The problem

A recent survey by MassMutual, a life insurance company, and Age Friendly Advisor found that 40% of retirees receiving Social Security wish they had waited to file for benefits until later. That’s because every year one delays up to age 70 the benefits incrase, and retirees may leave money on the table, depending on when they file for benefits.

Importantly, 60% of those surveyed got no advice on when to file, and “only 8% filed as the result of consulting with a financial advisor.”

Possible solutions

We have some powerful tools that can help you make the right decision if you haven’t yet filed to receive benefits. Even if you have already claimed your benefits and want to change your mind, you may have options.

A common way of looking at claiming benefits is by calculating one’s “breakeven” age, the age one must life to before the increased (delayed) benefits exceed the earlier-claimed benefits. So, one might calculate a breakeven age of 84, and decide to take benefits earlier because of a family history of poor health.

While this is one way to look at it for a single person, a married person must also consider the age of his or her spouse, and that complicates the breakeven concept, as there is a range of age combinations…and spousal benefits come into play.

Our tools take all of that into consideration and produce a matrix of age combinations that look like the chart above, where the wife’s life expectancy is on the vertical axis, the husband’s on the horizontal.

From that and more, the earliest claiming strategy is compared to other scenarios to consider lifetime benefits and arrive at a hopefully optimal claiming strategy. We would be happy to perform this analysis for you, we just need copies of Social Security benefit statements for both you and your spouse, which you may access at this link.

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It was a roller-coaster year, to be sure, but staying the course again proved to be a good strategy. Many investors responded to the COVID outbreak by moving to more conservative allocations.  Others cited the 2020 Presidential election and the narratives they created around it as reasons to change allocations. We continued to preach a sermon about sticking to long-term investment plans with rebalancing when investments strayed from their target allocations.

The quilt chart above shows the performance of six asset classes and a hypothetical 60/40 (stocks/bonds) portfolio. It showed the S&P 500 staying in the top three for the eighth year in a row, but the top-performing asset class was Emerging Markets stocks (EM on the chart). The 60/40 portfolio remained a good way to invest, muting, as it does the moves of the best and worst asset classes.

Going into 2021, our advice remains the same

Invest in a portfolio at the intersection of your risk tolerance, required risk, and capacity for risk, a subject explored in greater depth in this blog post.

This material is for general information only and is not intended to provide specific advice or recommendations for any individual. There is no assurance that the views or strategies discussed are suitable for all investors or will yield positive outcomes.

Investing involves risks including possible loss of principal. Any economic forecasts set forth may not develop as predicted and are subject to change.

There is no guarantee that a diversified portfolio will enhance overall returns or outperform a non-diversified portfolio. Diversification does not protect against market risk.

All performance referenced is historical and is no guarantee of future results.

All indexes are unmanaged and an individual cannot invest directly in an index. Unmanaged index returns do not reflect fees, expenses, or sales charges.

S&P 500 – The Standard & Poor’s 500 Index is a capitalization weighted index of 500 stocks designed to measure performance of the broad domestic economy through changes in the aggregate market value of 500 stocks representing all major industries.

Emerging Markets Index is a free float-adjusted market capitalization weighted index that is designed to measure the equity market performance of the emerging market countries of the Americas, Europe, the Middle East, Africa and Asia.  The MSCI EM Index consists of the following emerging market country indices: Brazil, Chile, Colombia, Mexico, Peru, Czech Republic, Egypt, Greece, Hungary, Poland, Qatar, Russia, South Africa, Turkey, United Arab Emirates, China, India, Indonesia, Korea, Malaysia, Philippines, Taiwan, and Thailand.

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Roth IRA Conversion – Mechanics and Strategy

• Consider converting a traditional IRA to a Roth IRA
• Roth conversions can be recharacterized (i.e. un-done)
• Combine conversion with recharacterization to maximize one’s flexibility

This is the time of year when we encourage clients and prospective clients to consider a Roth IRA conversion. Enough of the year is in the bag to allow a fairly accurate picture of one’s tax situation, with the help of a tax professional or tax planning software. That’s an important consideration, as a Roth conversion is a taxable event that will impact one’s income tax. If possible and with all other things equal, one should convert IRAs in years when one’s income is lower rather than higher. This short piece will look at the mechanics of the Roth conversion and at a Roth conversion strategy.

First, here are some benefits of having Roth funds in one’s retirement plan. This list is not exhaustive:

• Tax diversification. Since no one knows what tax rates will be in the future, having Roth funds can help mitigate that uncertainty. It provides an additional option when coming up with a retirement fund withdrawal strategy.
• Estate planning tool. Required minimum distributions (RMD) are not a feature of Roth IRAs, so, as compared to a traditional IRA, which does have RMDs, more wealth can be transferred to beneficiaries.

In a Roth IRA conversion, a traditional IRA is converted to a Roth IRA, and the amount converted is subject to income tax, which tax can be paid from within the converted IRA (called a tax-inclusive conversion) or from without (called a tax-exclusive conversion), the latter of which also includes a 10% penalty on funds used to pay the tax for an IRA holder younger than 59 ½. All other things equal, the tax-inclusive strategy is to be preferred, as the full balance is transferred to the Roth IRA. The Roth IRA offers tax deferral on any earnings in the account.

Some company retirement plans (e.g. 401(k)) may allow in-plan conversions to a Roth 401(k), but taxes on these conversions must be paid with funds from outside the plan.

Let’s look at a Roth conversion example. Jim expects his income in the current year to be less than usual, such that his federal income tax rate will be 25%. He elects to convert $50,000 of his traditional IRA to a Roth IRA, adding $12,500 ($50,000 x 25%) to his tax bill for the year, keeping himself in the 25% tax bracket.

Imagine, though, that the market declines after the conversion occurs, and Jim’s Roth declines in value by 20% to $40,000. If he had waited to do the Roth conversion until then, his tax bill on the conversion would have been just $10,000.

In this case, Jim can recharacterize his Roth IRA back to a traditional IRA, although he only has until October 15 of the year following the conversion, which is the latest date he can file his taxes. (If he already filed his taxes, he can file an amended return.) This recharacterization effectively undoes the conversion.

This presents a Roth-conversion strategy for folks considering same. Since Roth IRAs can’t be partially recharacterized, and since certain types of investments are more likely to be more volatile than others—stock investments more than bond investments, for example—several Roth IRAs can be created. For example, one could convert individual stock holdings to one Roth IRA (Roth #1); riskier asset-class investments to another (Roth #2); and bond funds to a third Roth IRA (Roth #3). Each of these Roth IRAs are likely to perform differently, and each can be recharacterized as and if needed.

• Roth #1 – performs well; account rises by 9%
• Roth #2 – emerging markets perform terribly; account declines by 22%
• Roth #3 – bond investments serve their traditional role of providing lower volatility; account rises by 3%

Assuming this occurs in time to recharacterize the Roth IRAs, Roth #2 would be recharacterized, while Roths 1 and 3 would continue. Then, after October 15, all existing Roth IRAs can be combined to reduce custodial fees, etc.

There are a couple of caveats to consider. Any Roth’s recharacterized back to traditional IRAs can’t be converted to Roths, again, until the later of 30 days or the next calendar year. Also, recharacterization is a limited-time hedge against a market-related decline. After October 15, recharacterization is no longer allowed.

As always, complex transactions and/or those that involve taxes should be discussed with competent professional counsel.

This information is not intended to be a substitute for individualized tax advice.

Roth IRA account owners should consider the potential tax ramifications, age and contribution deductibility limits in regard to executing a re-characterization of a Roth IRA to a Traditional IRA.

Traditional IRA account owners should consider the tax ramifications, age and income restrictions in regards to executing a conversion from a Traditional IRA to a Roth IRA.

Roth IRA withdrawals prior to age 59 ½ or prior to the account being opened for 5 years, whichever is later, may result in a 10% IRS penalty tax. Future tax laws can change at any time and may impact the benefits of Roth IRAs. Their tax treatment may change.

Bonds are subject to market and interest rate risk if sold prior to maturity. Bond values will decline as interest rates rise and bonds are subject to availability and change in price.

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