This, of course, puts the advisor and tax planner in a position of explaining to clients why they should pay more taxes than they actually have to this year, said Slott. Most clients should understand that taxes are likely to go up in the future.
Beyond the statutory sunset of some tax provisions in 2025, Slott said that income tax rates have been for several years at historic lows while federal and state budget deficits and the national debt have been at elevated levels. As interest rates rise, tax receipts will also have to rise to account for the debt, which means Congress will likely look to increase tax rates and eliminate deductions.
Sweet Spot
Most clients and investors should start converting money from their tax-deferred accounts starting at age 59 and a half to avoid a 10% tax penalty for withdrawals at younger ages. The sweet spot for Roth IRA conversions is between 59 and a half and age 72, when the account holder will be subject to required minimum distributions from the account.
In an RMD, federal tax law dictates the minimum amount taken out of a tax-deferred account and subjected to income taxes, said Slott. Before age 72, investors can control how much taxes are paid through voluntary distributions. After age 72, some clients may want to take distributions that exceed their RMD just to lock in the historically low tax rates.
“You don’t want the risk of what future taxes can do to your saving and spending ability,” said Slott. “If you are in your 60s, start planning voluntary withdrawals from your IRA if you can get money out at the lowest rate. It’s counter-intuitive, and that’s why most people don’t do it. Pay taxes now, if you can get money out while rates are low, take it out of an IRA. Use the large, big brackets and low rates to get it out in a Roth conversion. Once you hit 72, it’s out of your control and you’re on the government plan that says ‘you’re 72 and we’ll force you to take the money out.’”