05 May Should I gift money or let my children inherit?

Q. I have about $1.9 million in IRAs and I own my house outright. Because I get a pension and I don’t spend a lot, I only take required distributions. How can I decide if I should start taking out more to gift to my three children now rather than have them wait for an inheritance?
— Planning ahead

A. We’re glad to hear you’re doing well financially.

There are several factors to consider here.

First, you cannot enjoy tax-deferred growth in your retirement account such as in an IRA forever because as you know, in most cases, the IRS requires you to take a Required Minimum Distribution (RMD) when you turn 72, said Deva Panambur, a fee-only planner with Sarsi, LLC in West New York and an adjunct professor of personal finance at Montclair State University..

Usually, he said, the RMD for any year is the account balance as of the end of the immediately preceding calendar year divided by a distribution period from the IRS’s Uniform Lifetime Table. The RMD is included in your income for the year and taxes are due as applicable, he said.

However, you can withdraw more than the RMD in any year and pay any taxes due on the withdrawal, he said.

“This allows for strategies such as the Roth conversion- which involves withdrawing money from your IRA in any year when your tax rate is relatively low and transferring it to a Roth IRA,” Panambur said, as long as you meet income requirements. “Once in a Roth IRA, you or your beneficiaries don’t have to pay taxes on any growth if certain conditions are met.”

Your question about gifting money to your children involves considering if, when and how you should do it.

“ You want to make sure that gifting will not put you in a situation where you are at risk of running out of money — while some expenses are reduced in retirement some others such as medical bills, travel and leisure expenses are higher,” he said. “On the other hand, if you are in good financial shape and your children need the money then you will of course want to gift now irrespective of the tax or other expenses.”

Assuming you have the flexibility to gift now or later, you will want to compare your tax rates — current and future — with your children’s tax rates to see if it is better to gift now or have them inherit the IRA after you pass away, Panambur said.

Inherited IRA rules were changed recently and the “stretch” option, which was the most tax efficient way for beneficiaries to withdraw money from an inherited IRA, has been done away with for most non-spouse beneficiaries, he noted.

If favorable, it may make sense for you to do a Roth conversion now and then withdraw and gift or bequeath the Roth IRA to your children, he said.

Estate and Inheritance taxes will also play a role in the calculation depending on how large your total estate is.

“Currently estate taxes are only due if the estate is larger than $12.06 million or $24.12 million for a married couple which is the lifetime exclusion for gift and estate taxes, however that is set to revert to less than half in 2026,” he said. “If you want to gift smaller amounts in your lifetime without eating into your lifetime exclusion amount, you can gift $16,000 to each of your children, which is the annual exclusion for gift taxes in 2022.”

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This story was originally published on May 5, 2022.

NJMoneyHelp.com presents certain general financial planning principles and advice, but should never be viewed as a substitute for obtaining advice from a personal professional advisor who understands your unique individual circumstances.