Add to 401K?

[TrunkMonkey]

Hi,

May parents are nearing retirement:

Dad 67, receiving social security ~24K, has pension from work ~50K. Also works part time is paid ~40K.
Mom 61, receives pension from work ~40K, will work part time and paid ~30K. Will no receive SS.
Mom will receive state health care, and dad also receives state health care. They also have a lot saved about 750K (maybe half this is in 401K). So their is a very low probability that they will run out of money in retirement. They have no debt, no mortgage.

I think they plan on working for maybe 3-5 more years.

I don't know exactly how much they spend but based on their lifestyle, they will be saving something like ~120K out of the ~184K. So my question was how to best minimize the taxes using 401K or any other savings vehicles.

I thought maxing out 401K (20K + 20K = 40K in 401K) would make sense because it would minimize taxes and then they could withdraw only the money they spend. Does this sound like a good idea?

[jIM_Ohio]

Hi,

May parents are nearing retirement:

Dad 67, receiving social security ~24K, has pension from work ~50K. Also works part time is paid ~40K.
Mom 61, receives pension from work ~40K, will work part time and paid ~30K. Will no receive SS.
Mom will receive state health care, and dad also receives state health care. They also have a lot saved about 750K (maybe half this is in 401K). So their is a very low probability that they will run out of money in retirement. They have no debt, no mortgage.

I think they plan on working for maybe 3-5 more years.

I don't know exactly how much they spend but based on their lifestyle, they will be saving something like ~120K out of the ~184K. So my question was how to best minimize the taxes using 401K or any other savings vehicles.

I thought maxing out 401K (20K + 20K = 40K in 401K) would make sense because it would minimize taxes and then they could withdraw only the money they spend. Does this sound like a good idea?

I don't see the picture here clearly, the pensions throw a wrinkle into this plan.

Here are the taxes you want to research
1) Social security benefits are probably being taxed- if income is above 44k, 50% of SS is taxed at highest marginal bracket
**this is not a reason to avoid SS, just pointing out that 22k of the SS is being taxed at probably 25% or 28%.**

2) The Pensions may cause RMDs highers than parents needed expenses. Research Required Minimum Distributions. These take effect on IRA balances for a person over age 70.5.

3) Roth IRA conversions. Look to move money from IRAs and 401ks into Roths up to tax bracket cap. Roths are not subject to the RMDs mentioned in #2, but will still trigger the SS tax in #1.

example- if 15% tax bracket cap is 70k and parents spend 52k, convert 18k of the IRA/401k to a Roth (paying 15% tax on the 18k) and never get taxed directly on the 18k or its earnings again.

If bracket cap is 70k and expenses are 40k, convert the difference... 30k. Try to keep taxes you pay in same marginal bracket- if you need to look up tax brackets, check IRS site or fairmark.com reference room.


side note- suggestion is to spend 4-5% of retirement assets per year, so the 750k in a 401k is worth about 4% or 30k per year (and should last 30-40 years in inflation).

[jefffou]

TrunkMonkey,

Yes, it seems that the 401k might be a pretty good place right now to reduce taxable income. Don't forget the fully allowable IRA's, if traditional IRA's are chosen over Roth's (It's difficult to know which would be better without knowing a lot of other tax information.)

On a side note, your parents may bee a good candidate for a pretty neat Roth conversion strategy that is a little bit outside the box. If your parents are the type to think generationally when it comes to the taxes and making the most use of their hard-earned assets, they might consider the following.

It appears that none of the investments will ever be needed by your parents, given the Social Security, the pensions and the relatively low standard of living. This essentially means that the only distribution taken out of your parents' 401k plans will be what is required of them beginning in a few years by the IRS.

Let's use the following assumptions:

Dad's Birthdate: 01/01/1942
Mom's Birthdate: 01/01/1948
Dad's Death Age: 80
Mom's Death Age: 80
Dad's 401k Balance Today: $200k
Mom's 401k Balance Today: $125k
Dad's and Mom's 401k Rate of Return: 8%
Dad's 401k Balance at Death: $335k (After Growth, Less RMDs)
Dad's 401k Balance passed to Second Beneficiary after Mom's Death: $400k (After Growth and RMDs)
Mom's 401k Balance passed to Beneficiary: $331k (After Growth and RMDs)

Upon the death of your Father, Mom rolls over the funds to her own IRA. The surviving spouse names a new IRA beneficiary, such as a child, and begins taking RMD at age 70 1/2.

Upon the Mom's death, beneficiaries are required to take distributions. The beneficiaries generally take distributions from the IRA based on the life expectancy of the oldest beneficiary, if more than one.

So, at your Mother's death, beneficiaries will have to begin taking RMD's in the neighborhood of 35k to 40k, depending on your age, the total qualified account balances.

So, to remedy this, each of your parents take out a Universal policy. The Death benefit, however structured, will approximate the tax due upon the death of each parent. Figure somewhere in the range of 30% times the total 401k balance at the time of Mom's death. In this case, the balance is about $730k. The death benefit will be used to pay the tax on the 401ks (or traditional IRAs, if rolled over), which will be converted to Roth(s) owned by your parent's beneficiaries.

End result is your parent's beneficiaries get to take lifetime distributions, based upon their life expectancies, tax free.