Should I Leave Traditional IRA to Grandkids?

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thebigad
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Should I Leave Traditional IRA to Grandkids?

Post by thebigad »

This is from my mom (not me):

I have between $600-700,000 in deductible traditional IRA balance. I'm not convinced that I should convert them to a ROTH IRA. I am retired and have sufficient income. I don't like the thought of paying tax in the highest tax bracket by converting to a ROTH IRA all at once. And I don't see the point much in doing a phased conversion and all the awful pro-rating calculations I have to do each year at tax time. Plus, it would take a long time if I want to try and not trigger the next tax bracket each year.

One thought is that I will start taking RMDs (roughly $30k) in a few years. I'll pay the tax on it at that time, I guess. So, if I have to pay tax on it anyway, should I go ahead and start converting the same amount (roughly $30k) to a ROTH IRA each year. At least that way the converted amount will continue to grow tax free. Thoughts?

Another question - Should I leave my traditional IRA to my grandkids? Would that mean, given their longer life expectancy, that their RMDs would be much smaller and therefore taxed in a smaller amount and perhaps taxed at a child income rate?
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Watty
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Re: Should I Leave Traditional IRA to Grandkids?

Post by Watty »

thebigad wrote: Sat May 26, 2018 4:52 pm And I don't see the point much in doing a phased conversion and all the awful pro-rating calculations I have to do each year at tax time. Plus, it would take a long time if I want to try and not trigger the next tax bracket each year.
I would assume that she has some post tax contributions that might complicate the calculations. If so then I don't see how that would be any more complicated than the math that will need to be done on the RMD. If she does not feel comfortable with that then she might want to have a professional do her taxes.

If that is not the case then there may be some misunderstanding about how the math works.
thebigad wrote: Sat May 26, 2018 4:52 pm One thought is that I will start taking RMDs (roughly $30k) in a few years. I'll pay the tax on it at that time, I guess. So, if I have to pay tax on it anyway, should I go ahead and start converting the same amount (roughly $30k) to a ROTH IRA each year. At least that way the converted amount will continue to grow tax free. Thoughts?
Any conversion would have to be done in addition to the RMD. If she wanted to do a $30K conversion and she had a $30K RMD then combined there would be $60K in taxes to figure out.
thebigad wrote: Sat May 26, 2018 4:52 pm Another question - Should I leave my traditional IRA to my grandkids? Would that mean, given their longer life expectancy, that their RMDs would be much smaller and therefore taxed in a smaller amount and perhaps taxed at a child income rate?
That is really an "it depends" question. In some situation if you left the IRA to your kid they could spend it down early in their retirement and save their nestegg for when they are older. When they eventually die their nestegg would be larger and the grandkids could inherit it then.

What is best can vary a lot with all the details and many things like future tax rates are unknowable.

One potential problem with leaving it to your grandkids is that there may be grandkids that are born after you die and they may not get anything, which may not be what you want.
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thebigad
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Re: Should I Leave Traditional IRA to Grandkids?

Post by thebigad »

Watty wrote: Sat May 26, 2018 5:12 pm
thebigad wrote: Sat May 26, 2018 4:52 pm And I don't see the point much in doing a phased conversion and all the awful pro-rating calculations I have to do each year at tax time. Plus, it would take a long time if I want to try and not trigger the next tax bracket each year.
I would assume that she has some post tax contributions that might complicate the calculations. If so then I don't see how that would be any more complicated than the math that will need to be done on the RMD. If she does not feel comfortable with that then she might want to have a professional do her taxes.

If that is not the case then there may be some misunderstanding about how the math works.
thebigad wrote: Sat May 26, 2018 4:52 pm One thought is that I will start taking RMDs (roughly $30k) in a few years. I'll pay the tax on it at that time, I guess. So, if I have to pay tax on it anyway, should I go ahead and start converting the same amount (roughly $30k) to a ROTH IRA each year. At least that way the converted amount will continue to grow tax free. Thoughts?
Any conversion would have to be done in addition to the RMD. If she wanted to do a $30K conversion and she had a $30K RMD then combined there would be $60K in taxes to figure out.
thebigad wrote: Sat May 26, 2018 4:52 pm Another question - Should I leave my traditional IRA to my grandkids? Would that mean, given their longer life expectancy, that their RMDs would be much smaller and therefore taxed in a smaller amount and perhaps taxed at a child income rate?
That is really an "it depends" question. In some situation if you left the IRA to your kid they could spend it down early in their retirement and save their nestegg for when they are older. When they eventually die their nestegg would be larger and the grandkids could inherit it then.

What is best can vary a lot with all the details and many things like future tax rates are unknowable.

One potential problem with leaving it to your grandkids is that there may be grandkids that are born after you die and they may not get anything, which may not be what you want.
Thanks. For the first point, you are right. There are a few non-deductible contributions. And so the math would be the same at RMD time.

To clarify, she thought to start converting 30k each year to a ROTH until she has to start doing RMDs. Once that starts, she would stop converting. Is that of any benefit?

She just does not see being in a higher tax bracket at RMD time. So, thinks why convert it in bulk now. And if she leaves the IRA to grandkids, they would pay lower tax we suppose.

Thoughts?
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patrick013
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Re: Should I Leave Traditional IRA to Grandkids?

Post by patrick013 »

after-tax amounts ? ......roll the after-tax amounts to a Roth IRA as a
tax-free conversion. This strategy alleviates the blending of the before-tax
and after-tax amounts in your Traditional IRAs and negates the need for the
pro-rata calculation. At least those would be converted and future pro-rata
calc's not needed. At least double check with your tax preparer.

Otherwise, the remaining tIRA balance could be converted without pro-rata
calc's over several or more years avoiding the higher tax bracket, trying to
stay in the same or lower tax bracket. Looks doable.
age in bonds, buy-and-hold, 10 year business cycle
Topic Author
thebigad
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Re: Should I Leave Traditional IRA to Grandkids?

Post by thebigad »

Very little non-deductible traditional IRA contribution. And I don't think you can pick and choose to convert only such non-deductible amount.
randomguy
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Re: Should I Leave Traditional IRA to Grandkids?

Post by randomguy »

thebigad wrote: Sat May 26, 2018 4:52 pm
Another question - Should I leave my traditional IRA to my grandkids? Would that mean, given their longer life expectancy, that their RMDs would be much smaller and therefore taxed in a smaller amount and perhaps taxed at a child income rate?
The kiddie tax means a lot of the income will be taxed at the parents rate. And then when the the kid can file on their own, you are hitting their prime working years. If it is a win or not depends on what the tax between the various parties turns out to be. It is easy to think of your 5 year old grand kid as a low earner. When you die in 25 years, he could be finishing residency or just passing the bar:) The other thing is you will be paying RMDs along the way. If you live to 95 a good chunk of the tIRA will have been taken out with RMDs.

It seems to me that you will have to do those prorated calculations for RMDs anyway so you really aren't making life easier. Might as well get some practice doing them now. And if you don't want to do the math, do you really want to inflict them on your kids/grandkids?:)

Without knowing your whole situation, it is hard to give exact advice but if you are going to be paying the same tax rate on a RMD in a couple years as you would on a ROTH conversion now, in general doing the ROTH makes a lot of sense. It lets you keep more money in tax deferred going forward while the RMDs leave that money in taxable.
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Watty
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Re: Should I Leave Traditional IRA to Grandkids?

Post by Watty »

thebigad wrote: Sat May 26, 2018 5:20 pm There are a few non-deductible contributions.


I would figure out what to do with the Roth conversion each December when the numbers for the year are pretty firm.

The way her Social Security is taxed is also an important factor since that might put her in a higher than expected tax bracket.

https://www.bogleheads.org/wiki/Taxatio ... y_benefits

If she has ample funds and there is no risk of her outliving her money then doing Roth conversions to the top of the 12% Federal tax bracket is an easy choice.

Unless there is some special situation then I would be pretty skeptical that doing Roth conversions in the 22% tax bracket is a good choice. The problem is that the next higher tax bracket is only 2% higher at 24% so somehow saving that 2% is not a big deal when there is so much uncertainty. If you are dealing with situations where someone is above the 24% tax bracket then she likely needs professional tax advice.

Unless there is some special situation like she lives in a state with no income tax, and the heir live in a high tax state I would probably not do any Roth conversions above the 12% federal tax bracket.
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patrick013
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Re: Should I Leave Traditional IRA to Grandkids?

Post by patrick013 »

thebigad wrote: Sat May 26, 2018 5:42 pm Very little non-deductible traditional IRA contribution. And I don't think you can pick and choose to convert only such non-deductible amount.
As part of a 401k rollover it's possible, pre-tax and after-tax. But where
you are at today you'd have to consult with a tax preparer. That I am not.
If that option is still available where your money sits today it would make
life easier.
age in bonds, buy-and-hold, 10 year business cycle
randomguy
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Re: Should I Leave Traditional IRA to Grandkids?

Post by randomguy »

Watty wrote: Sat May 26, 2018 5:47 pm
thebigad wrote: Sat May 26, 2018 5:20 pm There are a few non-deductible contributions.


I would figure out what to do with the Roth conversion each December when the numbers for the year are pretty firm.

The way her Social Security is taxed is also an important factor since that might put her in a higher than expected tax bracket.

https://www.bogleheads.org/wiki/Taxatio ... y_benefits

If she has ample funds and there is no risk of her outliving her money then doing Roth conversions to the top of the 12% Federal tax bracket is an easy choice.

Unless there is some special situation then I would be pretty skeptical that doing Roth conversions in the 22% tax bracket is a good choice. The problem is that the next higher tax bracket is only 2% higher at 24% so somehow saving that 2% is not a big deal when there is so much uncertainty. If you are dealing with situations where someone is above the 24% tax bracket then she likely needs professional tax advice.

Unless there is some special situation like she lives in a state with no income tax, and the heir live in a high tax state I would probably not do any Roth conversions above the 12% federal tax bracket.
Things don't get magically more complicated above 24%. Just means you have more money. In a lot of ways they are simpler since you dont' have to worry about things like SS taxations and phase out of child tax credits and the like.

We don't have enough info to say if the 22% makes sense or not. If she has 20k of income + this account, you get one answer. Give her 60k of income + this account and you get another. In the end a lot will come down to if you want to leave your heirs money in a tax deferred account (pretty much have to do ROTHs) or if you want to leave them taxable money (just save the RMDs when they happen.
hicabob
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Re: Should I Leave Traditional IRA to Grandkids?

Post by hicabob »

It seems to me that if a savvy person inheriting a traditional ira does better or worse than the same ira converted to a roth depends on the tax bracket of the decedent and the inheritor at the time of taxation.
Spirit Rider
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Re: Should I Leave Traditional IRA to Grandkids?

Post by Spirit Rider »

You do not want to name minor grandchildren directly as beneficiaries or TOD/POD of inheritances. In most states anything but a nominal amount requires the appointment of a property guardian. Usually, the parent who is the child of the grandparent will petition the court to be appointed the property guardian for their child. This is routinely granted, but then the challenges begin. This/these account(s) will be under the jurisdiction and direct supervision of the court. Depending on the state/judge, this can be cumbersome.

A better option is to name a UTMA custodian as beneficiary FBO the grandchild. However, not all IRA custodians will agree to this and some custodians only allow Roth IRA UTMA accounts and not traditional UTMA accounts. The most flexible option is to name IRS qualified look-thru trust(s) for the minor(s). This allows the trustee to open Inherited IRA(s) FBO the grandchild(ren).

Finally, if the grandchildren are dependents subject to the Kiddie Tax (< age 19 or < age 24 college student). The recent tax reform changed the amount > $2100 from the parents marginal rates to the trust marginal tax rates. The trust brackets are highly compressed; with the 35% rate at $9150 and the 37% + 3.8% NIT at $12,500. Taxable IRA distributions are considered unearned income subject to the Kiddie Tax and also investment income subject to the NIT.

So you will want to be careful of having grandchildren having substantial taxable IRA RMDs. Obviously, if they are subject to the Kiddie Tax, this may solve itself, because the divisors will be >= 50. It is still worth understanding the issues, especially if the grandchildren already have UTMA accounts throwing off substantial income. Note: a trust can also help tax wise because the trust can now retain taxable income and pay the same trust tax rates as would be due on taxable distributions > $2100 under the Kiddie Tax rules.

This is clearly something that should be done as part of a professional comprehensive estate planning.
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Epsilon Delta
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Re: Should I Leave Traditional IRA to Grandkids?

Post by Epsilon Delta »

thebigad wrote: Sat May 26, 2018 4:52 pm And I don't see the point much in doing a phased conversion and all the awful pro-rating calculations I have to do each year at tax time.
Parts I and II of form 8606 involve a maximum* of 4 additions, 5 subtractions, 2 multiplications and a division. And you're allowed to use a computer. You are stretching "awful" far beyond any semblance of its normal meaning. Suck it up man.

* The more normal case is two subtractions and one each of addition, multiplication and division.
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celia
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Re: Should I Leave Traditional IRA to Grandkids?

Post by celia »

thebigad wrote: Sat May 26, 2018 4:52 pm One thought is that I will start taking RMDs (roughly $30k) in a few years. I'll pay the tax on it at that time, I guess. So, if I have to pay tax on it anyway, should I go ahead and start converting the same amount (roughly $30k) to a ROTH IRA each year. At least that way the converted amount will continue to grow tax free. Thoughts?
That's what I would do, assuming I had not yet started taking SS or if 85% of my SS was already being taxed (without doing a Roth conversion). In fact, I might even convert 60K a year as long as it didn't push me into a higher tax bracket.

If she finds the math to be onerous and the non-deductible part is really small (like $30K<--just a number I threw out since it is 5% of $600K), she could forget that she made non-deductible contributions and pay the full tax on every dollar withdrawn/converted. The non-deductible dollars will be taxed a second time, which is legal (if she wants to do that). If that doesn't seem "fair" to her, the pro-rating will probably seem more appealing after she thinks about it as I just described.
A dollar in Roth is worth more than a dollar in a taxable account. A dollar in taxable is worth more than a dollar in a tax-deferred account.
Northern Flicker
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Re: Should I Leave Traditional IRA to Grandkids?

Post by Northern Flicker »

Op’s Mom could delay social security to age 70 and take IRA withdrawals to replace the income not received from SS. This will reduce RMDs and shift income to SS which will be taxed more favorably, as well as provide additional longevity protection in the larger SS payments.
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thebigad
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Re: Should I Leave Traditional IRA to Grandkids?

Post by thebigad »

She is already getting SS benefits. In her late sixties. Her AGI last year with SS, pension, dividends, etc. was around $90k. She doesn't itemize deductions.
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Re: Should I Leave Traditional IRA to Grandkids?

Post by bsteiner »

She should consider converting as much as she can each year at a tax rate less than, equal to, or not too much higher than the tax rate that would otherwise apply to the distributions.

Leaving her IRA to or in trust for her grandchildren will provide a much longer stretch than leaving it to or in trust for her children. Before doing so, she should consider whether her children might need the money. She can make it flexible by leaving her IRA to or in trust for her children, and providing that to the extent a child disclaims his/her share, it passes to or in trust for that child's children.
randomguy
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Re: Should I Leave Traditional IRA to Grandkids?

Post by randomguy »

thebigad wrote: Sun May 27, 2018 6:30 am She is already getting SS benefits. In her late sixties. Her AGI last year with SS, pension, dividends, etc. was around $90k. She doesn't itemize deductions.
So she is sitting right about the edge of the 22/24% bracket for singles and that is probably unlikely to change much. The RMD is going to be taxed at 24% no matter what. The medicare income premiums are all increasing right about there also so you don't want to go too crazy (134 at <85k, 428 at 160k.) at doing conversions. Seems to me that the aggressive approach would be to do about 40-50k of conversions (enough to get you the 133k medicare boundary) for the years til RMDs kick in and then reevaluated.
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Earl Lemongrab
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Re: Should I Leave Traditional IRA to Grandkids?

Post by Earl Lemongrab »

patrick013 wrote: Sat May 26, 2018 5:36 pm after-tax amounts ? ......roll the after-tax amounts to a Roth IRA as a
tax-free conversion.
That's incorrect. Any distribution except a rollover to a qualified plan must be prorated between pretax and basis. That's what make backdoor Roth difficult for people with existing TIRAs with pretax money.
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patrick013
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Re: Should I Leave Traditional IRA to Grandkids?

Post by patrick013 »

Earl Lemongrab wrote: Sun May 27, 2018 1:03 pm
patrick013 wrote: Sat May 26, 2018 5:36 pm after-tax amounts ? ......roll the after-tax amounts to a Roth IRA as a
tax-free conversion.
That's incorrect. Any distribution except a rollover to a qualified plan must be prorated between pretax and basis. That's what make backdoor Roth difficult for people with existing TIRAs with pretax money.
If a direct rollover from a 401k with tax-deferred and after-tax
totals according to a Wells Fargo Tax Guide I have this can be done,
for the entire plan balance. But now that it is in a tIRA perhaps
another direct rollover for the total balance separating tax-deferred
and after-tax totals accordingly to a new tIRA and Roth IRA ? But
the tax advisor says no.
age in bonds, buy-and-hold, 10 year business cycle
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Earl Lemongrab
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Re: Should I Leave Traditional IRA to Grandkids?

Post by Earl Lemongrab »

patrick013 wrote: Sun May 27, 2018 3:32 pm
Earl Lemongrab wrote: Sun May 27, 2018 1:03 pm
patrick013 wrote: Sat May 26, 2018 5:36 pm after-tax amounts ? ......roll the after-tax amounts to a Roth IRA as a
tax-free conversion.
That's incorrect. Any distribution except a rollover to a qualified plan must be prorated between pretax and basis. That's what make backdoor Roth difficult for people with existing TIRAs with pretax money.
If a direct rollover from a 401k with tax-deferred and after-tax
totals according to a Wells Fargo Tax Guide I have this can be done,
for the entire plan balance. But now that it is in a tIRA perhaps
another direct rollover for the total balance separating tax-deferred
and after-tax totals accordingly to a new tIRA and Roth IRA ? But
the tax advisor says no.
In general, it's a bad idea to try to apply the rules for one type of tax-advantaged account to another. I suggest reviewing pub 590 regarding the rules on distributions from IRAs.
Northern Flicker
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Re: Should I Leave Traditional IRA to Grandkids?

Post by Northern Flicker »

thebigad wrote: Sun May 27, 2018 6:30 am She is already getting SS benefits. In her late sixties. Her AGI last year with SS, pension, dividends, etc. was around $90k. She doesn't itemize deductions.
I think she can suspend SS until age 70 even if it was started already. I don’t know if it would be advisable, but I think it may even be possible to pay back received benefits and realize the benefit of having delayed.
Spirit Rider
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Re: Should I Leave Traditional IRA to Grandkids?

Post by Spirit Rider »

jalbert wrote: Sun May 27, 2018 10:29 pm
thebigad wrote: Sun May 27, 2018 6:30 am She is already getting SS benefits. In her late sixties. Her AGI last year with SS, pension, dividends, etc. was around $90k. She doesn't itemize deductions.
I think she can suspend SS until age 70 even if it was started already. I don’t know if it would be advisable, but I think it may even be possible to pay back received benefits and realize the benefit of having delayed.
It is still possible suspend anytime after your FRA.

The ability to withdrawal your application and pay back benefits is now limited to once per lifetime and must be within 12 months of your entitlement date.
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