Rules for Inheritances and Making Roth Contributions for Others - 504

Ted and Georgette in Madison, Wisconsin have  inherited $1.6M in a trust. Can they convert that money to Roth without distributing it? Should  the trust own their home so they can use the home equity? Melissa in Rockport, Texas was added  as joint owner on her parents’ bank accounts after a medical event, but what have they done? Should  Ralph and Alice in South Carolina use the required minimum distribution from their inherited IRA  to pay Roth conversion taxes? We’ll find out,

We're answering your money questions. Go to Your Money, Your Wealth®, click  on that special offer. We click-

Click on Ask Joe and Big Al  On Air and ask your money questions.

Yeah, not the special offer,  we’re not giving anything away.

I mean you can click on  the special offer if you want, you can download a white paper. But, if you want  a question answered, click Ask Joe and Big Al.

There, okay. When is it going to be Ask Andi?

It's not. It's not. Because  so many of our old podcasts and TV episodes all say Ask Joe and Big  Al, so we're leaving it like that.

Got it.  All right. Well, let's  get to it. We got Ted from Madison, Wisconsin. He writes in, he goes “Greetings  YMYW crew. I found your podcast through a Google search about 3 years ago.  Enjoy the  copious information-“ did I get that right?

Yeah copious. Yeah, which means a lot.

A lot. Killed it. Yep, “- and in  the humor. I listen while walking the 3 border collies outside the pasture where our  3 horses graze.” I can just picture Big Ted.

You ever have a horse?

No.

No? Okay.

Ever ridden a horse?

Like in high school.

Yeah. Okay.

That was a few years ago.

Got it.

Madison, Wisconsin. I lived in Madison,  Wisconsin for a little short stint there.

That's, yeah. I was  thinking maybe you had a horse.

Yeah. No.

No.

No. I lived kind of in the city. Let's see.  “My wife, Georgette, retired from nursing this year at 55 yo. She drives the dogs around in a  2023 Toyota Sienna. It's a minivan. And pulls her horse trailer with a 2024 Toyota Tundra.  I'm  a 59 yo, engineer and plan to work until at least 65. I drive the vehicle Georgette leaves behind.  Georgette's drink of choice is a lime margarita in the Summer and a fine cabernet in the Winter.  I enjoy anything bottled by Founders Brewery.”

That’s a brewery in Grand Rapids,  Michigan. Home of the delicious all day IPA.

All day IPA.

Okay, means you can drink it anytime  during the day and just continue.

I guess so.

Okay.

Yeah, I'm drawing a blank on-

Don't remember that one.

No, never had, no. You know,  the only, I don't drink microbrews.

I know you don't.

The only ones I did was from Wisconsin.   But I, it's just, I'm drawing, it'll come to me.

Okay.

Alright.  “We have $3,200,000 in tax-deferred  accounts, but no spare cash for which to pay for Roth conversions. Our homestead is worth $850,000  with $500,000 in equity. My parents left me a trust worth $1,600,000 with a $1,200,000 basis.  Here's the question I'm hoping you'll spitball.” Okay, but he said he has no cash  to pay for Roth conversions, but he's got $1,600,000 dollars in a brokerage  account? That sounds like liquid cash to me.

Well, it's in a trust. It's probably  an irrevocable trust, I'm guessing, maybe.

Ah, he can only get the income or something?

Because, parents left  him a trust, so he doesn't, it's not really his, it's his, he's a  beneficiary of the trust, I'm guessing.

Okay. “Is there a reasonable way to  use the trust without distributing it to convert some of all, or this pre-tax money?   Should the trust buy a house to free up the equity? Do you think using the trust this  way is a good idea? Do you have any other suggestions for leveraging the trust for this  purpose? Thanks Ted and Georgette Baxter.”

That's from the Mary Tyler Moore Show.

Got it. Alright.  So, you know, people get confused when they inherit money that is  in a living trust from let's say a parent.

Right.

So, they're the trustee or the successor  trustee or they could be the beneficiary of the trust. But it could be a total- Like a revocable  trust, so they could just rename the trust into their name.  Or, is it in an irrevocable trust  where they're the income beneficiary of it?

Right.

Do they have access to the corpus  of the trust or not? You know, I mean-

It depends on the trust document.  But I would say, and I'm not an attorney, but what I've seen more often than not  is that a living trust from your parents, what happens is when you inherit it, it  becomes an irrevocable trust. Whether you can get rid of the trust or not, that's up to  the trust documents. A lot of them you can, some you can't, Joe, but in  many cases you want to keep the-

So do you have a trust?

I do.

Right. You have assets in your trust.

I know, but if I, if  Ann and I were to pass away, the kids would get it and  it's irrevocable to them.

So you're going to keep the  money in trust and then you have distribution rights? Or is it going to  be an outright distribution at death?

No, it'll be in the trust.  The kids have the ability to in.

They can do whatever they want with the  assets, just to protect it from predators and-

Which is probably the case here. And so  the real answer is this. When you distribute things from the trust, Joe, it’s taxable to  the extent there's interest income. Right, or dividend income. So the first money that  comes out of the trust is considered income, goes on your tax return. But any extra money  that comes out, it's just principal. There's no taxation on that. So that's the way to do  this. There's really no reason to buy a home,

$1,200,000 a basis. So he's  got $400,000 dollars of gain.  So that would be a flow-through. That  would be taxed at capital gains.

Yeah, and usually with trust, the  capital gains are taxed in the trust, but interest and dividends are taxed to whoever  keeps it. The trust would pay the tax if it keeps it. If it distributes it, then the beneficiary  pays the tax.  That's typically how it's done.

I've seen it done.

Oh, you're a trust expert.

No.  No. Most people set up like a  revocable living trust to avoid probate.

No, I understand that. But once  the person that set up the trust, the grantor and spouse dies, then it becomes  an irrevocable trust to the kids subject to the terms of the trust. And most attorneys  now would tell you keep the assets in the trust because they have liability  protection, but you don't have to.

So, he could distribute 100% of  the trust to his own living trust.

Yeah. Assuming he's, yeah-

Assuming that-

- he's the only beneficiary.

Correct. Right. Right. Right.

There's a lot we don't know about this one.

But, should he use those  dollars that are sitting in the trust to help pay the tax for the conversion?

Yeah. That's really the second question that  he didn't ask. What do you think about that?

Well, no. That is the  question. Is it reasonable to, way to use this trust without distributing  it to convert some of this pre-tax money.

Oh, yeah. You're, right.

So he doesn't want to distribute  it. He wants to keep it in there. So do the conversion and just distribute  enough out of the trust to pay the tax.

Yeah. And if there's a little tax to pay from  the income, either the trust will pay it or he will pay it. I guess what he's saying is there's  no cash, so it's all stock. So what you do in that case is you look at the stocks that have the  least amount of gain, and that's what you end up just selling and then distributing. So there's  very little capital gains. It doesn't have to be done pro rata, where you say you sell a whole  bunch, or maybe you've got multiple mutual funds

So he's going to work until age 65,  and I'm assuming that they're going to live off of his salary until age 65. So they  already have $3,200,000 and he's 59. So he's going to work another 6 years. And he's  probably maxing out the 401(k) because they have several million dollars in a pre-tax  account. Let's say in 10 years with those contributions or 16,  you know, there's  a-  He's going to have a tax problem.

There's no question. So should  he do conversions? Yes.  And can you use the trust assets to pay the tax? Yes, you can.

We should have just said that.  That would have been so much easier.

Yeah, but you guys talk in circles  and you're known for that. So it works.

We get, sometimes we get way too  much information and sometimes we-

- don't get near enough.

We're just trying to picture  what the hell's going on here.

Right.

But we do the best we can.

Yeah.

Yes.

You know what? I forgot when we were talking  about the special offer at the top of the show, this week’s offer is only available for a  limited time - it’s the Top 10 Tax Tips Guide, and you gotta download it before the special offer  changes, sometime this Friday, because it won’t be available again for months! This is the companion  guide to this weeks’ episode of Your Money,

“Hi, Andi. I hope you're well.”  How are you?

I am. Thank you. Thank  you very much, Melissa.

Okay. “Very good. I last wrote to YMYW in  2020. Cheery! Time flies.  But I've remained a loyal listener.” Okay. Well, thank you  very much. “Since we retired 6 years ago, our net worth has doubled.” So thankfully,  it's from listening to us, Big Al.

I don't think so.

No. “We breezin and we give Joe and Big  Al a great deal of credit.” Oh, look at that.

Wow.

Wow.

You left out the fact that she gave me  a great deal of credit too, but that's fine.

I didn't see that.  “We are breezy and  we give Joe and Big Al and you-“I’m sorry, Andi,  “-a great deal of credit.”

It’s okay. All I do is  convey the emails. It's cool.

I'm sitting here reading  it. I didn't even see it. Sorry.

No worries.

It's because it was went  to the next line and we got-

All right.  “Husband and I  have a net worth of $6,500,000.”

Wow.

“And my 90something parents have a net worth  of $2,000,000, almost completely of CDs and cash, so  it shouldn't be much of a step-up in basis  in their future estates. We are all debt free. This Summer, we are experiencing a medical crisis,  and we felt sure we would lose one parent.  When the smoke cleared, my parents added me as joint  owner on all of their bank accounts with rights to survivor. I am the executor and also beneficiary  of 50% of their estate.  I have two nephews,

Not anymore.

Oh, because she's joint.

Mmm, Go ahead.

She's executor and beneficiary of 50%.  So-

All right. Yeah. I'll do right by them.  “But  what have I done?”  I don't know.  Oh. “When the time comes, after the loss of both parents, will  I essentially be giving the nephews a gift when I distribute their shares to them? Is there a gift  tax?  Should my parents file a gift tax return? Thanks so much.” Melissa from Rockport,  Texas.  All right. So that's one of the

Yep.

And this is the issue that comes  into play, is that now you're an owner, there's no step-up basis, she had other  beneficiaries. Well now she's the owner 100%, but she still wants to do right by the nephews,  so she has to give them, what, $500,000 each?

That's what this would imply. Correct. That would be, require a gift tax return.

That would, because what's the annual gift?

What is it, $18,000 or whatever it is now?

Yeah.

Yeah, so a better way to do this would  have been set up an account on it as a transfer on death. That way you can have multiple  beneficiaries. And that, that would have solved this very easily instead of joint ownerships  with rights of survivorship. What that means is that when both parents pass away, now you are  the sole owner. You own it. It's your asset. And if you want to distribute some of that, you can,  but it's a gift. So you have to file a gift tax

Attorneys, yeah.

I don't know. But if possible, that would be something you should  try to do is undo this if you can.

Totally agree there. Yeah. Transfer  of death. And then you are, or just put it, do they have a trust? You can  put it in the title of the trust.

You can put it in the trust.

Power of attorney, financial.  And so you could have- You know, if there's cognitive issues,  then she could step in and, help.

She could be limited power of  attorney, do it that way, so that the, so the beneficiaries are all intact. That  would have been the smarter way to go.

Yeah. Taking, and she realizes that after  the fact, it's like, okay, well here, we have a medical issue. Hey, let me get on title so I can  help you and I can figure all this stuff out. And, you know, and that's what a lot of people do. And  that. It. That seems like the right thing to do, right? I have some financial acumen. I can come  in, I can step in and I can help you out. And

Yeah, and does she have to pay, do  the parents have to do a gift tax return? Possibly. So that you have to get with an  estate planning attorney to figure this out.

Because the parents  gifted her $1,000,000 bucks.

I mean or $2,000,000 actually,  the whole account, right? Anyway, see what can be undone if possible.

“This is Theodore.  I'm 61, and Louise,  my wife, she's age 60. We're living in North Seattle.  Louie, Louise, likes red wine from one  of the many wine club memberships that we have. I drink a cold Pilsner, red wine, occasionally  Fairmont Lush.” What's a  Fremont Lush?

Fremont.

That is an IPA.

Oh.

Oh, IPA.

Wouldn't work for you.

Oh, there you go. Okay.

“Got no pets. We raised two young men  who are financially independent. Yippee!”

That was very good.

Yeah, killed it.  “My wife and I are both  elementary school teachers. I plan to retire, I plan on retiring after 33 years this coming  Summer at the age of 62. My pension will be around $38,000 a year with a COLA of 3% annually. My wife  will continue working until she's 65 and have a pension of about $40,000. She will pay my medical  until I'm 66. She's on a different state plan than me and will be teaching 12 years, so is unable  to collect her pension until 65. We will both

I think so too.

You got-  Let's see $2,000,000 liquid.  Roughly. And then, the bridge when he retires, she's going to continue to work. So he's got  his pension is $40,000 and she's got her income.

Yeah. So when she retires, then she's  got her pension. He's got his pension. The $2,000,000 is going to be worth more because  she's adding to it. Right? Right. And then that's even without Social Security. So  yeah, I think this looks pretty good.

Yep.  “As I understand it,  I can keep contribute to my Roth IRA until Louise retires,  since she is  contributing to a Roth. Is that true?” Well, kinda. There's a spousal contribution.  So this is a really good question.

It is a good question.

Is that, so Theodore is retiring, so  he doesn't have earned income. So there's certain qualifications that you have to put  into retirement accounts and earned income is one of them. But he's retired. He's collecting a  pension, but the pension isn't earned income. It's not classified, even though he earned it from an  IRS perspective, it's not called earned income.

Yeah. The reason is because he didn't  currently pay Social Security taxes on it.

So, he's like, well, if my  wife puts into a Roth, can I put in, or can I put into a Roth? Well, the qualification  has nothing to do with her putting money into a Roth IRA. The qualification is, she has  earned income in, if you're married to her.

Correct.

If she has earned income  and you're married to her, then you can put money into a Roth. It's called  a spousal Roth IRA or spousal IRA contribution.

Right.

So, good to go.  “My employer in  the last year is giving a Roth option. Can I have two Roth accounts?   What is the max for both?”  Okay, well now you're confusing two different  things. You've got a 403(b) that's a Roth. You can absolutely fully fund that.  And then you can fully fund a Roth IRA.

Yeah, two different things.

Two totally different things. You've got  the 403(b) or a 401(k). For those of you that have a 401(k) plan or a 457. Let's  say he has a 457 with a Roth option, which I believe he does. He could  go 100% Roth in all of the plans.

Yep.

So the limit on 403(b)'s-  $30,500?

Yeah. Joe; And then $8000 for the Roth? Correct.

So yeah, you could fully fund that, and then you could do a conversion. Here's number  4, here's the Roth conversion show with Big Al.

No, I think it's the JoeJoe show.

“I think we are very underfunded in Roths.  Would it be wise to start doing conversions? If so, how do we choose the amount each year that  the account, how do we choose the amount each year and what account do we use to pay the taxes?  Thank you for any non-advice you can give.” Thanks Theodore.  This is not advice at all. Use your  taxable account, use your brokerage account to pay the tax. Should it make sense to do conversions?  Your fixed income is going to be roughly

- for a while-

- for a while-

- maybe for a long time.

Yeah. The amount that you  pull out is probably not a lot. Right. So does it make sense to do conversions?  I would say, yeah, you would probably want to map it out a little bit, but out the back  of the envelope here, I would say,  yeah.

I think so too, and I would,  probably, given your situation-

So he retires at the end of this year?

In the Summer this year. So,  and, so, should he do a conversion this year? Depends upon his income and  whether he got extra vacation pay and whether it makes sense. But the thing  is, probably stay in the 22% bracket.

Yeah, stay in the 22%, and the  top of the 22%, taxable income is-

Yeah, that’s- Let me see-  That's  a couple hundred thousand dollars.

So taxable income, so it's not  your gross income adjusted gross, so you have to look at your tax return and kind of  forecast this out. So look at your taxable income, stay in that 22% tax bracket, and  that's where I would kind of start. And if I were to pay the tax, I would  pay it from my cash or taxable income.

I would too. And to say that another  way, $200,000 is the top of the bracket, standard deduction is about $30,000. So total  income about $230,000. ish is what you could do. So it would be your income, your wife's income,  plus Roth conversion, no more than $230,000.

“Hi Andi, Joe, Big Al, love the show.   Have watched almost every episode.” Wow.  “Enjoy

That's what he wrote in.

Okay. Good.

Okay. Very cool. So let's  see here, “We got $34,000 a year, it's a pension income with the cost of living  adjusted. We have $1,300,000 in deferred assets, $100,000  in a brokerage account,  $50,000 in my  savings account,  $250,000 in our Roths.”  Okay, so “$162,000 in inherited IRA, prior to the 2020  stretch rules, RMD about $6500 currently. No debt, in 12% tax bracket, 7% state tax bracket.  Drawing about $40,000 a year from traditional IRA

Would you do it?

Let's see here. Well, Ralph and Alice, it's kind of like almost the same.  He's got $2,000,000, roughly.

Yeah.

And then the fixed income he  has with the pensions and Social Security is  roughly $100,000. They spend $74.000.

Yeah, so fixed income, when Social  Security kicks in, will be greater than spending. So they don't necessarily need  their tax-deferred, which means it's, as she says, or he says, it's going  to keep growing for 10 or 15 years.

But they're not going to pull Social Security  for another 10 years, or 8 years, call it.

That's true.

Right? So they got a bridge of 8  years. So they're pulling $40,000 on top of their pensions. Their combined pensions  is $34,000, and they're spending $74,000.

That's about a 2% distribution rate.  Right now. So if it's invested in stocks and bonds that could earn, let's  call it 6%, it's still going to grow.

He's got $160,000 roughly in taxable in cash.

Yeah.

So don't take the cash. Don't  look at the brokerage account and see if there's some, you know, or take that  RMD. What are you going to do with the RMD?

Yeah, I would start with the inherited  RMD. I think that's a good use of it. And then if you want a little extra from the brokerage  account, but, yeah, go ahead and stay in that 12% bracket. Cause that's what you're in right  now. I did a little quick math and I think maybe you could convert even a little bit more,  but I think it would all be in the 12% bracket.

Yeah, trying to figure out  how it makes sense. Look at Big Al, doing a little work for you.

I would do it.

I would do it too. We got Marc from Encinitas writes  in. He goes, “I have 5 grandchildren,

Yeah, that's the key.

Yeah, that two-year-old.

Yeah, so the 18-year-old probably,  I'm guessing, has earned income, so maybe that's a good idea, and the ones  that are, anyone that has earned income, yeah, you can do that, but if  they don't, you can't do it.

Yeah, Mark, you can contribute  to your grandkids accounts, but they just need to show income that  they're paying into Social Security.

Yeah.

And up to the limit, whatever is greater.  So $7000. So if they make $5000 of earned income, then they can, you can contribute  $5000 into a Roth IRA for them.

Yeah. Because the idea is it's a  retirement account, right? And so you have to have income to put money into a  retirement account. So that's where this, it can come from you, but they have to  have earned income to qualify for it.

Whether we’re talking about your grandkids’  earned income or your bank accounts and retirement savings, it is shockingly easy to lose it all if  you fall for an online scam or if you have your identity stolen. A scammer can get into your  devices and now suddenly they are you. Your accounts are their accounts. And believe it or  not, according to the Federal Trade Commission,

All right. Let's go to John.  “Hi,  Al and Joe.” Hello.  “I recently found

Okay.

I didn't think we had viewpoints.   He sounds like someone with some cash. “My wife and I are 63 and retired.  Our drink of choice is a craft beer and we are driving a 2013 and 2015 Tesla Model S.”

Oh, they both have Model  S's. Oh. Cool. Look at that.

“Our only debt is $280,000 for  12 years at 2.125%. My wife receives a pension of $2300 per month in monthly  Social Security, reduced by WEP is $1150. Plan on waiting on my Social Security at  age 70.5-“why would you wait until 70.5?

It's actually 70.

“- it will be $50,000.” So don't wait,  John, until 70 and a half. 70 is when you want to take it.  “We estimate our annual spending  budget to be $210,000 to $260,000 a year, depending on how much traveling we do or  help our family members.” I knew this guy had cash.  You wouldn't, it says viewpoints.  I'm like, okay, there's cash involved.

I never associated that word with  cash, but you know something I don’t.

He's sophisticated.

Yeah, okay.

He's like, hey, I like your  friendly banter. It'd be like, yeah, he's probably.  I love the  viewpoints that you guys share.  Cash.

Got it. Okay. I'm following you now.

All right. “We have $7,000,000 in traditional  IRAs. My wife has $2,000,000 and I have $5,000,000.  She has $20,000 in Roth and I have  a $10,000 in Roth. We do not have any post-tax investments. We are looking at current tax rates,  our withdrawal rate and how much the IRAs will become by the time we hit RMD age at age 75. Does  it make sense to convert to the traditional IRA money to a Roth by maximizing 24% tax bracket  this year next?” Alright, “-Then decide what

Okay. I would say, I mean, so Joe, we don't  normally recommend people do a Roth conversion and pay the taxes with the money out of the  IRA. In other words, you have to pull extra money out just to pay the tax. However, in  certain cases where it's rather extreme, like you have an IRA worth $7,000,000.  And no  cash or brokerage account to speak of.  Yes, I would seriously think about doing it. I would  go to probably the top of the 24% bracket, like,

Right. It's a mess.

It's good. It's a good problem.

Yeah, it's a great problem to have. It’s  just trying to map this thing out what's gonna be the best solution here?  He's young enough.  Yeah, so it's not like he's 73 years old and has this problem. So he has time to leak this thing  out before the RMDs kick in right? I would like to understand maybe a little bit more about the  real estate.  He's got $280,000, 12 years left, 2%.  Is there HELOC or something maybe that  could, he could get some liquid assets from

It is. So that's a heck of an idea. And I  can't believe we haven't talked about that for a while. Yeah, rates are high and it doesn't  usually, it's not usually a very good idea.

You've got more money  coming out than you can spend.

Right. And that’s a more  tax efficient way to do this.

Because then you're just paying  interest versus  the tax upon the tax.

Yeah, I would say for 99% of the  people, that's, this is a bad strategy.

Terrible. But for John, it might make  sense, it's just looking at the numbers, there's going to be a cost to get this money  out, and so it's either going to be taxed to pay the tax, and what I mean by that, right, you  have to pull money out of the retirement account, you have to pay tax on that money, and then you  give it back to the IRS because of the tax that

This one he emailed Info@Pure, so he didn't actually give us the information.  All we know is that it's John.

Anyway, I think I just want to be really clear that this is not a great  strategy for almost everybody.

This is a very specific  ball of spit for John.

Yes.  That's a good way to say it.

So, but again, congrats.  Hopefully our viewpoints shed some light. But, yeah, it’s in a good  spot. It's Yeah, it's You just map it out. He sounds like a really bright guy. Yeah. Yeah.   What, what's gonna be the, what's gonna be the most comfortable for you to sleep at night?  Yeah. The tricky or you don't do anything.

Yeah. The tricky part for me is  at 63, you've got 12 years before RMD, so you wanna have extra debt for 12 years. It just  have to decide whether this makes sense for you.

Right. Or he doesn't do anything.   And then you just wait.  And then you're, right? And it's like, okay, well  now you have a lot larger nest egg, and then you have no debt, but  your tax bill is going to be giant.

Yeah, you get to pick, or, you just do what we  originally said, is you do enough Roth conversion-

Just to get to the top of that 24%.

To get to the top of the 24%, and save enough  for, to pay the tax for what you pulled out.

All right, thanks for the question, John.

Barney and Betty and Ricochet J in  Colorado, we had last minute a shuffling of the email deck this week, and your emails will  be answered next week in episode 505, along with emails from Micah in South Dakota and Amir in New  Mexico - I promise. I appreciate your patience. We got a comment on our YouTube channel recently  from a listener who didn’t know we turned on comments earlier this year, so yes, comments  are open on our YouTube channel! Come watch