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To Maximize the Value of IRAs, Take Action When Client Is 69

Almost any IRA owner will tell you that the year in which he or she turns 70 ½ is the most critical year of the IRA lifecycle—the required minimum distribution (RMD) rules kick in, shifting the focus from accumulation to distribution of assets. What many of these clients don’t realize, however, is that the actions taken in the year prior to age 70 ½ can actually prove to be much more important when it comes to maximizing the value of those IRA funds.

Both contribution and distribution rules change in the year the account owner turns 70 ½ so, in reality, it is the year prior to this year that becomes most important in the IRA lifecycle—as the last year clients can take steps to reduce their RMDs and the associated tax liability that they generate.

Minimizing Distributions

The RMD rules essentially require clients to begin withdrawing funds from IRAs when they reach age 70½. The minimum amounts that must be withdrawn are calculated based on the account value and the client’s life expectancy, determined using IRS actuarial data. Despite this, there are ways that clients can minimize their RMDs in the year prior to 70 ½ if they will have no immediate need for the funds at that time.

Perhaps the most obvious method for reducing RMDs is the Roth conversion. Roth IRAs have no minimum distribution requirements, so converting traditional IRA funds to Roth accounts will reduce the owner’s RMDs. Unfortunately, if the client is still working, he or she may still be in a high enough income tax bracket that the taxes generated by the rollover can be substantial (all amounts rolled over from a traditional IRA to a Roth IRA are taxed at the owner’s ordinary income tax rate).

If the client is still working, he or she can also consider rolling the funds into a qualified plan (such as a profit-sharing or 401(k) plan) where distributions are not required until the later of the year the client turns 70 ½ or the year that he or she retires. In this case, it’s important that the client learn the rules of the qualified plan before making the rollover. Some plans don’t accept rollovers, and others require that distributions begin at 70 ½ regardless of the option to postpone until retirement.

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