I’ve spent the past 30 years shoveling money into my 401(k). Now, semi-retired at age 63, it’s time to start shoveling it out. But here’s the challenge: How much money can I shovel out of this and other tax-deferred accounts I have during the next nine years while avoiding a killer tax bill?
Having a lot of money in a 401(k) or traditional individual retirement account often creates tax headaches in retirement. That’s because, at age 72, the law requires that most people begin taking required minimum distributions, or RMDs, from these tax-deferred accounts. (The age for RMDs was recently increased from 70½ as part of the Secure Act.)
Combined with Social Security
payments and other income, these
mandatory distributions frequently
shove seniors into higher tax brackets.
Ouch! By raising their taxable income,
the RMDs can also raise the amount
of money they have to pay for
Medicare. Double ouch!
The conventional wisdom is that
retirees should empty their taxable
accounts before touching tax-deferred
accounts and finally Roth IRAs where their money is growing tax-free. That approach has its merits. But it can result in retirees paying almost no taxes in their first years and then hitting a “tax bump” when they begin receiving Social Security and are forced to take distributions from their tax-deferred accounts.
“We often find that standard advice, ‘Defer, defer, defer,’ knocks you up a bracket when RMDs kick in,” says Joel Hardin, a retirement planner in Troy, Mich.
One solution to this conundrum is converting pre-tax dollars—such as those in 401(k)s and traditional IRAs—to after-tax dollars in Roth IRAs early in retirement while your tax rate is low.
To be sure, not all retirees are focused on minimizing taxes. Consider a parent who wants to leave money to a high-earning adult child. The child may be in a much higher tax bracket than his retired parent. Thus, the parent might opt to pay more taxes now so that he can pass money not subject to taxation to his child. The parent could decide to live off money in his 401(k) or traditional IRA, paying the necessary taxes, and leave after-tax money for his child.
Other retirees want to leave much of their wealth to charity. If they take their RMD as a qualified charitable distribution, it won’t trigger higher taxes or higher future Medicare premiums. To do so, you direct the administrator of your tax-deferred account to make a donation directly to the charity, and it won’t show up as taxable income.
“This is a pretty complicated problem when you try to solve it fully,” says Andrey Lyalko, a vice president for financial solutions at Fidelity. He says retirees should have clear goals on their spending and estate planning to figure out the right distribution strategy.
Seniors should begin thinking about the impact of RMDs early in retirement, or even before they stop working. Once they’ve begun making RMDs, they have much less flexibility to avoid higher taxes.
The required minimum distributions for an IRA begin at 3.91% for a 72-year-old and rise each year. By age 90, the current RMD is 8.77%, meaning a retiree with $2 million remaining in an IRA at that point must withdraw $175,400 from it.
William Reichenstein, a Baylor University finance professor emeritus who is head of research at Retiree Inc., knows a retired couple in their late 60s with $4.4 million in financial assets, including $3.5 million in tax-deferred accounts. The couple are making substantial Roth conversions each year to reduce their tax-deferred accounts. Otherwise, they will end up paying higher taxes in the future because of RMDs, plus paying higher Medicare premiums.
The tax and Medicare premium woes from RMDs often get worse when one spouse dies. The surviving spouse must still make RMDs but is usually in higher brackets both for taxes and Medicare premiums as a single person.
There was nothing for me to do last year as I worked full time for more than half of 2019, and any distributions from my IRA would have been taxed at a higher rate as a consequence.
This year is a different story. My wife and I are living off money from after-tax brokerage accounts plus the money I earn from freelancing articles like this one. Our top rate as a married couple with the standard deduction will be just 12% up to almost $105,000 in adjusted gross income. If I earn $50,000 in part-time work and investment income, that means I can take an additional $55,000 from my IRA and convert it to a Roth IRA at the 12% tax rate or lower.
Any money I put in the Roth IRA, meanwhile, will grow tax-free and has no required distributions. I can spend it whenever I want to or leave it to my children.
The downside: It’s a good bit more complicated than simply spending from one account. Every year-end, I will have to tally up my earnings and investment income, and figure out how big a Roth IRA conversion I can make without pushing myself into a higher bracket.
This is the same exercise financial planners should go through for their clients.
“We think about the brackets, and where you fall in the brackets, and filling out those brackets,” says Julie Virta, a senior financial advisor at Vanguard.
Ultimately, this is one of the few situations where paying taxes now will actually save me money in the long run. IRS, here I come.
And Lowe’s is taking steps to improve pricing and promotional tools in order to recoup lost margins in the new year. Moreover, lower interest rates, stability in the housing sector and advertising efficiencies from the continued shift to digital marketing should give the stock
a boost.
All three stocks are rated buy at UBS, with Hasbro upgraded on Nov. 25. Amazon has a $2,100 price target, Hasbro has a $117 price target and Lowe’s price target is $140.
Home improvement retailer Lowe’s is also a “top global idea” at RBC Capital Markets, where it’s rated outperform with a $134 price target.
“While we have long believed that part of Lowe’s relative underperformance versus Home Depot relates to their respective store bases, as Lowe’s stores tend to be located further out from major metro areas, we have also underestimated how difficult Lowe’s had made it for Pros customers to do business with the company, and improvements on this front should enable it to gain incremental market share,” analyst Scot Ciccarelli wrote in a note.
Young consumers are increasingly concerned about climate change which makes environmental sustainability a top issue for the retail sector.
“We believe brands that promote sustainability will gain wallet share of younger consumers and become more relevant,” wrote Cowen analysts in their “Future of Retail” report. “In our view, there is a strong momentum toward eliminating waste among retailers.”
Cyber Monday mobile transactions in 2019 totaled $3.1 billion, according to Adobe Analytics data. Total Cyber Monday online sales were $9.4 billion, a record.
“The smartphone continues to radically alter the end-to-end customer experience as customers increasingly rely on smartphones to research, transact and engage with brands,” Cowen analysts say.
The rise of smartphone shopping is due to social media platforms and the influencers, brand ambassadors, and communities that have popped up on them. Cowen data shows that more than 63% of millennials ages 18 to 34 spend at least four hours per day on their mobile phones.
“We also believe that the channel has major implications for both in-store traffic and conversion as consumers use devices to inform purchases before or during shopping trips, including the use of smart labels, virtual reality and augmented reality,” Cowen said.
Even as shoppers use mobile devices and other e-commerce platforms to make a purchase, customers are increasingly opting to make the last-mile trek for their
items themselves.
“We expect more shoppers to adopt and appreciate curbside pickup, which we view as an ideal manifestation of combining physical and digital retail,” Cowen said.
Cowen data shows that 21% of the U.S. population has tried curbside pickup or buy-online-pickup-in-store for their groceries.
Walmart Inc. (WMT) and Target Corp. (TGT) are the leaders in curbside pickup, Cowen says. Both are able to leverage their large store fleets to offer the service.
“Given that the same-day options rely on our store assets, team and inventory they are much more profitable than traditional e-commerce fulfillment,” said Target’s Chief Executive Brian Cornell on the third-quarter earnings call.
E-commerce on various devices and convenient fulfillment methods are also erasing the shopping calendar.
“Black Friday will change dramatically in 2020,” said Graham Cooke, chief executive of Qubit, a personalization software provider. “There’s no need to wake up at the crack of dawn just to fight over sale items when shoppers can find great deals from their couch.”
Moody’s analysts think global trade policy disputes, will continue to be a risk factor in 2020, as well as a weight on consumer confidence. President Trump’s U.S. - China trade war has disrupted global manufacturing and retailing supply lines and the import tariffs have raised some prices.
“Although we do not expect a recession in 2020, recession risks are high amid a backdrop of trade policy uncertainty, [and] an unpredictable political and geopolitical environment,” Moody’s says.
“Increased trade friction could trigger spikes of volatility in financial markets and further disrupt trade flows. Many companies have so far been able to lessen the effect of tariffs through a combination of cost reductions, buildup of pre-tariff inventory and price increases within the industry supply chain. But these offsets may not last if these
tensions persist.”
Moody’s forecasts slight operating income growth to a 3% or 4% increase in 2020 for the retails sector, though analysts don’t expect “much improvement” in operating margins as retailers use promotions to increase market share.
Dollar stores like Dollar General Inc. (DG), off-price retailers like TJX Cos. (TJX), and supermarkets like Kroger Co. (KR) are expected to outperform. Department stores like Macy’s Inc. (M) and J.C. Penney Co. Inc. (JCP), and drug stores like Walgreens Boots Alliance Inc. (WBA) are forecast to underperform.
The Amplify Online Retail ETF (IBUY) is up 30% for the past year, the SPDR S&P Retail ETF (XRT) has gained 13.4% for the period, and the Dow Jones Industrial Average (.DJI), and S&P 500 index (.SPX) are up 24.2% and 30.3% respectively.
Secondhand retailers are also in a position to benefit from concern about sustainability. Cowen thinks RealReal Inc. (REAL) and ThredUp, which forecasts that the secondhand market will be valued at $51 billion by 2023, have an advantage.
Nearly half of the total sustainable merchandise is for women, 25% for children, and 24% for men, according to the StyleSage Sustainability Report.
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© 2020 Bloomberg L.P.
Sustainability will continue to be top of mind for young consumers
Retail gets increasingly mobile
Recession fears and international trade disputes will continue to impact the
retail sector
Kiplinger
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