Defusing the “Retirement Savings Time Bomb”

7 minute read time.

Tick…tick…tick. Do you hear that? That’s the “retirement savings time bomb,” threatening to blow up your best-laid plans for funding your non-working years. What is the retirement savings time bomb, exactly? According to Ed Slott, CPA, founder of IRAhelp.com and the author of the new book, “The Retirement Savings Time Bomb Ticks Louder,” it’s made up of an “explosive landscape of costly tax traps, penalties, and a complex maze of rules,” all of which take aim at your untaxed retirement accounts.

WHO’S AT RISK?

According to the Investment Company Institute, Americans currently hold $40 trillion in retirement assets. As the U.S. debt continues to grow, Congress could see those funds as part of the solution to addressing the massive deficit, Slott explains. “You’ve got the whole country running on a credit card, and the people who are most at risk…are the people who are continuing to grow their IRAs and 401(k)s.” That includes Peak 65’ers.  “More people in 2024 will be turning 65 than ever before in history, and that trend is going to continue. These people are building balances that may bring them a tax bigger than expected tax bill when they come to get their money out.”

WATCH Your Money Map: Defusing the “Retirement Savings Time Bomb

Americans, Slott says, already got a preview of the types of changes that could be coming down the pike, thanks to the Setting Every Community Up for Retirement Enhancement (SECURE) Act. One of the many tax code tweaks included in the legislation was the end of the “stretch IRA,” which people previously used to lower the tax bill for their beneficiaries. The stretch IRA allowed beneficiaries to take required minimum distributions based on their own age, which allowed the account to grow tax-free for longer. Now, the beneficiary of the IRA must withdraw their entire IRA inheritance within 10 years of the original account holder’s death.

“It’s kind of like a fire hose,” says Slott. “It’s going to accelerate the taxes. People will have less and tax rates, given our deficit and debt levels, may have to go up at some point. So they’re going to get hit with higher taxes in a shorter period of time, at the worst time…in retirement.”

ROTH CONVERSIONS: PART OF A WINNING STRATEGY

According to Slott, account holders can help themselves (and their beneficiaries) avoid many tax-code-related landmines by doing Roth conversions, where you shift your retirement assets from a traditional IRA, 401(k), or other qualified retirement plan to a Roth IRA. Doing so allows for tax-free withdrawals in retirement, but for the average person, knowing how much to convert and where to get the money to pay the taxes on the conversion can get complicated.

How much you convert depends on your individual financial situation. “You don’t want to go broke converting. You’ve got to do what’s best for you, but you should even a little at a time.”

THE RIGHT TEAM IS KEY TO WINNING “THE SECOND HALF OF THE GAME”

While it’s easy to be hyperfocused on saving for retirement, too many forget about what Slott calls the “second half of the game.” “The key to retirement planning is to manage the investments on the way in, but manage the taxes on the way out. The way out is the second half of the game, which most people miss.”

According to Slott, the biggest part of winning the second half is having the right team in place. That starts with a tax planner, who has the ability to look forward and see what strategies you should be putting in play to best avoid taxes.

Unfortunately though, as he describes, this area of expertise  is a bit of a “black hole of [financial] planning that isn’t being addressed.” The lack of focus on tax planning motivated Slott to establish an “Elite IRA Advisor Group” nearly 20 years ago. The group is made up of 500 advisors who have studied tax planning and “realize how important that second half of the game is.”

SLOTT’S TOP THREE TIPS

As more and more Peak 65’ers prepare to exit the workforce and tap into their retirement savings, Slott says there are three key things they should do to ensure they have a winning tax strategy in place:

Check the beneficiary forms for your investments: “The beneficiary form is the one document I always say that will determine how much you keep and how much goes to the government,” says Slott. Make sure it’s current and that it names the correct beneficiaries.

Plan for taxes in the second half: As you save for retirement, recognize that it’s only part of the equation. “You’ve got to play the second half of the game, managing the taxes on the way out. The key to retirement planning is to manage the investments on the way in but manage the taxes on the way out,” stresses Slott.

Recognize you can’t do it alone: When it comes to taxes, the rules are constantly changing. Even for the experts, it can be challenging to keep up. That’s why enlisting the help of a professional is key. “You really have to connect with somebody who’s dedicated to learning and being an expert in this area,” says Slott. “Sometimes you need a specialist. This is one of those times.”

When it comes to taxes, the rules are constantly changing. Even for the experts, it can be challenging to keep up. That’s why enlisting the help of a professional is key. “You really have to connect with somebody who’s dedicated to learning and being an expert in this area,” says Slott. “Sometimes you need a specialist. This is one of those times.”