roth IRA is that you end up pre-paying your taxes while you earned that money, but if you never withdraw it during your lifetime, you never get to experience the joy of pulling the money out of there and owing absolutely no tax to the government. Trust us, it’s a great feeling.

Because of this, we typically advise many families to start making withdrawals from their Roth IRAs for big expenses in their early 70s. Yes, it’s true that if you live to 90, you may regret pulling your money out of your Roth IRA for a new car at age 74. But the counterpoint to that is that if something unexpected happens and you pass at age 82 prior to pulling money out of your Roth IRAs, now you’ve paid all that tax during your lifetime, and you didn’t receive any tangible benefit for it. A major component of financial planning is risk management, and one of the risks of waiting to take money out of a Roth IRA is that you may pass away before you’re able to do so. As such, we think it’s prudent for many families to start exploring these distributions in their early 70s if they have big expenses such as a new car, home renovations, or other projects where additional income is needed above and beyond Social Security payments, pension distributions, and other financial account withdrawals. There is no one-size-fits-all solution here, but we simply see too many cases of families waiting too long to withdraw money from Roth IRAs when they have clear spending needs, and so this is a big item that we think many families could use a different line of thought on.

New Year, New Plan

As we are still kicking off 2023, the start of the year is a great time to review your financial plan to make sure it is up to date with all of your life changes from the past year. Have you moved? Do you need to update beneficiaries on your accounts? Are you going to be taking an RMD for the first time this year? Are you retiring?

There is a long list of potential life changes, but many of them require you to examine your financial and estate plans to make sure that you are still on track to accomplish your goals, and that the volatility of 2022 didn’t throw you off course. Financial plans are living documents, not just something you write down once and then put in a drawer for safekeeping. You have to make sure you are keeping your plan current with the changes in your life, otherwise you risk deviating from the path. But the risk isn’t just to the downside. There are plenty of situations where a person’s financial situation changes for the better, and by not examining their plan, they may miss out on financial choices that are now available to them. Maybe they end up working longer than they need to. Maybe they don’t gift as much as they could to their children. Maybe they don’t get to take a month out of the New England weather an escape somewhere warmer each year.

At the start of every year, make it a habit to sit down and review your financial plan to see how things may have changed in the prior twelve months. If you want a second set of eyes on your plan to see if there are different financial choices you should be considering, click here to schedule a time to speak with a member of our team.

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The opinions and forecasts expressed are those of the author, and may not actually come to pass. This information is subject to change at any time, based on market and other conditions and should not be construed as a recommendation of any specific security or investment plan. Past performance does not guarantee future results.

Armstrong Advisory Group, Inc. does not offer tax or legal advice and no portion of this communication should be interpreted as legal or accounting advice. You are strongly encouraged to seek advice from qualified tax and/or legal experts regarding any tax or legal matters relevant to you.

ARMSTRONG ADVISORY GROUP, INC. – SEC REGISTERED INVESTMENT ADVISER
The information contained herein, including any expression of opinion, has been obtained from or is based upon, sources believed to be reliable, but is not guaranteed as to accuracy or completeness. This is not intended to be an offer to buy, sell or hold or a solicitation of an offer to buy, hold or sell the securities, if any referred to herein.

All investments involve the risk of potential investment losses. An investor cannot invest directly in an index. Diversification seeks to reduce the volatility of a portfolio by investing in a variety of asset classes. Neither asset allocation nor diversification guarantees against market loss or greater or more consistent returns. Bonds are subject to interest rate risk and if sold or redeemed prior to maturity, may be subject to additional gain or loss. Armstrong Advisory does not provide any tax or legal advice; please consult with your tax and legal advisers on such matters.