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2019 Changes to Income Related Medicare Premiums

By Justin Fundalinski, MBA | July 20, 2018

HSASeveral years ago, I wrote an article about the changes coming in 2018 on income related Medicare premiums. Better known as the Income-Related Monthly Adjustment Amount (or IRMAA), this provision of Medicare rears its head and increases Medicare premiums as individual or couple’s income rises. It’s essentially an added tax, or a way to help fund an underfunded Medicare program.

In the article I discussed the coming changes and how the income thresholds used to determine whether someone is subject to increased Medicare premiums are normally adjusted for inflation. Generally, as a retiree’s income naturally grows due to inflation they are not forced over higher thresholds and thus higher Medicare premiums. At the time of the article those brackets had been intentionally frozen (under the Affordable Care Act) to slowly force more people into higher premiums between the years 2011 and 2019.  However, while the thresholds are still frozen (and always subject to extension), the Bipartisan Budget Act of 2018 (Trump Tax Reform) made some notable changes that require an update and some review.

Changes as of 2018 Bipartisan Budget Act

Most notably, the Bipartisan Budget Act of 2018 piled on top of the changes that took effect in 2018 and added an additional threshold/tier of surcharges that will be introduced in 2019. Currently, there are five different Medicare premium levels based on the income levels of the Medicare recipient. In 2019 there will be six.

The graph above outlines the transgression of Medicare Part B premiums from 2017 through 2019. It illustrates what premium you would pay in 2017, 2018, and 2019 dependent on the amount of Modified Adjusted Gross income you have. You can see how from 2017 to 2018 the thresholds that force people into higher Medicare Premiums began to be compressed into lower thresholds once income was greater than $133,500 (this was discussed in detail in the previous article). From 2018 to 2019 they will be maintaining those compressed thresholds but also adding a new tier of premiums once income is beyond $500,000.

Married Filing Jointly

What is interesting about the new 2019 brackets is when you look at them for someone who files their taxes married filing jointly. In all previous cases, the thresholds illustrated here for a single filer would double for a married couple. However, to reach the highest threshold in 2019 as a married filing jointly person your income will have to be greater than $750,000 (not $1,000,000 had the normal trend followed suit). That’s only a 1.5X increase instead of the normal 2X.  I interpret that as a penalty for being married.

Although, this won’t affect most households it is important information to know. Why? Well if these thresholds continue to be frozen, then over time more and more people will be forced into higher premium levels simply because their income grew with inflation (this is above and beyond the normal adjustment for increased insurance costs).  Currently, the thresholds are scheduled to begin getting adjusted for inflation again in 2020, however I wouldn’t count on it. My argument on why I believe this is thoroughly outlined in a previous article I wrote in 2016 called, “Trickle-Down Taxes” In this article I argue how sneaky policy that is presented to tax the rich is really designed to very slowly increase taxes on the masses.

If you have any questions or comments on this article, please feel free to reach out to the office.

Social Security and the Tax Torpedo

By Justin Fundalinski, MBA | June 21, 2018

tax torpedoIn a previous article I discussed in detail the intricacies of how Social Security gets taxed. In some cases no Social Security income is taxable while in others up to 85% of Social Security income is taxable. Because of the unique way Social Security income phases into taxation, there is a “window” when every additional dollar from other income sources drags more Social Security into taxation. During this window, since every additional dollar of income creates more taxable income (in the eyes of the IRS), the effective tax rate on this other income sky rockets.  This effect is often referred to the Tax Torpedo and offers unique retirement planning opportunities.

How does the tax torpedo work?

Unfortunately, this is a very difficult concept to grasp, however if you think about with an example it is much easier to understand.

Remember, zero to 85% of your Social Security can be taxed, but what determines if none or some is taxed depends on how much other income you have. For this example, assume you have Social Security income and other income that is just low enough so that none of your Social Security income is being categorized as taxable income.

Now, imagine you need to dip into your IRA assets for an unexpected $1000 expense.  At this point, most people would assume that this withdrawal will simply cause them to have an additional $1,000 of taxable income; however, this is far from the truth.  Because of how Social Security phases in as taxable income, this $1,000 withdrawal from your IRA causes $500 of your Social Security to magically be taxable.  So, now instead of paying tax on $1,000 at your marginal tax rate, you now must pay tax on $1,500 at your marginal tax rate.

It gets worse too. The above example essentially dragged in 50 cents of Social Security income into taxation for every $1 of additional other income. As you add more income to the equation it will eventually hit a breakpoint where 85 cents of Social Security income is dragged into taxation for every $1 of additional income. Fortunately, the maximum 85% of your Social Security will eventually be subject to taxation and the window will close on this tax torpedo.

What will my effective tax rate be for each additional dollar of other income?

As with most things in life the answer to this question is, it depends.  It depends on what breakpoint you are at (50 cents or 85 cents of Social Security being dragged in as described above), as well as what your marginal tax rate is.  However, I can quickly summarize the effective rates depending on all these variables.

  • If 50 cents of Social Security is being dragged in for every dollar of other income this will increase your tax rate by 50%. That is, if your marginal tax bracket is 0%, 10%, or 12% then each dollar of new income will now be taxed at 0%, 15%, 18%, respectively.
  • Similarly, if 85 cents of Social Security is being dragged in for every dollar of other income this will increase your tax rate by 85%. That is, if your marginal tax bracket is 0%, 10%, 12% then each dollar of new income will now be taxed at 0%,19%, 22%, respectively.

Yikes! It is very possible to pay a 22% tax on an IRA withdrawal when you are in the 12% bracket.  How can this be fair?  Think about it like this, Social Security is still tax advantaged, however, it gets ugly during the window of income when these benefits get phased into taxation. It’s better to have tax advantaged income than 100% taxable income, right? Also, armed with this knowledge a savvy pre-retiree or early retiree can potentially take advantage of how these tax rules work.

How can I plan around the tax torpedo?

There are many ways to plan around the tax torpedo.  For some, there maybe minimal opportunity and those people simply must deal with the fact that 85% of their Social Security will be taxed. For others, a strong and disciplined IRA distribution and Roth conversation strategy coupled with appropriate Social Security claiming strategies can save thousands in taxes as well as increase the amount of tax advantaged income generated from Social Security.  If you would like to discuss in more detail how the tax torpedo could affect you personally, please reach out to our office.

Sequential Risk

By Justin Fundalinski, MBA | May 20, 2018

sequential risk“Sequential risk” or “sequence of returns risk” is a well-defined and highly discussed term in the retirement planning and investment industry. Under certain circumstances it can be one of the largest risks pre-retirees and early retirees face. Much of the basis of our firm’s retirement planning strategies is formed around managing this risk, and the highly recognized “4% withdrawal rate rule” was developed in lieu of this risk. Unfortunately, many who are reaching retirement or already retired simply don’t understand sequential risk, and do not place enough weight on managing it effectively. In this month’s article I intend to define in simple terms what sequential risk is and hopefully inspire people to take action.

What is Sequential Risk?

A little thought experiment will help describe how the sequence of returns makes a difference. Imagine your portfolio averages a 6% return over 5 years. Now imagine you have $1,000,000 invested but you need to withdraw $100,000 per year over the next five years.

We all know that you will never get an easy 6% every year and one year your portfolio can be up big while other years it can suffer losses.

You have a choice between two options that will return annual rates as follows:

Both options return the same average return of 6% year over the 5-year period and have the exact same return rates, however the year the returns occur are reversed. If you simply invested the $1,000,000 for the five years your total return and portfolio values would be exactly the same both options.

However, if you need to withdraw money yearly, the ending value of each option is drastically different. In these cases, when you start with $1,000,000 and need $100,000 each year, Option A ends with a total value of about $818,000 while Option B ends with a total value of about $671,000. Option A is 22% greater than Option B and the only difference is when the returns occurred not the size of the returns! This is sequential risk and once withdrawals begin being taken from a portfolio it becomes a reality.

That all said, you can now hopefully see why people who had retired before or close to the market downturn in 2007 and 2008 (and thus were withdrawing funds from their portfolios to meet their income needs) were negatively affected and quite possibly in the long run bad timing could ruin their retirement prospects.

When Does Sequential Risk Impact You the Most?

Without hesitation I can say the actual impact of sequential risk is at its greatest level in year one of retirement. The reason behind this a because day one of retirement is when withdrawals begin from the portfolio (withdrawals being what subjects retirees to the risk itself – as described above) and because the portfolio must last for its longest period of time (30+ years of retirement). However, and with emphasis, the actual sequence of returns leading up to retirement cannot be ignored because they play into the portfolio value for years after they occurred.

Negative or bad returns leading up to retirement can and will undoubtedly subject retirees to sequential risk if a portfolio does not have time to recover before withdrawals being. That said, depending on your level of conservatism, pre-retirees should start addressing sequential risk at least 7 years before withdrawals will be needed and retirees can start phasing out the worry of such risk around 7 years into retirement as the portfolio won’t have to last as long anymore.

How Can Sequential Risk Be Addressed?

Addressing sequential risk can be done in many ways and the strategies vary for every person depending on how exposed they are to the risk as well as their personal investment philosophies. Getting into the details is outside the scope of this article, however we highly recommend some in-depth retirement planning be done in advance of addressing the risk itself (hence why we recommend advance retirement planning 5-10 years prior to retirement).

It is important to identify expenses that make up your minimum dignity floor which cannot be reduced during down markets. It is important to accurately project income sources such as Social Security, Pension, and Annuities that are guaranteed to always be paid. It is important to project the size of withdrawals needed in relation to your total portfolio. It is important to consider longevity and health concerns. Everybody is different and there is no one size fits all answer to this question, but effectively managing downside risks on funds needed early in retirement is necessary.

If you have any questions regarding this article or would like to discuss your exposure to sequential risk, please feel free to set up a meeting with us.

QCDs Instead of Cash Donations

By Justin Fundalinski, MBA | April 20, 2018

QCDWith the new tax law doubling the standard deduction it is going to be much harder to itemize your tax deductions. Unfortunately, for those who give to charities this change may cause their charitable gifts to be far less valuable from a tax prospective. However, there is an excellent way to give to qualified charities as well as reduce your taxable income if you are over 70½. If you haven’t already, it’s time to start making Qualified Charitable Distributions (QCDs) from your IRA.

What is a QCD?

Technically, a QCD is a direct transfer of IRA funds payable to a qualified charity.  Less technically, it is a charitable donation that is paid from your IRA account.

What are the benefits of a QCD?

QCDs come with enormous tax benefits:

  • First, they are distributions from your IRA that are completely tax free. The “deduction” for

a QCD is taken on the first page of your 1040. That is, your total taxable distribution from your IRA is simply reduced by the amount of your QCD.  There is no need to itemize this deduction, and there is no special schedule for you to file (simply appropriate reporting)

  • Second, they count toward your Required Minimum Distribution. If you ever felt burdened by the taxation of Required Minimum Distributions this is a great way to offset those pesky taxes.
  • Third, it lowers your modified adjusted gross income figures which can reduce the taxation of Social Security as well as reduce your Medicare premiums.

What are the rules for making a QCD?

There are a few guidelines that must be followed for a QCD to be eligible:

  • You must be 70½ or older. That is, Required Minimum Distributions have become a part of your normal life.
  • Your QCD must be made to a 501(c)(3) organization. Funds distributed directly to you and then given to charity do not qualify as a QCD. Private foundations, donor advised funds, and supporting organizations do not qualify.
  • For a QCD to count towards your current year’s Required Minimum Distribution, the funds must come out of your IRA by your Required Minimum Distribution deadline. Amounts above and beyond your Required Minimum Distributions do not count toward satisfying a future year’s Required Minimum Distributions.
  • The maximum annual amount that can qualify for a QCD is $100,000. This applies to all QCDs made in a calendar year, not for each individual charity. If you file taxes jointly your spouse is also eligible for $100,000 of QCDs.
  • QCDs are allowed from inherited IRAs, however you must be still be over 70½ to be eligible.
  • QCDs are limited to the amount that would otherwise be taxed as ordinary income. Basically, this rule excludes non-deductible/after-tax contributions that you may have made to your IRA which would be received back in a tax-free manner anyway.

What do you need to watch out for?

If you are following all the rules listed above, there is likely only one major thing to watch out for. Your IRA custodian does not report your QCD distribution in any special format to notify the IRS that you made a QCD. That said, your 1099-R will reflect the full distribution from your IRA and will show it as a taxable. It is up to you to let your tax professional know that you made QCDs so that they can report the distribution appropriately to the IRS.

If you would like to learn more about QCDs or how you make QCDs, please feel free to reach out to us directly at the office.

The Tax Void

By Justin Fundalinski, MBA | March 20, 2018

tax voidConsidering the reader base of this newsletter, I assume most reading this are attempting to be  good savers for retirement and are patting themselves on the back each year for peeling off portions of their earned income to save into 401(k)s and IRAs, all while reducing their current year’s tax bill.  I commend you for your discipline and urge you to look even deeper into the future.  As we all know the only thing guaranteed in life is death and taxes. While we can’t help you with death (perhaps my wife could as a Board Certified Palliative and Hospice Nurse Practitioner), I do think we can help reduce the tax liability you are creating for yourself in the future when you defer those taxes by saving into accounts like 401(k)s and Traditional IRAs.

What Is the Tax Void?

We have coined another term in the office called the “tax void.”  As eloquently as possible, it is defined as the period of time between retirement and age 70[1] when retirees have the most discretion over where their income sources are coming from and thus they have the most control of their tax liability.  By “where” I mean what type of account they are debiting from(qualified or non-qualified, taxable or not taxable, etc…) as well as whether or not they are deferring  income from Social Security, Pension, and/or annuities.

As an extreme example, if somebody could delay taking withdrawals from 401(k), Traditional IRAs, or other similar tax deferred retirement accounts as well as defer their taxable income sources like Social Security and pension income, then they would enjoy a temporary luxury of not having to pay any taxes between retirement and age 70. While most people don’t have the ability to have such complete discretion, most people do have some discretion and such discretion can create a tax void (although maybe not as deep as the one made in my extreme example). However, simply avoiding paying taxes during this time period is the worst choice a retiree can make because of how short sighted it is (more on that soon).

Creating a Bigger Tax Void

Creating the opportunity to have a large tax void is probably the most difficult step in this type of tax planning, but it essentially comes down to one thing – tax diversification of retirement savings.  Tax diversification simply means how one is allocated between different types of accounts based on how withdrawals will be taxed when they take distributions from the account.

For Example:

All income from a Traditional IRA will be fully taxed as ordinary income; however, income from a non-qualified account is taxed based on how much gain was taken (as well as taxes at capital gains rates), and funds from a Roth IRA or 401k are not taxed at all.  Unfortunately, because everybody does such a good job of avoiding taxes today by saving into their 401(k) and/or Traditional IRA, the vast majority of people tend not have much in the way of tax diversification later. If it makes sense from a long-term tax perspective, saving into other types of accounts such as Roth IRA’s or Non-Qualified (Taxable) accounts will enhance your tax diversification when you retire and provide the opportunity for a greater tax void.

Filling the Tax Void

As most know, we are taxed in a tiered fashion. The first chunk of taxable income is taxed at 10%, the second chunk of taxable income is taxed at 12%, the third at 22%, and so on. As I mentioned earlier, simply avoiding paying taxes during a tax void is a bad idea. Knowing which of these tiers (or tax brackets) will be filled up entirely by income that is not discretionary once you reach age 70 is very important when it comes to filling your tax void appropriately.

For Example:

If you know that your Social Security and Pension income will fill up your 10% and 12% brackets fully at age 70 then you also know that all your Required Minimum Distributions (forced distributions for tax deferred retirement accounts) will be taxed at least at 22%. Now if you know that all your withdrawals or Required Minimum Distributions from your Traditional IRA’s or 401(k)s is going to be taxed at least at 22%, it’s probably a great idea to get any money out of those accounts at a lower tax rate whenever possible. When is it possible? During the tax void!

Roth Conversion strategies combined with other withdrawal strategies make this very achievable. The effect is that you will have less money in tax deferred retirement account, causing you to have smaller Required Minimum Distributions. This in turn causes you to have less income taxed at higher rates as well as more overall tax diversification.


Trust me when I say that while there seems to be a lot of moving parts here this is only a 30,000-foot view of the amount of detail that must be accounted for when trying to create and fill a tax void. If you are looking for ways to ultimately decrease unnecessary Required Minimum Distributions and the associated taxes, or are just simply looking to minimize taxes in retirement please reach out to me for additional information.

[1] Why age 70? Age 70 is the longest you can delay your Social Security benefit. At age 70½ Required Minimum Distributions on tax deferred retirement accounts begin.

NUA – When You Have Employer Stock Held In Your Retirement Plan

By Justin Fundalinski, MBA | February 20, 2018

NUAAdmittedly, this overview of Net Unrealized Appreciation (NUA) is designed to be quick and concise.  There are far too many tangents that can be covered in a simple newsletter such as this, and the point of this article is not to educate you on every detail, but to get you thinking whether taking advantage of NUA makes sense financially.

What is NUA?

NUA is the Net Unrealized Appreciation of employer stock held in an employer retirement plan which under IRS rules allows you to be taxed outside of the retirement plan at preferential long-term capital gains rates rather than at ordinary income rates. What’s all that jargon mean?  If you have a qualified retirement plan at your employer that holds stock of that company, you just might be able to save yourself on some taxes.

What is the tax treatment of NUA?

Taxation of NUA distributions is made up of three parts.

  • First, any cost basis is taxed immediately as ordinary income upon the initial distribution. In this case cost basis is the value of the shares when initially purchased in the employer plan. Note: this portion could be subject to a 10% early withdrawal penalty.
  • Second, the NUA gain is taxable at long-term capital gain rates when the shares are sold. NUA gain is the difference between the cost basis (as defined above) and the actual value of the shares when they are distributed from the employer plan. Long term capital gains rates are 0%, 15%, and 20%.
  • Third, the post distribution gains are taxed at long or short-term capital gains depending on your holding period. That is, they could be taxed at capital gains rates or as ordinary income.

Notably, there are some other rules in the tax treatment of the NUA Gain portion.

  • NUA gains can be deferred but will eventually be taxed. These gains are not eligible for a step-up in basis at death.
  • NUA gains are not subject to the 3.8% Medicare surtax on net investment income.

How do you qualify for NUA tax treatment?

There are a few rules that you must abide by to qualify for NUA tax treatment.

  • You must distribute your employer stock from the employer plan “in-kind.” That is, you cannot sell the stock within the plan and transfer cash outside of the plan. You must move the actual shares. If you cannot move the shares you cannot use NUA.
  • You must distribute the entire account balance at your employer during a single tax year. That is the employer plan must have a zero-balance come December 31st. Where those dollars end up is up to you.  You can, for instance, move all or some of the employer stock to a non-qualified account to take advantage of NUA tax treatment, and move all other holdings to an IRA. There is flexibly here which opens the doors to various planning options.
  • The lump-sum distribution (a full distribution of the account in one tax year) must be made after a “triggering event.” Triggering events are death, disability (self-employed only), separation from service (non-self-employed only), or reaching 59½.  These are all independent triggering events so if you missed your opportunity for one, all is not lost.  For example, if you retire at 55 and take only a partial distribution to fund a vacation the year after retirement you just lost the opportunity to use NUA under the separation from service triggering event. However, you could take the full distribution once you reach 59½, or your children could take it after your death and use the NUA tax treatment.

What are the pros and cons?

The Pros:

  • Usually it is very appealing in the near term from a tax perspective as you may be able to realize income/assets out of a retirement plan at much lower tax rate.
  • It is not an all or nothing deal. You can pick and choose specific shares of employer stock to benefit yourself the most. This allows for substantial flexibility in planning.

The Cons:

  • It may not be as appealing in the long term from a tax perspective as you lose tax deferral and you force immediate taxation on the cost basis portion of the asset (as well as ongoing taxation of dividends and capital gains).
  • Often, benefits are highly driven by only two variables.
    • Cost basis in the account.
      • Low cost basis shares are far more beneficial than high cost basis shares. Just because you have NUA does not mean it is of value.
    • Unknown time horizon.
      • Will immediate tax benefits outweigh the benefits of tax deferral? Depends on how long you live.

It is important that you don’t engage in NUA transactions with out an immense amount of forethought and planning.  If you have any questions or if you are interested in our opinion on your NUA scenario please contact us directly.


What the Tax Bill Reform Means to You

By Justin Fundalinski, MBA | January 20, 2018

In the most overtly sarcastic manner, I’m sure that you are all clamoring to read the new 1097 page Tax Cuts and Jobs Act. Lucky for you I have been actively reading through the portions of it that will affect most people. Below are some bullet points you can peruse through, but if you really want to get in to the dirt the full bill can be found here.

Tax Rates:

The number of marginal tax brackets was reduced from seven to…. wait a minute… seven. Although the number of brackets did not change, the numbers behind the brackets have changed through 2025. See below:


Standard Deduction:

The act drastically increased the standard deduction. This is likely where all the verbiage for “simplifying” the tax coded came from because it effectively reduces the number of people that need to itemize their deductions. (In my opinion, I never thought itemizing was all that difficult so I can’t say filing your taxes got any easier). Through 2025 the standard deduction is:
o $24,000 for married taxpayers filing joint returns
o $18,000 for heads of household
o $12,000 for all other individuals.

Personal Exemptions:

While the standard deduction went up, personal exemptions were repealed through 2025. Personal exemptions can no longer be claimed. In 2017, the personal exemption amount was $4,050, per exemption (you, your spouse, your dependents, etc…).

Passthrough Income Deduction:

Individuals will be allowed to deduct 20% of “qualified business income” from a partnership, S corporation, or sole proprietorship. Additionally, this deduction will apply to qualified real estate investment trust (REIT) dividends, qualified cooperative dividends, and qualified publicly traded partnership income. For the sake of keeping things brief in this article cannot go into details on this deduction, but if you are a small business owner you may be affected by this.

Child Tax Credit:

The act increased the child tax credit from $1,000 per child to $2,000 per qualifying child. They capped the refundable portion (the portion that you get whether or not you owe taxes) at $1,400. This credit also now begins to phase out at $400,000 for married filing joint tax payers, and $200,000 for other tax payers.

In my opinion, people that have children under the age of 17 should see this as a big win. Credits are always far better than deductions and the fact the credit doubled in addition to more people being eligible for it with the increased phase outs is going to make a big difference come tax time.


For any divorce or separation agreement executed or amended after December 31, 2018, alimony and separate maintenance payments are no longer deductible by the paying spouse. That is, if you’re paying alimony you (instead of your ex-spouse) will have to pay the taxes on it, and if you’re receiving alimony it will be tax free income to you.

The act essentially reverses the way alimony payments are treated for tax purposes. But if you think about it, there will be more taxes payed on the same amount of income earned. Generally, the one paying alimony is the higher earning spouse, and if that is income is now taxable at their higher marginal rates then more tax will be collected.

IRA Recharacterizations:

You can no longer undo a Roth conversion. A lot more upfront planning will need to be done when before you do a Roth conversion. You will no longer be able to figure out the appropriate amount to convert come tax time in April, rather you will need to figure it out before December 31st (a time when you might not have all the info you need to decide how much would be appropriate to convert).

Sale of a Principal Residence:

Although there was much talk about changing the rules behind the exclusion of capital gains on the sale of a principal residence, nothing was changed here. Phew!

Itemized Deductions:

Although most people won’t need to itemize their deductions anymore because of the increased standard deduction, there were various changes to itemized deductions. Here are a few of the bigger items:
The overall limitation on itemized deductions was removed through 2025.
Mortgage interest deduction was modified to reduce the limit on acquisition indebtedness from $1,000,000 to $750,000.
You can no longer deduct home equity loan interest.
State and local tax deductions are limited to $5,000 ($10,000 for married filing joint)
Miscellaneous itemized deductions subject to the 2% floor have been repealed.
The threshold for deduction medical expenses was reduced to 7.5% of adjusted gross income for 2017 and 2018.

Can an HSA be a Retirement Account?

By Justin Fundalinski, MBA | December 22, 2017

HSAHealth Savings Accounts (HSAs) are very interesting from a tax perspective.  Compared to well-known retirement account types (for example – 401k, IRA, Roth IRA, etc.)  HSAs are the only accounts that are tax deductible in the year you contribute to them, that have tax free growth as you defer them, and are tax free when you withdraw from them. They are what we call “triple tax-free.”  Unfortunately, far too many people do not recognize the benefits of these accounts from a tax perspective and how they can be used to generate tax advantages in the future. This month’s article will address the basics of what an HSA is as well as some general planning points that should be considered when using an HSA.

The Common HSA Approach:              

A very standard approach of a HSA is to use it as a means to fund current medical expenses in a tax free manner.  Most often people place money in a HSA account on a tax free basis and then withdraw it tax free shortly thereafter (relatively) when health expenses are incurred.  While this method is better tax treatment than using a normal medical expense tax deduction (which is limited to 10% of your Adjusted Gross Income), it is not necessarily the best way to take advantage of HSA tax benefits because it only takes advantage of two of the three tax benefits associated with these accounts and forgets about one of its greatest advantages – tax free growth.  As we know, growth takes time and the HSA is not allowed the time to grow this benefit if forgone.

HSAs for the Long Run:

HSAs should be earmarked for medical expenses, however unlike their Flexible Spending Account (FSA) counterpart, HSA contributions are not “use it or lose it” come January 1st.   There is no expiration date on HSA contributions and the funds can remain in the account for an extensive period of time[1]. Fortunately (or maybe unfortunately) medical expense are pretty much guaranteed to be a large part of future retirement expenses and just like we save for future expenses in retirement in accounts like IRAs or 401(k)s, we should save for future medical expenses in HSAs.  Saving in an HSA for an expense that is far into the future allows you to take advantage of the “triple tax-free” aspect of these accounts.

HSA Distributions:

If you withdraw funds that do not qualify as medical expenses you will pay ordinary income taxes on these funds, and if you are not older than age 65 when this “non-qualified” withdrawal occurs there is also a 20% penalty.  Wait – did you read that right? The penalty only occurs if you are younger than 65?  That’s right! So, even if you didn’t use it for medical expenses you could still benefit from the tax free growth similar to how a Traditional IRA works minus those pesky RMDs[2].

Of course, it would be better to use it for medical expenses and avoid taxes entirely, but if you already appreciate the value Traditional IRAs bring to retirement planning, viewing HSAs from this stand point emphasizes that tax deferred growth maybe your worst case scenario as long as you can defer withdrawals beyond age 65.  Considering this, I could easily argue that in many cases it would make more sense to max out an HSA before you max out other retirement accounts because of the high potential that medical expenses will occur throughout retirement and the “triple tax-free”  benefit will then be taken advantage of.

No Time Frame on Qualified Medical Expenses

Strangely enough, under current law, there is no time frame as to when qualified medical expenses need to be incurred compared to when the withdrawal from an HSA must occur. That is, if a medical expense was incurred this year but an HSA owner waited to take the distributions from the HSA for 20 years this would be perfectly acceptable as long there is proof of the expense and no tax deductions had been taken on the expense previously.  Extrapolating this loophole, one could essentially save all their medical receipts for the next 20 years and then take one large distribution completely tax free.  Why isn’t everybody doing this?!?!

The Downsides:

To avoid this article dragging on too long, I am going to sum up the downsides of using HSAs as a retirement vehicle in a few bullet points:

  • One needs to have enough income year over year to be able to not only fund the HSA but also pay for any medical expenses that pop up along the way (remember we don’t want to use the HSA in the short term)
  • One has to be in a high deductible medical plan to be eligible for an HSA. This means one must forgo other medical plans that do not have high deductibles (although these types of health plans often have much higher premiums [i.e. HMOs and PPOs], so this may not be that much of a deterrent depending the particular situation).
  • As (foot)noted, at death these accounts may not be very income tax friendly to the beneficiary. If the HSA passes to anyone other than the original HSA owner’s spouse, the account ceases to be a HSA and while the 20% penalty no longer applies this is a distribution that is considered taxable income.


[1] Withdrawals can be deferred for the lifetime of the account owner and the account can continue to exist after death of the original owner because a surviving spouse can step in and continue the account in their own name.

[2] Keep in mind there is far different treatment of these accounts upon death compared to IRA’s. If the HSA passes to anyone other than the HSA owner’s spouse, the account ceases to be an HSA and while the 20% penalty no longer applies this is a distribution that is considered taxable income.

Defaulting on a 401(k) Loan

By Justin Fundalinski, MBA | November 20, 2017

401k loanConsidering many people’s 401(k)s are usually one of their largest retirement savings assets and many 401(k) providers offer the ability to borrow money, it can be very enticing to take out a loan from your 401(k) to help fund your next big purchase. 401(k) loans are quick, easy,  and do not need a credit check. Unfortunately, there are some downsides to borrowing money from a 401(k) and understanding certain issues can help you make the right lending decisions as well as potentially avoid steep tax consequences. Particularly in this article I will focus on what happens when a 401(k) loan defaults and what options you have.

401(k) loan basics:                                    

While this article is not focused on all the details of a 401(k) loan it is important to know a few basics prior to digging into the main topic of this article.

  • Most plans allow for loans of 50% of your 401(k) balance with a maximum loan of $50,000. That is, if you have a 401(k) valued at $80,000 the maximum you could borrow up to $40,000, while if your 401(k) is valued at and amount greater than $100,000 you could borrow a maximum of $50,000.
  • You must amortize the loans over a five year period and make regular payments (usually through payroll deductions). The IRS defines timely payments as level amortized payments at least quarterly. Prepaying the loan is completely acceptable and there are no prepayment penalties.
  • If you cannot pay the loan back (the loan defaults), then the unpaid amount is considered to be a taxable distribution and you could face a 10% penalty if you are under the age of 59½.

How can a 401(k) loan default?

Because most loan payments are generally required to be paid back with deductions from your paycheck the default rate on 401(k) loans is relatively low. However, the single biggest cause of loan defaults is the loss of one’s job.  Once separated from employment (whether voluntary or involuntary), your employer can no longer just debit your paycheck to ensure timely payments and the full balance of the loan must be repaid promptly (usually within 60 days) to avoid the loan going into default.

Less commonly, loan payments are not required to be paid back via deductions from your paycheck and you become fully responsible for ensuring timely payments. Of course, laying the responsibility of making timely payments on the loan recipient opens up the door to loan defaults. Falling behind on payments can cause a loan to default.

What happens when the loan defaults?

When default is on the horizon you essentially have two options to avoid it.  You can pay back all remaining principal on the loan (or catch up on your timely payments if you are not separated from your job) to avoid it being considered a default, or you can let it default and deal with the consequences.

The consequences can be relatively steep. While this type of “default” will not be reported to the credit bureaus causing your credit rating to be damaged, the IRS plays its hand and collects the taxes  and penalty due.

The remaining balance that is left unpaid is considered a distribution from your 401(k).  Income taxes will be due on this distribution at your highest marginal tax bracket(s).  This “distribution” has a double negative effect. First you will have to pay taxes on what is considered to be a lump sum of income. If this occurs in a year of high earnings you could see a substantial tax hit on funds that otherwise may have been removed a lower tax rates.  Second, you have removed a sizable chunk of money from tax deferred retirement savings and will never be able to get this money back into its preferred tax deferred status.

Additionally, there could be an early withdrawal penalty tax.  As you may already know, early withdrawals from your 401(k) plan are generally subject to a 10% Federal tax penalty if taken prior to age 59 1/2. However, if you left your employer in or after the year in which you turned 55, you may not be subject to the 10% early withdrawal penalty, so the age limit on this early withdrawal penalty on defaulted loans is often bumped down to age 55..

Are there any loop holes to avoiding default?

Depending on how someone defaults there are few opportunities to avoid steeper taxes and penalties.

If you are separated from your job:

  • There it not much wiggle room in this scenario. However, if you are retiring and in control of when you technically separate from your job it would be a good idea to allow the loan to default in a year when you will not have a lot of taxable income.  So, in a best case scenario you would retire at the beginning of the year, allow the loan to default, not earn a lot wages for the remainder of the year, and cause the “distribution” from your 401(k) to be taxed at lower marginal rates.

If you are not separated from your job:

  • There is a whole lot of opportunity in this case. The IRS has permitted for retirement plan administrators to allow for what is called a cure period. A cure period is essentially a grace period on your loan payment and can last no later than the last day of the calendar quarter following the calendar quarter in which the required installment payment was due.
  • If your employer allows for a cure period (it is their option) there are two ways to get back on track and avoid default:
    • You can pay back all missed payments during the cure period and avoid the loan going into default.
    • You can refinance the loan (pay off the loan and the missed payments with a new loan) and essentially re-amortize your payment over a new five year period.

In conclusion:

Loss of a job can come at any time. One may separate from a job due to cut backs, under performance, promotion opportunity at another company, or simply because it is time to retire. Because separation from a job requires prompt payment of the outstanding loan balance, this life event may cause a burdensome taxable event.



Colorado’s Pension and Annuity Subtraction

By Justin Fundalinski, MBA | October 23, 2017

pensionsAre you receiving Social Security income, taking withdrawals from your IRA’s, or receiving a pension from a past employer?  Well, as a Colorado resident you could have some tax benefits on this income. Under Colorado tax code you may be able avoid including some (or all) of this income as taxable income on your Colorado tax return. Let’s dig into some of the details.

How do I qualify for this Pension and Annuity subtraction?

To qualify for the subtraction you have to meet a few requirements:

  • You have to receive a qualifying pension or annuity income. (I’ll discuss more on this below.)
  • You have to be at least 55 years or older by the end of the tax year.
    • There is an exception to this age criteria for pension or annuity income that is received as a beneficiary because of the death of the person who originally earned the pension/annuity income.

What types of income can be included in this subtraction?

The name of this subtraction is misleading because it is not limited to only pension and annuity income and unfortunately, not all pension and annuity income can be subtracted.  There are some general rules that Colorado has set forth for qualifying income. The income fall into the following categories:

  • Federally taxable income that is, paid periodically, attributable to services performed through employment, and paid after retirement. (This type of income is resulting from an employee-employer relationship, service in the uniformed services of the US, or contributions to an employer based retirement plan that were deductible for federal tax services). This essentially sums up all employer based defined benefit plans (AKA employer pensions), military pensions, and annuitized employer based defined contribution plans (AKA annuitized employer based savings plans).


  • Or, the income could be generated from:
    • Distributions from IRAs
    • Distributions from self-employed retirement accounts
    • Amounts received from fully matured privately purchased annuities
    • Social Security
    • Amounts paid out because of permanent disability, or death of the person entitled to receive the benefits

How much can be subtracted?

Each taxpayer is bound by a maximum allowable subtraction per year. In summary:

  • If you are 65 or older you can subtract up to $24,000 of income
  • If you are between 55 and 65 you can subtract up to $20,000
  • If you are under 55 years old (utilizing the beneficiary exception) you can subtract up to $20,000

Considering the Centennial State has a flat income tax of 4.63% these subtractions often translate to substantial tax savings. For instance, if you are over 65 and maxing out the subtraction (you have more than $24,000 of qualifying pension/annuity income) your tax savings is just over $1,100. Additionally, this figure could double if filing jointly.

What should I watch out for?

There are a few items to be aware of when you are taking this subtraction:

  • Each tax payer is eligible, so married individuals have their own maximum subtraction limit based on age. While this can be a major benefit, each tax payer must their own pension/annuity income to qualify. If one spouse’s pension benefit exceeds the maximum allowable subtraction, the excess cannot be subtracted under the other spouse’s allowable subtraction.
  • Some additional calculations need to be done for spouses that both receive Social Security benefits due to how Social Security is taxed federally. Because the taxable amount of Social Security on the Federal tax return is combined for both spouses and the State requires these amounts to be separate, a little math needs to be done to find out each spouse’s share of the taxable Social Security benefits.
  • Many of pension and annuity benefits do not qualify for the subtraction, so it is important you consult the Colorado tax code or a tax professional to ensure you don’t take the subtraction erroneously.



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