The holidays are just around the corner, meaning it’s almost time to prepare for parties, travel, gift-giving and more. But what’s good for the spirit can be hard on the wallet. Without a proper plan in place, it can be easy to lose track of how much you’ve spent, which might affect your financial goals.

The point of any financial plan is not to restrict yourself unnecessarily, but to become intentional about the way you approach spending, saving and investing. It’s akin to the way we should approach retirement—by becoming aware of where our money is going, and how it is performing for us, we can make ourselves “Game Ready” for life after work.

Whether you’re managing your plan for the holidays or your broader path to retirement, the following best practices may help.

1. Set realistic goals

   It’s much easier to stick to a plan when we know what we’re working towards. During the holidays, that could mean adhering to a maximum budget or fitting in a trip to somewhere warm. Similarly, in retirement, you might want to travel the world or build a cushion of savings to help manage health care expenses. In all cases, put your pen to paper and write out what you want to achieve.

2. Figure out what it will take to get there

   What do you need to do to make that holiday trip happen? Search for low-cost flights? Figure out the cost-effective locations this time of year? Reach out to family and friends to ask who’ll be joining you? No matter the goal, you need to make a plan for action. When it comes to retirement, the process is the same. For example, if one of your retirement goals is to avoid running out of savings after you stop working, consider exploring tools that can provide guaranteed lifetime income, such as fixed indexed annuities. Either way, it’s important to ensure you have the details ironed out.

3. Periodically check in

   To make sure you aren’t overspending during the holidays, you’ll need to keep track of your spending and saving. Likewise, when preparing for retirement, annual financial check ups can help ward off any unnecessary surprises.

4. Don’t forget to enjoy the process

   Just like the holidays, retirement should ideally be one of the best times of our lives (they don’t call it the “golden years” for nothing!). While it’s important to have a plan and maintain discipline to follow through, don’t forget to allow for enough flexibility to relax and enjoy the ride.

At the end of the day, the most important aspect of success is intentionality, whether that’s for the holidays or for retirement. As long as we know where we are headed and are consciously taking steps to get there, getting “Game Ready” is right within our grasp.

Changing Seasons in Retirement

By Sarah Brenner, JD
IRA Analyst

Question:

Hello Ed,

I have received differing views on making a 401(k) conversion to a Roth IRA.  I’m a 64 year old retired federal employee and plan to transfer all my funds from the TSP to my traditional IRA.  From there I plan to make annual conversions to my long established Roth IRA.  Is there an issue with the five-year rule that would prevent me from being able to make withdrawals from the Roth during the next few years?  Thanks for your help.

Dan

Answer:

Hi Dan,

Your plan works! You can roll over your TSP to a traditional IRA and make series of conversions to a Roth IRA without worries about taxes and penalties on any Roth distributions. How is this possible? Well, all your converted funds can be accessed tax and penalty free because you are over age 59 ½. There is no five-year holding period to be concerned about. Assuming your “long established” Roth IRA was established by a conversion or contribution more than five years ago, your earnings will also be tax and penalty free. This is because you are over age 59 ½ and your Roth IRA has satisfied the five-year holding period for qualified earnings. This five-year period never restarts.

Question:

Ed:

I’ve read your articles for years.  Thank you for being a great resource to our industry!

I have a couple of questions:

• You’ve written on the once-a-365-day-year indirect IRA rollover rule.  How is this applied?  Does the 365-day year start on the day that the distribution is paid from the distributing IRA, or on the day the funds are actually redeposited in the receiving rollover IRA?

• If funds are distributed from an IRA, you have 60 days to indirectly roll them to another IRA to avoid making those funds taxable.  RMDs are based on prior-year-end value of an IRA.  Why couldn’t an IRA owner withdraw the funds in his IRA on December 1, then redeposit them to another IRA on January 15, making the December 31 value = $0, and negate any RMD for that year?

Thank you!

Evan

Answer:

Hi Evan,

Those are both great questions and we get them all the time.

In response to your first question, the 365-day period for purposes of the once-per-year rollover rule starts with the date the distribution from the IRA is received. If that distribution is rolled over, no other distribution from any of that IRA owner’s IRA can be rolled over during that 365-day period. (IRA to plan rollovers and IRA to Roth IRA conversions are exempt from this rule.)

As far as your second question goes, the IRS is one step ahead of you. There is a special rule that requires adjustment of the December 31 balance when calculating RMDs. Any outstanding rollovers or transfers must be added back in to the balance. This prevent IRA owners from withdrawing their entire IRA balance in one year and redepositing it back in the following year to avoid RMDs.

https://www.irahelp.com/slottreport/roth-conversions-and-60-day-rollover-rule-todays-slott-report-mailbag

By Ian Berger, JD
IRA Analyst

Many 401(k) plans must pass two annual nondiscrimination tests: the ADP test and the ACP test. The November 11 Slott Report discusses the ADP test. This Slott Report tackles the ACP test and the options available to 401(k) plans that fail one or both tests.

ACP test. While the ADP test takes into account pre-tax deferrals and Roth contributions, the ACP test considers after-tax contributions and employer matching contributions.

First, the plan must calculate a contribution percentage for each employee. Your contribution percentage is the sum of your after-tax contributions and employer matching contributions, divided by your pay for the year. (If you are eligible but don’t make any after-tax contributions and don’t receive any matching contributions, your ACP percentage is 0 %.)

Second, the plan must calculate an average contribution percentage for all of the non-highly compensated employees (NHCEs) and an average for all highly compensated employees (HCEs).

The ACP test works the same way as the ADP test:

• If the NHCE average is 2% or less, the HCE average can’t exceed twice the NHCE average.
• If the NHCE average is between 2% and 8%, the HCE average can’t exceed the NHCE average plus 2%.
• If the NHCE average is more than 8%, the HCE average can’t exceed the NHCE average times 1.25.

Example: Company B has 3 NHCEs and 2 HCEs eligible for its 401(k) plan in 2019. Company B performs the ACP test based on the following data:

Employee           After-tax contributions + Match            Pay            Contribution Percentage

NHCE1                       $       0                                      $50,000                        0%

NHCE2                         6,000                                        60,000                    10.0

NHCE3                         7,200                                        90,000                      8.0

HCE1                            7,500                                      150,000                      5.0

HCE2                          19,000                                      190,000                    10.0

Here, the NHCE average contribution percentage is 6.0% [(0% + 10.0% + 8.0% /3]. Therefore, to pass the ACP test, the HCE average percentage can’t be more than 8.0%. Since the HCE average percentage is 7.5% [(5.0% + 10.0%)/2], the plan passes the ACP test for 2019. The plan must also pass the ADP test for 2019.

Remedies. If the plan fails the ADP or ACP test (or both), the employer must remedy the violation. Available remedies include:

• Distributing excess contribution to HCEs;
• Requiring HCEs to limit their deferrals and/or after-tax contributions; or
• Making special contributions for NHCEs.

Safe harbor contributions.  Performing the ADP and ACP tests each year can be an administrative burden. Meanwhile, the available remedies aren’t ideal because they either prevent HCEs from maximizing deferrals or are too costly (or both). Fortunately, plan sponsors can avoid testing entirely by adopting one of the following “safe harbor” contribution formulas:

• The company contributes 3% of each employee’s pay, whether or not the employee makes deferrals.
• The company matches 100% of employee deferrals made up to 3% of pay and matches 50% of deferrals made on the next 2% of pay.
• The company matches 100% of employee deferrals made up to 4% of pay.

All safe harbor contributions must be immediately 100% vested. This makes those contributions expensive compared to other employer contributions, which can be subject to a vesting schedule.

https://www.irahelp.com/slottreport/how-401k-nondiscrimination-rules-work-part-2

One of the biggest challenges in retirement is building a reliable stream of monthly income to support you for what could be a very long time. While retirees have long relied on bonds for this purpose, a retirement income expert recently told MONEY that there’s a better solution: income annuities.

In a recent Facebook chat with members of the Retire With Money group, Wade D. Pfau repeatedly made a case for what he considers a better alternative to cash or bonds for retirement income: a single premium immediate income annuity (SPIA) or single premium deferred income annuity. Both are plain-vanilla types of income annuities, an insurance product where you trade a lump sum payment for guaranteed monthly income for life. (Income annuities are not to be confused with their complex—and often way too expensive—cousins, the variable annuity and the fixed indexed annuity.)

Pfau, a chartered financial analyst (CFA), is definitely someone worth hearing out. He helped develop the Retirement Income Certified Professional program at The American College of Financial Services, where he oversees educating financial advisors on best practices for retirement income. He is the founder of Retirement Researcher, an educational site that helps do-it-yourself investors explore academic research. And this fall, he will publish his third book on retirement planning strategies, with income annuities as a featured topic.

Funding the Spending Gap

Why might a simple annuity be helpful in retirement? For many households, the guaranteed income from Social Security (and a pension, if you’re lucky enough to have one) won’t cover 100% of basic living costs. A popular strategy to fund that essential-spending gap has been to move a chunk of money into cash and/or bonds to cover those living expenses for a few years.

Experts call this the “bucket approach,” with the money for near-term expenses parked in cash or cash equivalents and rest of your money in stocks. That way, you won’t have to worry about stock fluctuations affecting your ability to pay your bills in the near term, yet you can still capture stocks’ long-term growth to help your portfolio outpace inflation over time.

But cash and bonds aren’t the only option for your “safe money.” In fact, annuities can be preferable, Pfau says. In response to a question about using a bond ladder, Pfau noted that an annuity that delivers monthly income for life (and if you choose, the life of a spouse) is a more efficient way to generate guaranteed lifetime income. That’s because bonds in a ladder eventually mature, and you may not be able to reinvest at the same (or better) interest rate.

When another member asked about using municipal bonds or a ladder of certificates of deposit (CDs) to fund living costs, Pfau noted that, “both (are) struggling to compete with something that can provide guaranteed income.”

Pfau suggested considering using money from your current bond allocation to buy the annuity, because it replaces the bonds as an income generator. Following that advice will increase the portion of your remaining investment portfolio invested in stocks. Pfau said that can be smart, too. Because you’ll have your living costs covered with guaranteed income, you can afford to have more invested in stocks. “If we draw from our bond holdings to buy an immediate annuity, it can generally better support retirement spending,” he said.

For retirees, the case for income annuities becomes even stronger in today’s low interest rate environment, Pfau told MONEY in a follow-up email. This is because annuities’ payouts (known in the industry as “mortality credits”) are not affected by interest rates.

Annuities have another benefit to retirees as they age: even if you’re a do-it-yourself investor, “with cognitive decline, continuing to manage retirement income can be difficult,” Pfau noted. Annuities are easier to manage than bonds, since the latter require regular reinvestment as they mature, while annuities’ monthly checks continue without any effort on the recipient’s part.

Tapping Your Principal

Pfau also threw a bit of cold water on another popular retirement income strategy: investing in stocks and bonds with the intention of only spending the income they throw off. Retirees are often loathe to tap their principal, but they shouldn’t be, he says.

“When you invest for income, you start tilting to riskier parts of the market….you might have a higher dividend rate but you might be more exposed to capital loses and ultimately a lower sustainable income level.” Pfau suggested that a total return approach to retirement income could be a better way to go.

http://money.com/money/5649686/a-retirement-expert-says-annuities-are-better-than-bonds-for-guaranteed-income-heres-his-argument/

By Andy Ives, CFP®, AIF®
IRA Analyst

Question:

Hi Ed,

My question:

Is there any way to do a charitable distribution from my IRA before I reach RMD age? I am recently retired and 65 years old.

Thanks!

Marty

Answer:

Marty – The number-one requirement to be able to do a Qualified Charitable Distribution (QCD) is that the IRA account owner must be 70 ½ years old. We are not talking about the year in which you turn 70 ½, we are talking about actually being 70 ½. In fact, even on inherited IRAs, where the deceased account owner may have already reached 70 ½, it does not change the fact that the current account owner of the inherited IRA must also be 70 ½ before they can do a QCD. Indeed, you could take a taxable withdrawal from your IRA and subsequently donate the funds to charity, but it would not be a “QCD.”

Question:

Hi,

Can I make a QCD from my employer-sponsored plans 403b, 457 and federal thrift plans or only from my IRA plans?

Thanks for your help.

Answer:

QCDs can only be taken from IRA accounts. QCDs are also not available from active SEP or SIMPLE plans, but are allowed from inactive SEP and SIMPLEs. (The IRS defines an inactive SEP or SIMPLE as one that is not receiving a contribution for the year of the QCD.) If you have access to your workplace dollars, you are permitted to roll over all or a portion of those monies to an IRA and then take the QCD from the IRA. But be careful! If you are looking to offset the work plan RMD with a QCD, it can’t be done. RMDs cannot be rolled over. The plan RMD would need to be taken first. Then, anything above and beyond the plan RMD amount could be rolled over to an IRA where a QCD could then be done.

https://www.irahelp.com/slottreport/qualified-charitable-distributions-todays-slott-repot-mailbag

By Andy Ives, CFP®, AIF®
IRA Analyst

Hypersensitivity to caffeine – this is my affliction. So much so that I limit myself to one energy drink per week. It must be opened before noon and should be nursed for a minimum of 90 minutes. Any violation could result in me trying to paint my house with one hand while simultaneously trimming the hedges with the other. In fact, it was on a business trip several years ago when I first identified my biological caffeine reaction. Energy drinks were relatively new to the market and I consumed “a few.” Without ever going to sleep, I distinctly remember aggressively ironing a shirt in my hotel room at 4:30 AM, wild-eyed, wondering, “What is the big deal with these energy drinks? I don’t feel any effects. Now, what else needs ironing?”

Everything in moderation. ‘Tis the key to a happy and balanced life, they say. This also holds true in the retirement world. Here are a handful of items one must monitor closely and consume with great care:

60-Day Rollovers. We are permitted one 60-day rollover per 365 days. The one-per-year rollover rule applies to IRA-to-IRA and Roth IRA-to-Roth IRA rollovers. Rollovers not subject to the restriction include plan-to-IRA, IRA-to-plan, and Roth conversions. If a person violates the one-per-year rule, they will be stuck with a distribution and will have to deal with any taxes and/or penalties due. Direct transfers are better. Offload the caffeine side effects to the custodian.

Roth Conversions. Some people can drink coffee all day and sleep like a baby. Some people can convert $1,000,000 from a traditional IRA to a Roth in a single year and pay the taxes without blinking. For the rest of us, Roth conversions should be consumed in moderation. Be sure to understand the ramifications of a conversion prior to the transaction, because there is no way to reverse it later. What “stealth” taxes might a conversion create? Would a partial conversion be the way to go? It is not illegal to chug a gallon of Roth conversions in one sitting. However, sipping on conversions over a few years may well be a better choice.

Self-Directed Investments. Can I buy a beachfront condominium in Ft. Lauderdale with my IRA assets? Of course. Can I rent it out over the years and try to turn a profit when I sell it? Absolutely. Can my parents stay at the Ft. Lauderdale condo, even if they pay me rent? Nope. Prohibited transaction. Self-dealing. My entire IRA is now disqualified and deemed distributed. Now imagine if I had a dozen rental properties in my IRA along with an LLC that owned a local business. Without extreme oversight, the chance of me running afoul of the prohibited transaction rules has jumped exponentially. Nibble on IRA self-directed investments.

Peanut M&Ms. What if I bought a 2-pound bag of…oops, wrong article. Moderation here may well be impossible.

401(k) Plan Loans. Some 401(k) plans do not allow loans. Other allow multiple. The maximum amount you can borrow is $50,000 or 50% of your vested account balance, whichever is less. The loan typically must be repaid within five years. If you have two or three outstanding 401(k) loans, and your paycheck keeps getting dinged with automatic deductions to cover the repayments, it becomes a vicious circle fraught with potential defaults. Tread lightly. 401(k) plan loans should not be devoured like Peanut M&Ms.

Avoid being the over-caffeinated person in a hotel room aggressively ironing a shirt in the wee hours. Monitor your intake. Show restraint. Moderation is imperative.

https://www.irahelp.com/slottreport/moderation

By Sarah Brenner, JD
IRA Analyst

IRAs are for saving for retirement. However, as these accounts have grown over the years, many IRA owners still have significant funds in their IRA at their death. This means that estate planning for IRAs is essential. Effective estate planning for your IRA starts with your beneficiary designation form. Whoever is listed on that form will be considered the beneficiary of your IRA. You must give serious thought to who that should be. The outcomes will be very different depending on your choice.

Name your spouse. This is a very popular option and why not? For many people a spouse is the logical IRA beneficiary and this can be a good move from a tax and estate planning perspective. Spouse IRA beneficiaries have options that nonspouse beneficiaries do not have. A spouse can do a spousal rollover to her own IRA. They may also be able to delay required minimum distributions (RMDs) from an inherited IRA in some cases.

There is no federal requirement that a spouse be named as an IRA beneficiary the way there is for some company plans. However, in community property states you may be required to name your spouse as your IRA beneficiary unless a spousal waiver is obtained.

List your other family. This is another common choice and a good one. By naming a younger family member directly on the beneficiary form, you can maximize the stretch for RMDs after your death. Siblings are also a frequent choice for an IRA beneficiary and if named directly on the beneficiary designation form could take advantage of the stretch.

List a friend or neighbor. There is no requirement that a beneficiary be a blood relative. It is not uncommon to see friends, neighbors, or long-time partners who never happened to marry as IRA beneficiaries. All of these beneficiaries may qualify for the stretch if named on the beneficiary designation form.

Go with a trust. If you have a larger IRA or have concerns about controlling your money after your death, you might want to go with a trust. A trust can be especially valuable in cases where there are young children or those with special needs. If drafted properly to comply with the rules, it is still possible to get a stretch payout to a trust beneficiary when it comes to RMDs. However, trusts are complicated and expensive and should not be named as a beneficiary of an IRA unless there is a really strong reason.

Give to charity. A traditional IRA is a great asset to leave to charity. Why? Most traditional IRA funds are taxable and the charity can avoid those taxes. However, since a Roth IRA is generally not going to be taxable, it is a less favorable option to go to a charity.

Leave it to your estate. This is almost always a bad choice! This is because an estate is not a designated beneficiary under the RMD rules. So, if you name your estate on your beneficiary designation form, the maximum stretch of RMDs will be lost. Many times the estate becomes the beneficiary by default. This is because many IRA documents list the estate as the default beneficiary. If no beneficiary is named or if the only listed beneficiary predeceases the IRA owner, the estate will then become the beneficiary. Don’t let this happen to you. Be sure your beneficiary designation form is complete and up to date.

https://www.irahelp.com/slottreport/who-should-be-your-ira-beneficiary