Retired Military Finances 401: IRA Considerations in the Year Dad (or Mom) Passes Away
Taxes Estate PlanningMinimizing taxes might not be top of mind in a year when Dad (or Mom) passes away. But, if you ignore it, you might be leaving a big tip for that Uncle that’s not really part of your family. This can especially be the case if Dad was taking Required Minimum Distributions (RMD) from a pre-tax retirement account like an IRA, 401(k) or TSP.
New Tax Brackets Penalize Widow(er)s.
In the year Dad passes away, Mom will still file as Married Filing Jointly (MFJ). Unless Mom has dependents (which isn’t likely if you’re in or have retired from the military), the next year she will have to file as Single. This is called the Widow’s Penalty and it’s real.
In general, a single widow will pay about twice as much tax on the same income earned by a retired couple.
How Much Could Mom’s Taxes Go Up?
Let’s take a look. Let’s assume Mom and Dad are about the same age and that the income in the year of Dad’s death (2025) and the next year is about the same. Let’s also assume that $50,000 of that income is from RMD’s from Dad’s TSP account. We’ll also assume that tax brackets remain constant for the 2 years.
In the year of Dad’s death, their projected taxable income is $200,000 and that puts them in the 22% tax bracket. Their total tax is $33,828 dollars.
Now let’s look at the year after Dad’s death. With the same $200,000 in income, Mom is in the 32% tax bracket and her total tax will be $41,063. About 21% more tax on the same income.
What Can Be Done to Reduce Mom’s Taxes?
Granted, you’ll probably be tied up with a lot of other things and emotions when you lose a parent. But to help Mom out in the long-term you should distribute enough out of the TSP account to fill up the 24% tax bracket. This can be done as an outright withdrawal or a conversion to a Roth IRA. In the year of Dad’s death that would equate to about an additional $194,600 withdrawal from TSP. Just remember Mom will need to pay taxes on the withdrawal. This can be done through withholding from the withdrawal or an estimated payment.
This withdrawal will significantly reduce Mom’s future RMD’s and will hopefully keep her out of those higher tax brackets. At a minimum, she’ll pay lower taxes on the withdrawn money than she would if she didn’t take the withdrawal.
Don’t Forget IRMAA
Mom will also likely be subject to higher Medicare premiums throughout her life if no action is taken. There will be pain in the year of conversion, but the money saved on future Medicare premiums will likely exceed the increase in the year Dad passed.