Retirees: don’t you get tired of making those estimated tax payments? January, April, June and September, like clockwork, you have to hand over tax money, just because you’re receiving a pension, retirement funds, and/or Social Security benefits. What if there was a way to send this money off one time, and then you wouldn’t have to remember it every few months?
IRA Trick – Eliminating Estimated Tax Payments
When you receive money throughout the year, the IRS expects withholding payments or estimated payments to coincide with your receipt of the money. So when you receive a monthly pension check, you should either have some tax withheld out of each payment. On the other hand, you could send in an estimated tax payment, at four intervals throughout the year, which is treated equivalent to check-deducted withholding.
These estimated payments, often wrongly referred to as quarterly payments, are due each year on April 15, June 15, August 15, and January 15 of the following year. If you don’t make these payments in a timely fashion and you don’t have other withholding occurring with your receipt of money, the IRS may penalize you for underpayment of tax when you file your tax return.
A little-known fact about IRA distributions is that when you have taxes withheld from the distribution (which are then sent directly to the IRS), the withheld money is considered to have been received throughout the year – even if it is received late in December. Using this fact to your advantage, you could figure out how much your total estimated tax payments should be for the year sometime in early December, and then take a distribution from your IRA in that amount. Here’s the trick: Instead of taking the distribution yourself, fill out a form W-4P (or use your custodian’s form) to direct the total amount of the withdrawal to be withheld and sent to the IRS. Voila! You’ve now made even payments to the IRS for each of the four quarters, on time with no penalties!
The downside to this plan is that, in the event of the taxpayer’s untimely death before the annual distribution is made, the estimated payments will be considered as unpaid up to the date of death, and therefore the estate will be responsible for paying the underpayment penalty. Other than that shortcoming, this trick could provide you with several months’ additional interest/return on your money, plus remove the hassle of the quarterly filings.
But Jim, what if I’m retired and under age 59½? Won’t there be a penalty?
There doesn’t have to be, although I’d place this particular move into the “higher degree of difficulty” category of tricks – not to be taken lightly.
Pre-59½ Retiree: How to Avoid Penalty?
Same situation as before, but now you must take another step: once you’ve taken the distribution and properly filed the W-4P (or custodian form) to have the distribution withheld as tax – execute a 60-day rollover, placing the same amount of money either into the same IRA or another IRA… effectively, you’ve pulled the old switcheroo with the IRS on this: you’ve paid tax with a distribution that didn’t happen!
How can this be? Well, the IRS allows you to replace (or rollover) money from any source back into your IRA, so it doesn’t matter that your original distribution was used for withholding. So you have made up for missing all those quarterly estimated payments (no underpayment penalty now) plus by rolling over the funds you’ve avoided the 10% early withdrawal penalty as well.
I mentioned that this last trick fits into the “higher degree of difficulty” category of tricks. The reason I say this is because using your account in this fashion (essentially a 60-day loan) can be hazardous – the primary reason is that 60 days is all you have, and 60 days can be a relatively short period of time. Plus, the IRS HAS NO SENSE OF HUMOR ABOUT THIS. If you miss the rollover period by one day, you’re outta luck.
In addition to the 60-day period, there is also the limitation of only one 60-day rollover per 12-month period. Again, remember: no sense of humor at the IRS. This is especially true if it’s clear that you’ve been pulling a fast one on them with a scheme like suggested above. It is for these reasons that this rollover trick should only be used in the most dire of circumstances – such as if you completely forgot to make quarterly payments and are facing a stiff underpayment penalty, for example. Otherwise, I’d suggest leaving this one alone. By all means, you should not try this trick year after year. It shouldn’t be a problem if you’re over age 59½, though.
I was invited on as a guest to the new Morningstar podcast series, The Long View, hosted by the inestimable Jeff Ptak and Christine Benz, two of the most celebrated analysts and writers in finance. And they had some great questions for me to answer, mostly revolving around how the Ritholtz Mafia operates, our focus on behavioral investing, the practical uses of a tactical strategy, how we hire people and a lot more. I re...
We all have bills and expenses like rent and groceries that we must cover each month. Thatâs just a part of life. But what do you do with your next dollar after taking care of the necessities?
Assuming you donât just spend it, your choices can be bucketed into two priorities: saving for the future or paying down debt. The consequence of these needs isnât small either.
The truth is 45 million American borrowers hold $1.5 trillion in student loans1, and 40% of people canât pay a $400 unexpected expense.2 Combine that with a U.S. retirement savings shortfall projected to reach $137 trillion by 20503 and the answer of what to do with your next dollar is far less clear.
Set yourself up for success first
Before you can start taking steps to achieve your financial goals, itâs crucial to prepare for the unexpected. An emergency fund is a strong foundation that can keep you on course when some of lifeâs unexpected realities happen.
Identifying possibilities like a sudden job loss or home repairs before they arise can help you decide how much to keep in your emergency fund. In general, you should consider having at least two to three months of necessary living expenses on hand.
Remember that unexpected expenses arenât unlikely. Keeping cash on hand can prevent you from accruing greater debt that compounds against your future goals. By securing your current financial stability first, it may then possible to confidently allocate extra income to your future.
When to save for the future
There are important trade-offs to consider between saving or reducing debt. Yet the best move you can make is to start saving right away, even if just a modest amount. Doing so allows you to take advantage of compounded savings, tax incentives, and matching contributions.
When youâre young, time is on your side. This makes saving an important consideration. Giving your money the opportunity to grow and compound is key to building a comfortable retirement.
Further, making extra payments on debt rather than saving probably wonât make sense in some situations. Thatâs especially true if youâre not taking advantage of the âfree moneyâ contributed as part of your companyâs retirement match. Leaving those dollars on the table can reduce the full potential of your retirement savings.
As a rule of thumb, focus on earning the maximum benefit from tax-advantaged savings tools like Health Savings Accounts and retirement contributions first. After that you can devote extra dollars to tackling high interest and non-deductible debt.
When to pay off debt
Thatâs not to write-off the impact of paying off debt sooner. Monthly interest eats away at your future income, compounding in the opposite direction as your savings.
Once youâve maximized savings, be strategic when allocating your extra income to repay debt at a faster rate. Remember to prioritize your most expensive and highest interest credit accounts.
In this sense, not all debt is created equal. Having a mortgage doesnât hold the same consequence as carrying a balance on a credit card account. Paying down the latter first lessens your exposure to high-interest debt and may open additional resources in an emergency.
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Is it possible to make this equation easier?
Companies are exploring new ways to encourage their employees to both pay off debt and pursue their retirement goals, including benefits created by a recent IRS ruling that would allow student loan payments to receive matching retirement contributions.
Technology will play an important role as well. Several tools* already exist to help people develop a holistic picture of their financial situation. In the future, we could leverage powerful analytics to intelligently decide how to use income appropriately based on a wide range of factors.
Until then, itâs important to find a balance between future needs and present priorities. Saving isnât all or nothing, and taking smart approaches to saving today while still managing debt will only benefit you in the long run.
Will the Bernie Sanders plan to wipe out student debt crush the stock market? Subscribe here, get The Compound delivered! One of the signature achievements of the post-millennial capital markets is the driving down of investor costs to near zero, via Reg NMS which did away with the fraction spreads market makers once enjoyed and converted stock exchanges to a decimalized system. While there have been winners and losers a...
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By any account the U.S. equity market is having a stellar year. Stocks have benefited from easier financial conditions, which have in turn pushed up market multiples. By a happy coincidence, gains in market multiples have exactly matched the 15% gain in the S&P 500 Index.
But while stocks have benefited from cheap money and higher multiples, they have more recently been constrained by concerns over growth. The challenge is that the same slowdown that led the Federal Reserve to pivot and stop raising rates also puts earnings at risk. Recent developments in the inflation-linked bond market (i.e., Treasury Inflation Protected Securities, or TIPS) suggest that investors are right to be a bit more cautious.
Inflation expectations embedded in the TIPS market are signaling that already low inflation will fall even lower. In late April, the 10-year TIPS breakeven (BE), i.e. the amount of inflation TIPS investors expect during the next decade, was about 1.95%. Today, the 10-year BE is below 1.70%. The outlook for the next five years is even softer, roughly 1.50%. And while inflation expectations are higher using different market measures, such as inflation swaps, the direction is still down (see Chart 1).
As I highlighted back in March, in the post-crisis environment long-term BE rates and U.S. equities have been closely correlated. The reason is that inflation expectations provide a rough proxy of corporate pricing power and, by extension, margins. During the past 20 years, profit margins have averaged 6.5% in periods of below-average inflation expectations, defined as less than 2%. Conversely, in periods of above-average inflation expectations profit margins have averaged over 8%.
The Goldilocks zone
Stocks have rallied this year as investors have returned to a common, post-crisis theme: Goldilocks. In other words, growth that is slow enough for the Fed to provide cheap money, but not so slow that earnings slip or the economy falls into recession. For most of the past decade this has been the case. While growth has slowed on numerous occasions, we have never approached recession and corporate earnings have remained remarkably resilient.
Today, although there are few signs of an imminent recession, a sharper-than-expected deceleration in growth does put earnings at risk. Investors should not ignore the signals from the bond market, or more precisely the inflation-linked bond market. Rapidly falling inflation expectations are a symptom of a broader set of challenges: long-term secular disinflation (which is good) combined with a cyclical slowdown (not so good).
To be clear, to the extent growth stabilizes the bullish themes supporting stocks remain in place. However, should inflation expectations continue to fall companies may find themselves more challenged than forward earnings estimates suggest. In that scenario, falling inflation may shift from a tailwind for stocks to a headwind.
Final Trades: Dunkin, Accenture, Alibaba, Constellation, and Gold from CNBC. ...
A clear message from European Central Bank (ECB) President Mario Draghi last week kicked off a dovish shift by major central banksâfrom patience to inching toward more stimulus. We see the ECB and the Federal Reserve likely to ease soon. Yet while market expectations for ECB easing appear reasonable, expectations for the Fed seem excessive. We believe government bonds still are key stabilizers in strategic portfolios amid rising macro uncertainty, but we are turning cautious on long-term U.S. Treasuries in the short run.
Major central banks are turning more dovish to address inflation shortfalls and extend the expansion. In a speech, the ECBâs Draghi said rate cuts and other options were on the table to support the eurozone unless growth and inflation pick up soon. Asset prices immediately reflected the dovish tone. The front-end German bund yield dropped to an eye watering year-to-date low of -0.75% after the news. The prospect of an ECB going even more negative on rates and/or restarting quantitative easing has helped drag the share of developed market government bonds with negative yields back to 2016 highs. See the bottom right corner of the chart above. Also contributing: market expectations that other central banks, including the Bank of Japan, will ease later this year. The Fed left rates unchanged, but signaled it was closely monitoring if more stimulus may be warranted. The FOMC cut the word âpatientâ from its policy statement and eight participants signaled lower rates would be appropriate this year.
Take it easy
The dovish shift supports our view that the global expansion has room to run, albeit with moderating growth. We now see reduced risks of a recession and of overheating over the next two years. Yet we see rising trade and geopolitical tensions posing downside risks to growth expectationsâand are debating the potential longer-term consequences of a reversal in the globalization trend, such as higher inflation.
Read more market insights in our Weekly commentary.
The Fed and other central banks are now considering adopting so-called make-up strategies, such as average inflation targeting, to address inflation falling short of their targets, as we detailed in our recent Macro and market perspectives. Yet the shift in this direction has not been uniform. In his recent speech, Draghi seemed to signal the ECBâs willingness to put such strategies to work in the near term. The ECB out-doved the Fed relative to market expectations going into the week. We expect this trend will persist. We believe market expectations of U.S. policy easing have gone too far. Recent U.S. economic data outside manufacturing have been at trend. We see the Fed likely cutting rates in July as insurance against escalating trade conflicts, but failing to deliver on the four quarter-point rate cuts through 2020 markets are expecting. In contrast, Europe has long been facing structural challenges in getting inflation back to target. We see Draghiâs speech paving the way for further policy easing, meeting market expectations during the remainder of his term as central bank president.
Evolving bond views
Against this backdrop, we remain positive on risk assets and recognize that yields may fall further. We still believe government bonds are key for providing portfolio ballast over the longer term. Yet investors are no longer being compensated enough for duration risk in U.S. Treasuries, in our view, given that the market appears to be pricing in too much Fed easing. This is why we are becoming more cautious on long-term U.S. government bonds from a tactical perspective. We see Europe as a different story: The amount of easing priced into markets appears reasonable. We see an opportunity for U.S.-dollar based investors to add exposure to European government bonds. Yields look much more attractive after hedging back into U.S. dollars thanks to the hefty U.S.-euro interest rate differential. Negative rates are a challenge for eurozone investors, but a relatively steep yield curve is a plus.
In the light of these developments, we are in the process of reviewing our tactical asset allocation views and will release the full updates in our upcoming midyear outlook.
Be sure to subscribe to our channel so you never miss an update Who is the most disruptive person in wealth management? It’s not a robo founder. Or an index ETF CEO. Or a blogger. In fact, it is Shirl Penney, the founder of Dynasty Financial Partners, whose platform for breakaway brokers who want to become independent advisors and own their own firms has now amassed almost $40 billion in client assets over the last...
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If you’re nearing age 65, there’s something you need to know: unless you’re currently receiving Social Security benefits (having filed early), you need to take action to make sure you receive your Medicare benefits in a timely fashion.
What this means is that you can sign up for Medicare up to three months prior to your 65th birthday. You must sign up within the period from three months before until four months after your 65th birthday, or you’ll face possible penalties. By signing up during that seven month period, your coverage will be on-time and you’ll begin being billed for Medicare Part B.
If you fail to sign up during that seven month window, you’ll have to wait until the next general enrollment period, which is January 1 through March 31, and your benefits won’t begin until the following July 1. Signing up late, you will be assessed a 10% penalty on your Part B premium for each year that you’ve delayed signup.
If you happen to still be employed and are receiving your medical coverage at least as good as Medicare (known as a creditable plan), you’re not required to enroll and won’t be penalized for delaying. After your employment ends (and thereby the medical coverage), you have a special eight month enrollment period when you can sign up for Part B without penalty.
If you sign up while still covered by the employer plan or in the first month after the coverage ends, your benefits will begin on the first day of the month that you enroll. If you enroll at any time after that but during the following seven months remaining in the special enrollment period, your coverage will begin on the first of the following month.
Just like the other enrollment period, if you delay until after it has expired you’ll need to wait until the next general enrollment period to enroll and your coverage won’t begin until July afterwards.
If you are actively receiving Social Security benefits when you reach age 65, you will be automatically enrolled in Medicare. But don’t leave it to chance: you should check with SSA in the 2 to 3 months before your 65th birthday to make sure you have coverage coming to you. In addition, you’ll want to check out the other coverage(s), such as Medigap, Medicare Advantage, and/or Medicare Part D, prescription drug coverage.
My Chart o’ the Day this weekend comes to us from Jonathan Krinsky at Baycrest Partners, who’s out with some significant insights about the week that was. He looks at the possibility that both the dollar and bond prices have hit a high and are now about to roll over. A drop in USD below support, which appears to be imminent, would have all sorts of implications for the recent breakout in gold extending and for...