A plan for emptying a 401

[rocks911]

My father-in-law is 88 and asked me today what I thought about him pulling money from his 401 and paying the tax so that "you guys dont have to do that when I pass" but I didnt know how to advise him. His health is failing and I dont know that he really needs to be worrying about this, but I said I'd see what I could find on the subject.

He said he was wondering if there wasnt some procedure to draw the money down over the course of say, five years. I told him I think you just request the money from whatever institution he was dealing with and that they'd tax it. Just as long as he's careful not to bump into a higher tax bracket I think theres no magic way of drawing down except to just max out the amount up to the next tax bracket.

Any thoughts?

 

[38Chevy454]

If you (and others possibly) are the beneficiaries, you just treat as an inherited IRA. You can change the RMD to be based on your age, but must have RMD since original person was over 70.5 years.

It doesn't have to be zero before death. Of course if the money can be useful by all means take it out now when FIL can use it if needed.

 

[steelyman]

The simplest (but not best, depending on circumstances) way is to withdraw 1/5th of the balance the first year, 1/4th of the balance the second year and so on until the fifth year when the remaining balance is liquidated.

That’s most likely a terrible approach for a lot of reasons.

 

[RunningBum]

If he does this, it would make sense to convert it to a Roth, so when it gets passed to you, it can grow tax free. You'll have to take MRDs immediately, but probably a low rate. Any distributions you take from an inherited Roth are tax free.

What is his tax rate vs. his heirs? If he can pay a lower tax on it, or at least some of it, it makes sense for him to pay those taxes. If he'd be paying a higher rate, it makes no sense at all. Same rate, I'd do the conversion since it grows tax free after conversion. So I'd convert up to top of the tax bracket that the heirs are in each remaining year until it is drained.

 

[Sunset]

Rather than give it to immediate children, he could give it to grand-children, you would have to read up on it, but I think doing that way makes the withdrawal period very very long. Worth it for big estates.

 

[steelyman]

I believe that an inherited IRA retains its “Roth-ness” once the owner passes away. That is, the beneficiaries can’t convert a traditional to Roth after death. If that route (IIRA) is chosen it would be a good idea to put the paperwork in place in the near future.

 

[Dtail]

I believe that an inherited IRA retains its “Roth-ness” once the owner passes away. That is, the beneficiaries can’t convert a traditional to Roth after death. If that route (IIRA) is chosen it would be a good idea to put the paperwork in place in the near future.

True. This is a good strategy.

Rather than give it to immediate children, he could give it to grand-children, you would have to read up on it, but I think doing that way makes the withdrawal period very very long. Worth it for big estates.

If not using the above mentioned strategy, then this is another way of doing it, so taxes could be spread out over the lifetime of the grandchildren.

 

[GalaxyBoy]

Schwab has a good calculator you can use to get an idea of how much your inherited IRA RMDs would be, making some assumptions as to date of death, value of IRA, etc.

 

[RunningBum]

I believe that an inherited IRA retains its “Roth-ness” once the owner passes away. That is, the beneficiaries can’t convert a traditional to Roth after death. If that route (IIRA) is chosen it would be a good idea to put the paperwork in place in the near future.

I don't understand what you are saying. I don't understand what "Roth-neess" is for an inherited IRA even with your "That is" explanation.

I was talking about having the FIL convert to Roth. If he is wanting to pay taxes, it is better to convert than just withdraw. That way heirs get a Roth, which is better than taxable assets going forward, even with inherited Roth MRDs. I think he would need to roll it over to an IRA first, if that's what you meant by paperwork to be put in place.

The question remains as to whether it's better to pay taxes at his rate, or let the heirs pay at their rate.

 

[steelyman]

I don't understand what you are saying. I don't understand what "Roth-neess" is for an inherited IRA even with your "That is" explanation.

We’re pretty much saying the same thing. My point is that the decision regarding Roth status has to be made while the owner is still alive. If it is a traditional 401k (not clear), paying taxes on the conversion to Roth satisfies the wish to remove the tax burden from beneficiaries. That’s different from trying to do things in the most tax-efficient way.

 

[pb4uski]

My father-in-law is 88 and asked me today what I thought about him pulling money from his 401 and paying the tax so that "you guys dont have to do that when I pass" but I didnt know how to advise him. His health is failing and I dont know that he really needs to be worrying about this, but I said I'd see what I could find on the subject.

He said he was wondering if there wasnt some procedure to draw the money down over the course of say, five years. I told him I think you just request the money from whatever institution he was dealing with and that they'd tax it. Just as long as he's careful not to bump into a higher tax bracket I think theres no magic way of drawing down except to just max out the amount up to the next tax bracket.

Any thoughts?

What is your FIL's tax situation for 2019? What is his marginal tax bracket and taxable income? Also, how much is his 401k? While you don't necessarily need to provide that information to the forum, you'll need to know that to make a good decision.

For example, if he is in the 12% tax bracket RMDs, I would probably leans towards additional discretionary withdrawals to fill up the 12% tax bracket... assuming that his heir's tax brackets are higher. OTOH, if his tax bracket is higher than his heirs, then do nothing.

Alternatively, he could decide that he's willing to pay x% in tax to avoid having his heirs having to pay tax and design withdtrawals such that the incremental tax on those discretionary withdrawals are x%.