3 months left to work, how to minimize taxes with severance pay upcoming

[spanky42]

I just turned 50 and will be retiring at the end of March after 31 years. In 2021, I will be getting 3 months of regular pay, 9 months of pension and a severance check for around $140k (which will be taxed at 24% when I get it).

I met with my CPA with no great advice on how to reduce AGI for next year since it will be higher than it ever has been.

I plan on contributing the max 40% to my 401k and also 50% for my 401k catch up...those are max's my company allows. I will complete the catch up but will be a few thousand short of maxing my regular 401k.

I also plan on putting my remaining income in after tax contribution so I can perform a mega backdoor Roth since I will be over income requirements next year for the regular Roth. I've got a

No idea what I'm going to do post retirement...but after years of stressing in low to middle management positions, I want it to be a job where I don't have to think much...and it will definitely be part time!

I do have extra income from a few rentals and land contracts I'm collecting on.

Anything else I can do for these 3 months while I'm working or after? I plan on rolling my company fidelty IRA into another company that is paying a decent bonus (currently $2500-3000 for over $1 mil transfer).

Any advice from you savvy veteran ER's would be greatly appreciated. Thank you so much!!

 

[obsessed]

If you are already itemizing or at least somewhat close, you could consider funding a donor advised fund (DAF) to prefund multiple years of charitable contributions to get the full deduction this year. If you have some highly appreciated stock you can get the added bonus of getting the deduction at FMV without having to pay tax on the gain.

 

[Montecfo]

Good time for charitable contributions or setting up a donor advised fund. Make extra mortgage payment at YE (Your January payment) if applicable. See if there are property tax payments you can prepay (Subject to 10k limit).

Make sure to overpay state income tax if your marginal rate will be lower next year.

Is it possible to defer any pay until 2022?

 

[Lewis Clark]

If you donate a significant amount to non-profits you might consider setting up a donor advised fund. This would allow you to put a large chunk of cash into the DAF and (I think) deduct that large chunk this year as a charitable deduction.

Then, you could make your normal donations out of the DAF for many years into the future.

I know of DAFs but know little about them. I think fund companies like Fidelity have them, not sure where else they might be found.

If the idea interests you, be sure to do your due diligence.

 

[mystang52]

I'll let wiser people respond on the financial front. You should use the next 3 months to start planning what activities and interests you want to pursue after retirement. Congrats on the upcoming very happy day.

 

[spanky42]

Thanks everyone for the comments and kind replies!

I do not currently itemize - small mortgage and not enough other deductions.

The DAF is interesting and I may do that...it's just determining how much is enough to make a significant tax impact...but the idea of funding appreciated assets into them and avoiding capital gains is an intriguing concept.

 

[Out-to-Lunch]

I just turned 50 and will be retiring at the end of March after 31 years. In 2021, I will be getting 3 months of regular pay, 9 months of pension and a severance check for around $140k (which will be taxed at 24% when I get it).

Do you know for sure that the buyout money will be considered a severance? In my case, my employer is paying it out as "a bonus." The difference is (at least as I understand it) that a bonus can be placed into tax-deferred plans, but a severance can not be:

https://nobledavis.com/should-i-be-withholding-401k-deferrals-if-my-employee-leaves/

 

[kjpliny]

A family member who retired with 1 year severance near the end of the calendar year was able to get the employer to spread out the severance as bi-weekly paychecks, treating it as deferred income the following year. They didn't get a pension. This kept them in a lower tax bracket in the year of retirement. Paying tax up front and investing the money in a lump sum may have been better financially...not sure on the specifics.

 

[spanky42]

Out-to-Lunch...thanks for the that link, that is interesting...unfortunately, I confirmed they call it severance or separation pay, not a bonus.

kjpliny, no they will only do one lump sum. At least this way, I'll have 3 months of pay and pension, so it will be lower than it 'could' have been, like if it was at the end of last year with a full year of pay.

 

[pb4uski]

I just turned 50 and will be retiring at the end of March after 31 years. In 2021, I will be getting 3 months of regular pay, 9 months of pension and a severance check for around $140k (which will be taxed at 24% when I get it).

I met with my CPA with no great advice on how to reduce AGI for next year since it will be higher than it ever has been.

I plan on contributing the max 40% to my 401k and also 50% for my 401k catch up...those are max's my company allows. I will complete the catch up but will be a few thousand short of maxing my regular 401k.

I also plan on putting my remaining income in after tax contribution so I can perform a mega backdoor Roth since I will be over income requirements next year for the regular Roth. I've got a

No idea what I'm going to do post retirement...but after years of stressing in low to middle management positions, I want it to be a job where I don't have to think much...and it will definitely be part time!

I do have extra income from a few rentals and land contracts I'm collecting on.

Anything else I can do for these 3 months while I'm working or after? I plan on rolling my company fidelty IRA into another company that is paying a decent bonus (currently $2500-3000 for over $1 mil transfer).

Any advice from you savvy veteran ER's would be greatly appreciated. Thank you so much!!

Does your employer offer a HSA?

After your traditional 401k contributions, will your income be low enough to make a deductible traditional IRA contribution? Can a portion of your $140k severance be contributed to your 401k? (or is that already included?).

Does your 401k plan offer a stable value fund? If so, you may want to leave some money there as you can't get a stable value fund with an IRA.

What are you plans for health insurance?

I think you mean that your severance will be subject to 24% withholding, not that it will be taxed at 24%... though that may be true as well depending on your other income.

Assuming that you can afford to, take 12-18 months off before doing anything with respect to future employment... you may well find out that you don't care to work anymore.

 

[spanky42]

Does your employer offer a HSA?

After your traditional 401k contributions, will your income be low enough to make a deductible traditional IRA contribution? Can a portion of your $140k severance be contributed to your 401k? (or is that already included?).

Does your 401k plan offer a stable value fund? If so, you may want to leave some money there as you can't get a stable value fund with an IRA.

What are you plans for health insurance?

I think you mean that your severance will be subject to 24% withholding, not that it will be taxed at 24%... though that may be true as well depending on your other income.

Assuming that you can afford to, take 12-18 months off before doing anything with respect to future employment... you may well find out that you don't care to work anymore.

Thanks pb4uski...good insight...here's my answers:

No, my severance will push me over the limits for traditional....and also, no, they shot me down on taking of cut of the severance for a401k deposit!

My 401k through fidelity does have a stable value, but I'm not sure that's what I'm looking for at this time.

I have health insurance from my employer. It's not very good ($260 per month for single on the HDCP, ugh)...right now I pay $30 per month for the same, but I will get 18 months of my cheaper insurance for now.

Yeah, sorry 24% withholding, not taxed, but a large portion will for certain hit it!

 

[stepford]

Do you have the option of taking the severance as periodic payments (like a salary continuation)? While this wouldn't help a lot starting in late March it might put at least a few weeks into tax year 2022.

Also, do you have the option of delaying the onset of the pension until 2022 (and getting a bigger monthly payout)? I played this game when I retired. My severance all hit in one year so I delayed my pension start date until the following year. This increased my monthly payout by about 6% and was a wash in terms of the pension value, but kept me out of the 33% bracket during my retirement year.

 

[statsman]

Do you know for sure that the buyout money will be considered a severance? In my case, my employer is paying it out as "a bonus." The difference is (at least as I understand it) that a bonus can be placed into tax-deferred plans, but a severance can not be:

https://nobledavis.com/should-i-be-withholding-401k-deferrals-if-my-employee-leaves/

Yep, I ran into this. None of my severance or vacation/holiday payout (latter required in CA) was allowed to be used for 401(k) contributions.

 

[cathy63]

Yep, I ran into this. None of my severance or vacation/holiday payout (latter required in CA) was allowed to be used for 401(k) contributions.

The vacation/holiday pay limitation was just a company (or plan) policy. There's no law against contributing that to your 401(k) since you earned it while working.

You cannot contribute severance or other pay that was not earned though, even if it's paid out on the regular payroll schedule after you leave.

 

[spanky42]

Do you have the option of taking the severance as periodic payments (like a salary continuation)? While this wouldn't help a lot starting in late March it might put at least a few weeks into tax year 2022.

Also, do you have the option of delaying the onset of the pension until 2022 (and getting a bigger monthly payout)? I played this game when I retired. My severance all hit in one year so I delayed my pension start date until the following year. This increased my monthly payout by about 6% and was a wash in terms of the pension value, but kept me out of the 33% bracket during my retirement year.

Hey Stepford,
No option to take periodic payments, it's one shot.
Yes, I could delay my pension - great idea - but mine would only increase ~2.7% if I delayed from April to Jan and ~3.3% if I delayed one full year. I don't understand why my increases are so bad...maybe because I'm retiring 'early' (I'm 50 and two years away from what they call 'full pension') and they have to pay out longer? I ran the numbers on all of my options and delaying didn't make any sense at the crappy numbers I was given.

 

[Vacation4us]

We are just biting the tax bullet. DH was able to contribute to his 401 k and 457 with catch up provisions and then divide his remaining vacation time between 2020 and 2021 with the larger check coming in 2021.

Our plan is to not use any of that money until we are 100% certain that the IRS bill is payed in full. We are expecting a nasty surprise since DH employer seems to under withhold. We will be happy if we end up with 50%.

DH had a ton of time on the books after 32.5 years. It is still a good problem to have.