Taking Your Pension Private – Wall Street Journal – 01/28/12

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The Wall Street Journal

Weekend Investor – January 28, 2012

Taking Your Pension Private

By Karen Blumenthal

If you are self-employed and in the top echelon of earners, there is a big potential retirement-plan tax break available to you—and you don’t even have to be Mitt Romney to get it.

Under tax laws, high earners who are self-employed or the only employee of their own small business can create a personal pension plan and deduct hundreds of thousands of dollars a year from their taxes while squirreling away up to about $2.5 million in additional money for retirement.

If you are self-employed and in the top echelon of earners, there is a big potential retirement-plan tax break available to you—and you don’t even have to be Mitt Romney to get it.

Under tax laws, high earners who are self-employed or the only employee of their own small business can create a personal pension plan and deduct hundreds of thousands of dollars a year from their taxes while squirreling away up to about $2.5 million in additional money for retirement.

Comments January 28, 2012

The same way you wouldn’t place all your savings in one stock or one bond, you wouldn’t subject your savings to one tax strategy.  Using diversification to reduce risk is important for investing and for tax planning.  We discuss the benefits of tax diversification in our October 15, 2011, Money Matters article entitled: “Skloff Financial Group Addresses Advantages of Tax Diversification”.

Taxes on contributions to a defined benefit retirement plan (pension) are deferred until your begin making withdrawals.  All of the withdrawals (including the principal) are taxed at your income tax rate at that time.  Those who rollover their pension to an IRA are generally required to withdrawal at least a minimum amount annually after turning 70 ½. The amount you must withdrawal is called the Required Minimum Distribution (RMD) and is based on Life Expectancy tables published by the IRS.

Importantly, there are estate and financial planning strategies to avoid RMDs.  Avoiding RMDs can save $875,000 of taxes on a $2.5 million pre-tax 401(k), IRA or pension account, based on the current 35% top federal marginal income tax rate (TFMITR).  The tax savings would be significantly greater if the assets experienced any further appreciation, income or dividends. The tax savings would be even greater if the TFMITR increased slightly. They tax savings would double if the 35% top federal marginal income tax rate reverted to the 70% rate of 1980.

Tax Diversification with a Roth 401(k)

If you are self-employed, you are considered the employer and the employee and can establish a Roth 401(k) retirement plan.  Generally, you can contribute up to $17,000 per year if you are less than 50 years old or up to $22,500 if you are 50 years old or older to a Roth 401(k).  Although contributions to a Roth 401(k) are made after taxes (foregoing an immediate tax benefit) all withdrawals associated with those contributions (including the principal, interest and dividends) are tax free.

Additionally, as the employer you can match contributions and/or provide profit sharing contributions.  The maximum contribution amount you and your employer (combined) can make per year is $50,000, based on $250,000 maximum considered compensation.

Aaron Skloff, AIF, CFA, MBA
CEO – Skloff Financial Group

Aaron Skloff, Accredited Investment Fiduciary (AIF), Chartered Financial Analyst (CFA), Master of Business Administration (MBA), is the Chief Executive Officer of Skloff Financial Group, a Registered Investment Advisory firm. The firm specializes in financial planning and investment management services for high net worth individuals and benefits for small to middle sized companies.  He can be contacted at www.skloff.com or 908-464-3060.

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