Castle Wealth Group

June 29, 2021

Why Isn’t a Roth IRA Tax-free For A State |Weekly Wednesday Wisdom Webinars

Certified Elder Law Attorney and Financial Advisor Chris Berry of Castle Wealth Group answers questions on retirement and estate planning every Wednesday at 1pm.

Want to join our live webinar? go to www.wisdomwebinar.com to register or give our office a call at 844-885-4200.

Want to book a 15-minute call with Chris Berry? Register at 15chris.com to book a schedule in his calendar.

Castle Wealth Group and Christopher Berry help families with estate planning, elder law, retirement planning, and tax planning from their offices in Brighton, Ann Arbor, Livonia, Bloomfield Hills, and Novi.

On this week’s webinar, attorney and advisor Chris Berry of www.castlewealthlegal.com answers the below questions.

• How do I fund my Roth?
• Can I use the money market to fund a Roth?
• Are the earnings you make on the Roth taxed?
• Should the tax paid for conversion to Roth be included in your overall tax return that year?
• Why isn’t a Roth IRA tax-free for a state? Doesn’t a person who inherits Roth skip paying taxes if under $3.5 million?
• I am 66, my wife is 68 and already taking Social Security, should I take mine now or wait?
• Do I need a trust to avoid probate?
• Are LLCs protected from lawsuits? If yes, should they be in a Castle Trust?
• We have an Asset Protection Trust, how much does it cost to have your firm qualify us for Medicaid if one of the spouses goes into the nursing home and we want to protect our assets for the well spouse and the children?
• What if we don’t have a Castle Trust, how much does it cost to qualify for Medicaid?

Visit our websites to learn more
https://michiganestateplanning.com/​​​​​
https://www.castlewealthlegal.com/home​​

Episode Transcript

All right we will go ahead and get started. My name of course is Chris Berry and we do these Weekly Wisdom Webinars to provide education. We used to do workshops a lot of times in our office or one of our different satellite offices. So this is our way to almost have like open office hours to talk legal financial and tax planning. And really it is driven by you your questions Igo ahead and answer. So if you do have questions please put them into the question and answer section. And I’ll go ahead and answer those and I always like to start this with a positive focus. Something positive happened the previous week, and for me, my kids are 10 and 8 and this is my first year coaching their soccer teams. So I played soccer from good soccer and basketball was my main thing from probably, kindergarten until I even played past college. I was playing indoor soccer and playing a lot of basketball. So sports have always been part of my life and my dad was a coach for a lot of my upbringing. He coached me in soccer and basketball and he was a coach at Oakland community college. He coached a community college basketball team. and coached my soccer team growing up. But now it’s great to kind of passing it on to the next generation. So my dad’s helping me with it and it’s great because not only it’s my dad who coached me but I’m also able to coach my son and daughter. And we had our first games this past Saturday. Unfortunately, we lost both but the kids had fun still enjoy the game and that’s what’s important at the end of the day. not to say I’m one of those everyone gets a participation award reward but kids worked hard and it’s great especially since they’ve never played together as a team. So that was pretty cool that was my positive focus and we’re looking forward to doing better maybe next week. 

So with that all right let’s get into the questions and answers. Let me share my screens give me a second. So I gotta hit this button and this button whoops oh no zoom change something on me. A plugin is required to share this interesting all right so give me a second as I’m updating because zoom updated something on me. Technology is great except for when they updated on you but now we should be good and we should be seeing my screen. So as always this is general information. If you want to see how this applies to your specific situation please make sure to reach out schedule some time. 

Just mention that you’re on the wisdom webinar and we can schedule some time feel free to give our office a call at 854200 or you can actually book about 15 minutes online by going to 15chris dot com. Which forwards you to a calendar link. So if you want to see how this applies to your situation please make sure to use those with that we’ll go ahead and get into the questions. And again if you do have a question and you did not submit one prior. Well, I guess even if you did submit one prior and you don’t see it here I didn’t capture it but if you do have any questions please put them into the question and answer. Ido see a question coming in with regards to so let me just make a note okay. So a couple of tax questions an income planning question and then a legacy or a state planning question were submitted this previous week. So the first question was how do I fund a Roth. So we’ve been talking about this idea of moving money into or understanding different tax buckets. Where we have things like your taxable buckets. This is where you pay tax on any growth potentially tax-deferred. This is like your IRAs 401 case income-tax-free this is like your Roths. Your IUL’s cash value life insurance and then we also have income and estate tax-free. This is something we’re talking more about as we get into like Bernie Sanders just had his 99.5 bills. I forget exactly what it was called it’s like something like that uh. But what it’s talking about is lowering that estate tax exemption to three and a half million dollars. Where if you have more than three and a half million dollars we need to figure out what are assets or what are ways that we can move assets to the estate tax-free bucket. Not just the income tax-free. So Roth fit in over here they’re in that tax-free bucket. Where the growth on the Roths grows tax-free along with cash value life insurance. IUL index universal life insurance 529’s HSAS. So how do I fund my Roth? Really there are two main ways to get money into a Roth. one is through Roth contributions. and there are certain rules around this and then the other is with regards to Roth conversions. Okay and again I’m not saying Roths are always the route to go but they’re the simplest to understand if you’re looking to get money into this tax-free bucket. Most people at least have a simple basic understanding of what a Roth is and how it’s invested in the market and it can grow tax-free. There are more advanced techniques but at least we should understand a Roth because it’s the simplest and a lot of times it’s the starting point of trying to create more tax-free income. Now there are two ways to get money into the Roth one is contributions. And contributions can only be done up to six thousand or depending on how old you are if you’re falling into the catch-up provisions. 

You can only contribute seven thousand dollars to a Roth IRA if your employer offers a Roth contribution you can contribute more to the Roth. But you are going to have contribution limits and you’re also going to have income limits on how much you can contribute to a Roth. And typically when we’re talking about contributions to a Roth. A contribution and I’ll use different colors. So whoops if we’re talking about contributions. Contributions are typically from a taxable bucket over to them tax-free. So this actually gets into the second question I actually broke the question out when someone submitted it into two. 

Really these are the same question of how do I get money into a Roth. So one would be through contributions so to answer this question yes you can do a contribution from a post-tax money market checking savings okay. So if you have say seven thousand dollars sitting in your savings accounts. plus whatever emergency fund whatever else. You can move that seven thousand dollars move it to a Roth if via a contribution. You do have to have earned income you have to be working to be able to contribute to the Roth. So you have to have earned income just like to contribute to an IRA you have to have earned income. Not income from like properties or something like that it has to be like earned income from wages. And then again there’s an income test where if you make too much in terms of income. Which is roughly about eight thousand dollars of income as joint married filing jointly your income barred from contributing to a Roth you cannot contribute to Roth. So there are certain restrictions around the contributions but think about it like this once you retire you can’t make contributions anymore okay. So then we have to focus on Roth conversions. So with Roth conversions, you can convert as much as you want okay. All you have to do is pay the tax okay. So if you wanted to do a 200 000 Roth conversion. You can do that and a Roth conversion is taking money from the tax-deferred accounts and now moving it to the Roth. So we move the money from an IRA to pay the tax and then now we have the money sitting in the Roth. Now when we do conversion the best way to maximize the amount in the tax-free bucket. Is to pay the tax out of the taxable account right. So let’s say we wanted to do a two hundred thousand dollar conversion. And we wanted this two hundred thousand dollar now to be inside of the Roth right. That’s maximizing the amount in this tax-free bucket which for a variety of reasons and we’ve touched upon this numerous times makes a lot of sense if you think taxes are going up in the future. So if we’re to move 200 000 from pre-tax to tax-free obviously the tax has to be paid. So ideally the tax is paid out of your taxable accounts. So I can’t do math in my head but let’s say we’re doing a two hundred thousand dollar conversion maybe the tax on that is forty thousand okay. We pay the tax from the taxable accounts that allow us to get the full two hundred thousand in the Roth. That’s the ideal way if we are doing a Roth conversion to maximize the amount in the tax-free account. But alternatively, we could really have the tax paid from the IRA as well but instead of having 200 000 sitting in the tax-free account. We would have roughly 160 000 if we’re moving roughly the same amount just ballpark. So but if you’re looking at maximizing the amount in the tax-free account then ideally you’d want the tax paid out of checking savings. You wouldn’t want the tax paid out of the conversion amount. 

So those are the two ways to get money into a Roth keep in mind a Roth is not the only tax-free vehicle. And I’m not saying it’s the best or worst or any better or any worse than any others it’s just one of the tools. We have other tax-free vehicles things like cash value life insurance health savings accounts 529s. All of those are tax-free and then something to remember is that a Roth is not tax-free for estate tax purposes. So if you are getting into this three and a half million dollar asset range. And you’re looking at what am I going to leave in terms of a legacy. We might want to focus on things that are income and estate tax-free. And this is where we could have things like irrevocable life insurance trusts and we have other strategies that are available right now. So if you do have an estate that’s going to be greater than three and a half million dollars there’s a limited window of opportunity before either Biden or Sanders gets any of their plans through or when the tax cuts and jobs act expires which is in 2025. So those were two kinds of Roth conversion Roth contribution questions again it’s a good idea to understand these different tax buckets taxable tax-deferred tax-free. Too often I sit down with clients who’ve saved all their money in a 401k pre-tax and all of their money is sitting in tax-deferred where there’s no tax diversification. If taxes go up the value goes down. A couple of questions here that came in with regards to the Roths how about converting 200 000 from a 401k to a Roth. you’re going to have to it’s gonna depend on the plan administrator. worst case we would roll 200 000 or roll money from the 401k out to an IRA and then do a Roth conversion if your employer allows for Roth contributions. While you’re working I would explore that because you could contribute not convert contribute up to roughly 19 000 and change to a Roth 401k. But when we’re looking at moving money into a Roth IRA. Typically we’re moving that from an IRA to a Roth IRA and a lot of times if you still have money at a traditional 401k. We would roll that money from the 401k out to an IRA and then would facilitate the Roth conversions are their earnings you make on the Roth taxed the answer is no from an income standpoint that’s what makes that tax-free bucket. So nice is that anything in the tax-free bucket whether it’s a Roth whether it’s cash value life insurance whether it’s 529s which have to be used for education or health savings accounts. Anything that grows inside of that Roth is income tax-free. It’s not state tax-free if you have an estate tax issue but it is income tax-free. So the gains are tax-free unlike the taxable bucket you may have capital gains or income tax on the gains and Isay may because there are certain exceptions depending on the amount of income your capital gains might not get taxed depending on if you’re looking at leaving this to the next generation you might get step up on basis so the kids or beneficiaries wouldn’t pay any tax on the gains. So the taxable account is sometimes tax. The tax-deferred account is always taxed and the tax-free account Roth from an income standpoint is never taxed other than it could be a state tax. More questions coming in on this should the tax paid for conversion to Roth be included in your overall tax return that year the answer is yes. You do have to pay the tax so if you convert a hundred thousand that’s going to be roughly say 20 to 30 000 worth of additional income. That’s going to show up on your tax return and a lot of people prior to maybe the last 10 years. The old thinking was you would always want to defer to fur paying taxes as long as possible but now that we know taxes are going up in the future. I would rather pay more tax now while tax rates are lower versus paying a higher tax on those pre-tax accounts. So again one of the biggest risks and biggest opportunities and it’s a window of opportunity that’s closing is looking at moving money out of those IRAs. Whether we’re moving it to Roth whether we’re moving it to cash value life insurance whether. We’re moving it even to a taxable account a big issue again I can’t stress this enough. If you have more than say 250 000 of pre-tax dollars. You need to think about defusing that ticking tax time bomb. another question why isn’t a Roth IRA tax-free for a state doesn’t a person who inherits Roth skip paying taxes if under three and a half million. So the Roth is income tax-free to the next generation. So when they inherit it they do not have to pay any tax but the Roth IRA factors into the estate tax and so the way the estate tax works is if you have less than x amount of dollars the government is going to take another swipe of your assets. So IRAs if you have more than three and a half million dollars could be double taxed not only taxed on the income for the kids who inherited but also on the state taxed as well. 

So the way estate taxes work right now the exemption is 11 million dollars. So as long as you have less than 11 million dollars you don’t have to worry about estate taxes and likewise your Roths would not be taxed. You would not have an estate tax on your Roths if your estate currently is valid at 11 less than 11 million dollars. Well this is only going to run until the tax cuts or jobs act expires which is scheduled for 2025 but Biden has run on a proposal repealing the tax cuts and jobs act. So what that means is that it’s just a matter of time where now this is dropping down to five million dollars okay. 

So again if you have Roth and you leave it to the next generation in your overall estate your life insurance your real estate is less than five million dollars you’re not going to owe any tax on your Roth nor will you owe any estate tax and then this we have the Bernie Sanders Biden tax proposal that just came about I think march 25th. They’ve talked about lowering the estate tax exemption even further to three and a half million and so if you were to add up the total value of the estate and counting your Roths it’s greater than three and a half million dollars. Let’s say it’s four million dollars now a chunk of this whether it’s Roth or not is going to get taxed at up to an additional 40 okay. So I’m not saying Roths are bad I’m just saying that we need to understand that yes they’re income tax-free and they make a lot of sense in terms of your retirement income but depending on the size of your estate Roths might not be the best option to leave things to the next generation. We would have to look at tools that could leave things as state tax-free as well as income tax-free all right. So that is all the questions I had email and submitted on the Roths and again Roth is not the only tax-free vehicle it’s just probably the most common easiest to understand depending on your goals. We might want to look at different directions like cash value life insurance which can be an increased death benefit that’s a state tax-free can be a long-term care benefit as well and tax-free income. All right number three I am 66 my wife is 68 and already taking social security should I take mine now or wait as an attorney and fiduciary and having to always act in someone’s best interest. I have to give you that boring answer it depends okay depends on a lot of different factors but one of the things that we do and this is important in terms of creating an income plan in retirement one of the things. We need to do is look at social security optimization all right and what we can do is if we have some basic information like what is your social security at full what would it be at full retirement age the dollar amount and then just looking in into life expectancy. We can actually run the numbers to see what is the way to maximize your lifetime payout from social security because if you don’t have a long lot of longevity in your family and you’re planning at passed away at age 75. Versus living to 100 well that’s going to affect maybe when we should take social security but this simple question of when to take social security actually affects a lot of different things because while on its face it’s affecting your income. Also, a big thing, when we’re talking about social security optimization, is if you turn on social security now what effect will that have on your tax plan right. So let’s say you retire at 66 maybe your wife’s already taking social security so just big picture one option is you flip on social security now okay and that might be the right answer from a social security optimization standpoint. If I’m looking at maximize the dollars I pull from social security but it may not make sense from an overall plan standpoint because if we flip on social security now well guess what that creates more income and if we’re talking about doing things like Roth conversions or moving money to cash value life insurance or just diffusing that ticking tax time bomb on the IRA. Well, that gives us less room to pull money out of that IRA right because now if we have additional income that’s going to affect the tax brackets and that means there’s less we can pull out of those IRAs. 

When we know taxes are going to be sooner. So if you flip on social security at 66 understand now we have additional income versus if we were to wait we could use age 66 to age 72 when now we’re forced to take money out of that RMD or IRAs that could be years. We could be pulling additional money out of the IRA to cover any income needs that you have but then also b to diffuse that ticking tax time bomb in those pre-tax accounts and c it allows your social security to continue to grow at roughly eight percent. And then by understanding when we’re going to start doing nothing on the IRAs that ties into our investment plan as well right. So if we know we’re going to be doing nothing on account sooner rather than later maybe it should be invested a little bit differently. So this is where I get a lot of different scenarios of ages and there’s an, I think there’s a study there are about 857 different combinations especially with married couples of how to structure social security and we have some sophisticated software run different proposals different options maximize social security. But the key thing is to understand that it fits into this overall plan of yeah obviously it’s going to be an income plan in retirement but also and this is a big opportunity is okay that’s going to help define what is our tax plan and then the third piece of it is okay now we’re going to know how to structure those investments. 

So social security is a very it’s very easy to just make a decision and flip on the switch but there’s actually a lot that goes into it all right do so that’s social security number four do I need a trust to avoid probate the answer is no so with regards to transferring assets upon death there’s four ways assets transfer one is through joint ownership. So join between a husband and wife or joint between anyone else join ownership with right of survivorship second would be through beneficiary designations so you have a beneficiary of your life insurance your 401k your IRA third would be through a trust and this is the route a lot of people go but if an asset doesn’t pass to one of the first three then it ends up in probate and that’s what we want to try to avoid at the end of the day. So do we need a trust to avoid probate the answer is no but depending on the situation? We might want to trust one of those reasons why we might want to trust is asset protection. So protection from creditors and long-term gear cost another reason we might want to trust protect the kids or beneficiaries another reason we might want to trust is helps keep things organized everything goes into one spot right. Some reasons why we might not want to trust a little more costly to set up some more of an investment. A little more complicated and really it’s just about figuring out what your goals are developing the best strategy. It’s not tied to the size of your assets your estate really at the end of the day it’s all about what is your goal. If you want to organize things you want to protect the assets you want to make sure what you leave the next generations protected probably want to trust. If you’re looking at okay what is the least amount of investment. What’s the simplest thing to do maybe you don’t want to trust but that’s where we sit down with clients to figure out what is their goal and then we develop the best strategies and then and only then do we get into talking about tools. So do I need a trust to avoid probate no but you might want to trust for other reasons alright. This was a question that was submitted is LLCs protected from lawsuits and if yes should they be in a castle trust. 

So this seems like a simple question but it’s a little more complicated than it appears just like a lot of these things you can go on the internet and see a simple answer to a simple question. But when you actually dig down into the details in the financial legal tax planning world there are lots of different exceptions and so it’s a little more nuanced than it may be may appear. So are LLC’s assets protected typically yes okay. So when we’re talking about asset protection we never want to make any guarantees there could always be. What we call bad fat cases where you don’t follow the rules of the LLC or the asset protection trusts. So never want to make any guarantees but that said my 15 years all of our LLCs and trusts have stood the test of time. So what is an LLC it’s a limited liability company? So an LLC is a limited liability company so that means it has to have some type of business interest. A lot of times we’re using LLCs for like second pieces of real estate that type of thing so think of an LLC kind of like a box and typically we’re using it when we’re dealing with hot assets. So a hot asset would be let’s say a rental property right. We have this rental property and then let’s say you have your own personal assets over here you have your home over here and your name and you have your investments over here right. And then you have this rental property and we call rental properties or business interests. They’re hot assets right we never know when there might be a slip and fall and now you’re sued because of that and we don’t want that liability coming over to you right so instead what we do is we might drop that hot asset into an LLC a limited liability company. So now if there’s some type of issue because of that hot asset. It can’t boil over into your own personal assets so a lot of times we do this with like rental properties. Now let’s also understand that that’s one-directional liability right so by setting up that LLC we don’t want the LLC coming after you. So by setting up the LLC we’ve protected ourselves from that liability right now the other form of liability is something that’s caused by you. So this could be two big things one would be a lawsuit let’s say you got in a car accident right and you were sued or you hit a school bus full of kids because of your own action someone or some entity can come after you personally now if you own that LLC in your name. That’s no different than owning coca-cola stocks so they would be able to come after your LLC. So LLC does not protect against your personal liability or the big one not only lawsuits but the big one is long-term care costs to the tune of the eight to twelve thousand dollars per month that a nursing home runs. If you have an LLC they might force you to sell that LLC to liquidate your interest because it’s a countable asset it’s no different than a creditor right. So that’s why not only do we do LLC’s but we also set up castle trust or asset protection trust to protect your personal assets your personal liability. All right so by setting up the LLC, we’ve insulated against the hot assets, and then by setting up the castle trust we have now protected the LLC from lawsuits creditors, etc. And so at the end of the day yes we would have your asset protection trust to protect against personal liability. We put things like your home in here your investments can go in here and your LLCs can go in here right and we wouldn’t want just the rental property in here because if something happens and it’s inside the true whoops. So if something happens to that that rental property that’s inside of the trust now they could come after everything inside of the trust right so that’s why we would have the LLC inside of the trust oops let me do it this way so now that hot asset like a business or real estate would be wrapped inside of the protection of the LLC and because it’s in the trust it’s protected from your own personal liability. So hopefully that answered the question yes when we’re doing LLC’s we’re also looking at asset protection trust because there are two forms or two directions for that liability. We have an asset protection trust how much does it cost to have your firm qualify us for medic aid if one of the spouses goes into the nursing home and we want to protect our assets for the good spouse and the children. 

So when we set up a castle trust or asset protection trust one of the goals is to make it five years before we need any type of nursing home care and then if we have then everything inside of that trust would be protected from that nursing home or medic aid spend down. So ideally if everything gets funded into the trust and we have all the assets in the trust and we make it five years and then all of a sudden we have a stroke or need nursing home care then 100 of what’s inside of the trust would be protected from that nursing home or medic aid spend down. So we wouldn’t charge anything because there really isn’t anything to do all you have to do is fill out a four-page medic aid application. So that’s one of the advantages of setting things up ahead of time of planning ahead is that if you were to need nursing home care everything is structured. 

So that ideally it’s just a simple medic aid application and then you’re done very different than doing nothing and having our firm try to scramble at the last minute to do medic aid crisis planning which easily could add up to two and a half months worth of nursing home costs for us to do it because now instead of a four-page or six-page medic aid application. 

Now when we have to do a medic aid crisis plan a lot of times. It’s 150 pages of documents that we have to submit along with the medic aid application documenting every step of this confusing crazy illogical process to get someone qualified for medic aid within that five-year look-back period. So again the goal is the earlier we start thinking about these things the earlier we start putting things in place the more options. We’re going to have and better outcomes than a lot less of an investment. So that is all the questions I have submitted. So if you do have a question or something floating around in your head I still have some time left feel free to put that either into the Question and Answer section or the chat section and we’ll give it just another minute and in the meantime, I will be thinking about what we’re doing for practice tonight with my under 11 boys. question what if we don’t have a castle trust how much does it cost to qualify for medic aid doing the medic aid crisis planning. Typically you’re looking at a fee for us to do it of about two to three months worth of nursing home care and it kind of depends on single versus married but it’s much more cost-effective to set up a castle trust ahead of time versus us having to do that medic aid crisis plan. And the investment might sound like a lot but if I can save two hundred three hundred thousand dollars from going to a nursing home at the last minute then this can be the best investment you’ve ever made. If you are in that situation so again much prefer to do the planning ahead of time protect things it’s a lot simpler a lot more cost effective. But I completely understand there’s procrastination and sometimes I have families say hey I wish that we knew about you years ago. So we don’t like to do the medic aid crisis planning but we understand that we have to do it and we’d much prefer to plan ahead because then we can protect more much simpler all right. Any other questions going once go on twice all right. Well thank you, everyone, try to stay warm out there I was out there coaching soccer last night and it was freezing a warm shower. Felt amazing It’s one of the joys in life but with that, I want to thank everyone all right make it a great week take care.