Tag Archives: Retirement

Retire on 72(t) Payments

Want to retire before age 59 ½? Have most of your wealth in traditional tax-deferred retirement accounts? Worried about the 10 percent early withdrawal penalty? 

This post is for you!

Picture it: You’re age 53, have $50,000 in a savings account, a paid-off home, and $2.5M in a 401(k). Including income taxes, you spend about $80,000 a year. You want to retire, but you’re worried about paying the early withdrawal penalty, which would be about $8,000 a year (not factoring in the penalty on the penalty!). 

What to do, what to do? The tax law allows someone in this situation to take a “series of substantially equal periodic payments” to avoid the 10 percent penalty. The payments must occur annually for the longer of 5 years or until the taxpayer turns 59 ½. 

72(t) payments can make retirement possible prior to age 59 ½ when one has most of their assets in traditional deferred retirement accounts. Done properly, these payments avoid the 10 percent early withdrawal penalty. 

Below I explore some of the rules of 72(t) payments (sometimes referred to as a “72(t) payment plan,” “72(t) SEPP,” or “SEPP”) and lay out what I hope will be an informative case study. 

** As always, none of this is personalized advice for you, but rather educational information for your consideration. Consult with your own advisors regarding your own situation. 

72(t) Substantially Equal Periodic Payments

Methods

The IRS and Treasury provide three methods for computing a 72(t) payment. As a practical matter, the third one I discuss, the fixed amortization method, tends to be the most commonly used and most user friendly in my opinion.

The required minimum distribution method allows taxpayers to take a 72(t) payment just like an RMD. Take the prior year end-of-year balance and divide it by the factor off the IRS table. The biggest problems with this method are it tends to produce a smaller payment the younger you are and the payment changes every year and can decrease if the IRA portfolio declines in value. The fixed annuitization method is complex and generally yields a payment less than that of the fixed amortization method from the same sized retirement account. 

The rest of the post focuses on the fixed amortization method of computing 72(t) payments (other than a brief foray into the RMD method to account for changing circumstances)). 

Resource: The MyFRS 72(t) calculator can be helpful to early retirees and those planning an early retirement. While I have not validated the calculator’s coding, I have never seen it produce results that I know to be incorrect. 

Computing Fixed Amortization 72(t) Payments

To compute a 72(t) payment and the size of the 72(t) IRA using the fixed amortization method, we will need to run through some math. Four numbers are required: the interest rate, the life expectancy, the annual payment, and the size of the 72(t) IRA. 

Usually the IRS gives us the interest rate and the life expectancy and we need to solve for the 72(t) IRA size. 

Interest Rate: Notice 2022-6 allows taxpayers to always use an interest rate anywhere from just above 0% to 5%, or, if greater, up to 120% of mid-term federal rate for either of the two months preceding the first 72(t) payment distribution. The IRS publishes that rate on a monthly basis.  

As a general rule, taxpayers will usually want to use the greatest interest rate permitted to as to decrease the size of the 72(t) IRA. Decreasing the size of the 72(t) IRA will usually be advantageous, for the reasons discussed below. 

Life Expectancy: The life expectancy comes to us from an IRS table. While we have three possible choices to use, generally speaking taxpayers will want to use the Single Life Table found at Treas. Reg. Section 1.401(a)(9)-9(b). See Choate, referenced below, at page 587. The taxpayer takes their age on their birthday of the year of the first 72(t) payment and uses the factor from the Single Life Table as the life expectancy. 

Payment: Finally, we, not the IRS, get to determine a number! The payment is simply the annual payment we want to receive as a 72(t) payment every year. While this amount is rather inflexible, as discussed below it will be possible to establish additional 72(t) IRAs and payments to increase the amount received if desired. 

Size of the 72(t) IRA: This is what we’re solving for in order to establish a “right-sized” IRA to produce the desired 72(t) payment. In Google Sheets, we do a present value calculation to solve for the size of the 72(t) IRA that generates the desired payment amount. The formula is rather simple: =-PV(Interest Rate Cell, Life Expectancy Cell, Annual Payment Cell). I put a negative sign in front of the PV to have the size of the 72(t) IRA appear as a positive number. It’s important that the formula be entered in that order and that the formatting be correct in each cell. Further, it is important the interest rate cell has a percentage sign in it. 

Validating a Google Sheets 72(t) IRA Calculation: One technique I recommend to validate a 72(t) IRA calculation in Google Sheets is to use the same formula in Google Sheets on the numbers provided by the IRS FAQ 7. I did that on YouTube here. Note that as applied to the IRS numbers, the final 72(t) size is $6.97 off – an immaterial difference caused by the IRS not using cents. 

Another technique to consider is, after doing one’s own calculations to redo the same calculations using the MyFlorida Retirement 72(t) Calculator. 

Note on 72(t) Payments with non-IRA Accounts: Setting up a 72(t) from a non-IRA is possible but not frequent in practice. It is not possible to divide up a 401(k) account in a manner conducive to establishing a “right-sized” 72(t) payment account. See Choate, referenced below, at page 595. 

Annual Equal 72(t) Fixed Amortization Payments

The computed payments must be made annually and equally. This means that no more and no less than the computed payment comes out every year. I believe that taking an annual flat payment on or around the first payment anniversary date is a best practice. However, this best practice is not required. See also Choate, referenced below, at page 600. For example, monthly payments of the computed amount are allowable. See Choate, referenced below, at page 600. 

Annual payments must be made for the longer of five years or until the taxpayer reaches age 59 ½. 

72(t) Payments Case Study

Let’s return to the example discussed above: it is early January 2026 and you (let’s call you Pat) are 53 years old (your birthday was January 5th) and you want to retire, spending $80K a year from your $2.5M 401(k). Let’s solve for the size of the 72(t) IRA:

Interest Rate: 5.00% (the highest 120% of federal mid-term rate of the previous two months per the IRS is less than 5.00%)

Life Expectancy: 33.4

Payment: $80,000

The size of the 72(t) IRA is $1,286,384.59. See IRS FAQ Q&A 7.

Pat would first transfer (preferably through a direct trustee-to-trustee transfer) the 401(k) to a traditional IRA worth $2.5M. Once in the traditional IRA, Pat would call their financial institution and ask them to divide the traditional IRA into two IRAs: one with exactly $1,286,384.59 (the “72(t) IRA”) and one with the reminder of the traditional IRA (the “non-72(t) IRA”). I recommend initially investing the 72(t) IRA in a money market fund so that it can be clearly established that the beginning account balance was exactly the $1,286,384.59 computed to yield the correct payment. Pat takes the first payment of $80,000 on January 29th from the 72(t) IRA in this hypothetical scenario.

Let’s keep going. Assume that in 2030, when Pat turns age 57 and interest rates are well below 5%, Pat wants to increase their annual withdrawal from $80K to $90K. As discussed below, Pat can’t simply increase the withdrawal from the 72(t) IRA. But since Pat kept a non-72(t) IRA, Pat can slice that one up to create a second 72(t) IRA. That second 72(t) IRA can give Pat the extra $10,000 Pat wants to spend.

Here’s what that looks like.  

Interest Rate: 5.00% 

Life Expectancy: 30.6

Payment: $10,000

The size of the second 72(t) IRA is $153,270.74.

Pat would call their financial institution and ask them to divide the non-72(t) IRA into two IRAs: one with exactly $153,270.74 (the “Second 72(t) IRA”) and one with the remainder of the traditional IRA (the surviving non-72(t) IRA). Pat takes the additional payment of $10,000 also on January 28th from the Second 72(t) in this hypothetical scenario.

Here is what Pat’s withdrawals would look like:

YearBirthday AgeRequired First 72(t) January 29 WithdrawalRequired Second 72(t) January 28 WithdrawalTotal Annual Withdrawal
202653$80,000$0$80,000
202754$80,000$0$80,000
202855$80,000$0$80,000
202956$80,000$0$80,000
203057$80,000$10,000$90,000
203158$80,000$10,000$90,000
203259$80,000$10,000$90,000
203360$0$10,000$10,000
203461$0$10,000$10,000

Remember that the First 72(t) IRA and the Second 72(t) are locked up for a period of time. See Locking the Cage below. The First 72(t) IRA is locked up until and through July 4, 2032, the day before Pat’s 59 ½ birthday. The Second 72(t) IRA is locked up until and through January 27, 2035, the day before the fifth anniversary of the first $10,000 payment from the Second 72(t) IRA. See IRS FAQ 13 on this point. Generally speaking, no amount other than the annual payment should go into, or out of, a 72(t) IRA until the end of the lock-up period.

Maintain Flexibility

I strongly recommend maintaining as much flexibility as possible. One way to do that is to have the 72(t) IRA be as small as possible, leaving as much as possible in a non-72(t) IRA or IRAs. Why? 

First, the non-72(t) can be, in a flexible manner, sliced and diced to create a second 72(t) IRA if wanted or needed. Second, for a variety of reasons Roth conversions are generally to be avoided out of a 72(t) IRA. While those on a 72(t) payment plan often have little need to do Roth conversions, if they are so inclined they are better done out of a non-72(t) IRA.  

Second, it is important to maintain future payment flexibility. Imagine if Pat did not divide the $2.5M traditional IRA into two IRAs. Pat could have simply used a smaller interest rate on the entire $2.5M traditional IRA to get the $80,000 annual payment out. However, then Pat would not have had the flexibility to create a second 72(t) payment stream. This is an important reason that it is usually best to use the highest possible interest rate to lower the 72(t) IRA size and maintain the most flexibility.

72(t) Payment Plan Disqualification

A “modification” to the 72(t) payment plan blows up the plan with unfavorable consequences. In the year of the modification the taxpayer owes the 10 percent early withdrawal penalty plus interest on the penalty on all the previously taken 72(t) payments. See Choate, referenced below, at page 596. 

A blow up after age 59 ½, for those on the five year rule, is bad but tends to be less deleterious than a blow up occurring with respect to a SEPP ending at age 59 1/2. The early withdrawal penalty and related interest are not assessed on 72(t) payments taken after one’s 59 ½ birthday. See Choate, referenced below, at page 596. 

There are a few modifications to a 72(t) payment plan that do not blow it up (i.e., they are permissible and don’t trigger the penalty and interest). See Choate, referenced below, at pages 597-601. Those looking to change the payment amount are often well advised to set up a second 72(t) payment plan (as Pat did) rather than seeking a modification to the existing 72(t) payment plan. 

72(t) Payment Reduction

Imagine that instead of wanting an additional 72(t) payment amount, Pat wanted to reduce the 72(t) payment. This is not uncommon. Perhaps Pat has a significant inheritance in 2030 and thus no longer needs to take an $80,000 annual payment and pay tax on it.

Unfortunately, Pat is not allowed to simply discontinue or reduce the 72(t) payment without triggering the early withdrawal penalty (and interest charges) on the previously taken 72(t) payments.

But, the rules allow a one-time switch to the RMD method. Making the switch is likely to significantly reduce the annual 72(t) payment. For example, if Pat wants a smaller payment starting in 2030, Pat could take the 72(t) IRA balance on December 31, 2029 (imagine it is exactly $1M) and divide it by the age 57 factor off the Single Life Table (29.8) and get a 2030 72(t) payment of $33,557.05. Alternatively, Pat could use the age 57 factor off the Notice 2022-6 Uniform Life Table (41.6) and get a 2030 72(t) payment of $24,038.46.

If Pat makes this one-time switch, Pat will annually compute the 72(t) payment for the remainder of the 72(t) term using the table used in 2030 (see Notice 2022-6 page 6) and the prior-year end-of-year 72(t) IRA balance.

The one-time switch to the RMD method is helpful if the taxpayer wants to significantly reduce their 72(t) annual payment, perhaps because of an inheritance, marriage, YouTube channel blowing up, or returning to work. The availability of this method to reduce required 72(t) payments (if desired) is another reason to keep 72(t) IRAs as small as possible.

72(t) Locking The Cage

The 72(t) IRA should be thought of as a locked cage. No one goes in, and only the 72(t) payment comes out annually. The rigidity with which the IRS treats the 72(t) IRA gives early retirees incentive to use as high an interest rate as possible to get the highest annual payment out of the smallest 72(t) IRA possible.

Just how rigid is the IRS? In one case, the IRS disqualified a 72(t) SEPP because a taxpayer transferred a workplace retirement plan into the 72(t) IRA during the 72(t) payment period. See page 4 of this newsletter (page 4 is behind a paywall). Right, wrong, or other, Notice 2022-6 Section 3.02(e) has not been updated for SECURE 2.0’s adding Section 72(t)(4)(C), which clearly allows for some roll outs from 72(t) IRAs. Thus, this is an area where early retirees should proceed with caution. 

Assuming one is using the fixed amortization method for their 72(t) payments, not a dollar more than the 72(t) SEPP should come out each year. It appears the IRS expects the amount to be equal each tax year, see page 5 of this PLR. 

Further, the 72(t) lockup does not end with the taking of the last payment. Rather, as described in IRS FAQ 13, it ends at the end of the lock up period. So if Sean, age 57 in 2023, takes his first 72(t) SEPP of $10,000 from IRA 1 on July 15, 2023, his taking of payment number 5 ($10,000) on July 15, 2027 does not end the lock up. Sean can’t take any additional money out of IRA 1 until July 1, 2028 (the fifth anniversary of his first $10,000 72(t) payment). 

Practice Point: As of this writing, it is not a good idea to add money to a 72(t) IRA during the lockup period due to Notice 2022-6 Section 3.02(e). This includes never making an annual contribution to a 72(t) IRA and never rolling an IRA, 401(k), or other qualified plan into a 72(t) IRA. Incredibly enough, current IRS guidance prohibits breaking into jail in this regard. 

IRS FAQ 13 is instructive in terms of when the lock up ends. The IRS is clear that the lock up ends on the date of the 59 ½ birthday, not on January 1st of that year. Say Rob, born January 14, 1971, takes his first SEPP of $40,000 on August 16, 2023. His 72(t) IRA is free on his 59 ½ birthday, which is July 14, 2030. Presumably, Rob takes his last $40,000 SEPP on or around August 16, 2029. Nevertheless, he can’t add to or withdraw from his 72(t) IRA prior to July 14, 2030 without blowing up his 72(t) payment plan and incurring significant penalties and interest under the approach of IRS FAQ 13. 

As discussed above, the one-time switch to the RMD method is a permissible modification to the 72(t) payment terms that does not trigger the early withdrawal penalty and related interest on previously taken 72(t) payments.

A Note on the 72(t) Risk Profile

The earlier in life the 72(t) payment plan starts, the greater the risk profile on the 72(t) payment plan. The opposite is also true: the later in life a 72(t) payment plan starts, the lower the risk profile.

Why?

Because the sooner the 72(t) payment plan starts, the more years (and more interest) that can be blown up by a future modification requiring the payment of the 10 percent early withdrawal penalty and interest. 

Consider Pat’s example. If Pat blows up the First 72(t) payment plan in early 2031, Pat owes the 10% early withdrawal penalty and interest on five previously taken 72(t) payments from the First 72(t) IRA (2026 through 2030). If Pat blows up the Second 72(t) payment plan in early 2035, Pat only owes the early withdrawal penalty and interest on the three 72(t) payments received before Pat turned age 59 ½. 

In February 2026 I self-published a 38-page article on the risks presented by 72(t) payment plans. You can access the article here.

72(t) Payment Tax Return Reporting

Taxpayers should keep the computations they and/or their advisors have done to document the 72(t) payment plan. Distributions should be reported as taxable income and on Form 5329. Code 02 should be entered on Line 2 of Form 5329. 

72(t) Is An Exception to More Than One Rule

72(t) payment plans are an exception to the 10 percent early withdrawal penalty. They are also an exception to the general rule that the IRS views all of your IRAs as a single IRA. The 72(t) IRA is the 72(t) IRA. If you have a separate IRA and take ten dollars out of it prior to age 59 ½, you trigger ordinary income tax and a $1 penalty. If you take an additional ten dollars out of the 72(t) IRA prior to the end of the 72(t) lock up, you blow up the 72(t) payment plan and owe the 10 percent early withdrawal penalty and interest on all the pre-59 ½ 72(t) payments. 

Other Penalty Free Sources of Early Retirement Funding

Let’s remember that 72(t) payments are a tool. In many cases they are not a “go-to” strategy. I’ve written this post not because 72(t) payments are a go-to strategy but rather because I know there are many in their 50s thinking about retirement but daunted by the prospect of accessing traditional retirement accounts prior to age 59 ½.

Generally speaking, I encourage using resources other than 72(t) payments if you are able to. They include:

Taxable Accounts: This video discusses why I’m so fond of spending down taxable accounts first in early retirement.

Inherited Retirement Accounts: Withdrawals from inherited retirement accounts (other than those the spouse treats as their own) are never subject to the 10% early withdrawal penalty. Often they are subject to a 10-year draw down rule, so usually they should be accessed prior to implementing a 72(t) payment plan from one’s own accounts.

Rule of 55 Distributions: Only available from a qualified retirement plan such as a 401(k) from an employer the employee separates from service no sooner than the beginning of the year they turn age 55. This is a great workaround from the early withdrawal penalty, and much more flexible than a 72(t) payment plan. But remember, the money must stay in the workplace retirement account (and not be rolled over to a traditional IRA) to get the benefit. 

Governmental 457(b) Plans: Withdrawals from governmental 457(b) plans are generally not subject to the 10% early withdrawal penalty. 

Roth Basis: Old annual contributions and conversions that are at least 5 years old can be withdrawn from Roth IRAs tax and penalty free at any time for any reason.

I previously discussed using a 72(t) payment plan to bail out Roth IRA earnings penalty-free prior to age 59 ½. This is a tactic that I would not recommend unless absolutely necessary (which I believe is a very rare situation). 

72(t) Landscape Change

It should be noted that the issuance of Notice 2022-6 in early 2022 changed the landscape when it comes to 72(t) payments. Before the 5 percent safe harbor, it was possible that taxpayers could be subject to sub-0.5 percent interest rates, meaning that it would take almost $1M in a retirement account to generate just $30,000 in an annual payment in one’s mid-50s. Now with the availability of the 5 percent interest rate much more modest account balances can be used to generate significant 72(t) payments in one’s mid-50s. 

Resources

Cody Garrett, CFP(R), and I wrote Tax Planning To and Through Early Retirement. The book goes into detail on early retirement withdrawal strategies. 

Natalie B. Choate’s treatise Life and Death Benefits for Retirement Planning (8th Ed. 2019), frequently referenced above, is an absolutely invaluable resource regarding retirement account withdrawals.

Sean Mullaney, What are the Risks of a 72(t) Payment Plan?, an article that goes into detail on the risks presented by a 72(t) payment plan and ways to mitigate those risks.

Correction

The previous version of this post published in November 2023 incorrectly used 30.6 as the age 57 factor in one of the calculations. The correct factor is 29.8. I regret the error. 

FI Tax Guy can be your financial planner! Find out more by visiting mullaneyfinancial.com

Follow me on LinkedIn: @SeanWMullaney

This post is for entertainment and educational purposes only. It does not constitute accounting, financial, investment, legal, or tax advice. Please consult with your advisor(s) regarding your personal accounting, financial, investment, legal, and tax matters.Please also refer to the Disclaimer & Warning section found here.

The Widow’s Tax Trap and RMDs

People worry about taxation in retirement. In particular, they worry about the taxation of required minimum distributions (RMDs), especially after the death of a spouse. Widows find themselves in the single tax brackets after decades of enjoying the more favorable married filing jointly tax brackets. 

Widows and widowers finding themselves as single taxpayers is often referred to as the Widow’s Tax Trap. 

RMDs require taxable withdrawals from traditional retirement accounts such as IRAs and 401(k)s. But just how bad are they when a widow or widower is in the Widow’s Tax Trap?

Let’s unpack just how bad the combination of the Widow’s Tax Trap and RMDs is for an 81 year-old widow with a very tax inefficient structure: almost $3.7 million of her approximately $4.5 million of financial wealth in a traditional IRA.

My experience tells me many financial planners and gurus will tell you this is a terrible outcome. That $3.7 million traditional IRA is infested with taxes!

But is it really?

81 Year-Old Widow in the Widow’s Tax Trap

I put together an analysis of an affluent widow in the Widow’s Tax Trap. Let’s call her Jane. Her traditional IRA causes her to have an RMD of almost $190,000. Wow!

Grab the tax analysis file here!

To be fair, most Americans will never have a $3.7 million traditional IRA and/or a $190K RMD. But I analyze them to demonstrate “what if the widow is highly inefficient from a tax perspective?”

What are the federal income tax rates on that feared RMD? 

Isn’t it remarkable that an 81 year-old widow with almost $3.7 million in a traditional IRA has more of her RMD taxed in the 12 percent tax bracket than in the 32 percent tax bracket?

Despite all the fear of taxation of RMDs, that’s the reality when it comes to a very affluent, very inefficient 81 year-old widow. 

Some might say “but what about IRMAA?” “What about the net investment income tax?”

Yes, Jane pays IRMAA of approximately $6,500 in two years because of her RMDs. And yes, the RMDs trigger approximately $500 of net investment income tax.

But do either of these have any impact on Jane’s lived experience and financial success?

Absolutely not!

The government scores some Garbage Time Touchdowns on Jane by collecting some IRMAA, some net investment income tax, and some income tax in the 32 percent bracket. 

A Garbage Time Touchdown is a late in the game touchdown scored by a team that will lose the game regardless of the touchdown. As a New York Jets fan, sadly I’m an expert in Garbage Time Touchdowns.

Jane has some tax inefficiencies that are just Garbage Time Touchdowns.

Think about the lifetime arc of Jane’s taxes in today’s tax planning world:

  • As a single individual, Jane likely deducted workplace retirement plan contributions at a 22, 24, or 32 percent rate. Win versus the IRS!
  • As a married couple, Jane and her husband likely deduct into workplace retirement plans at a 22 or 24 percent rate. Win versus the IRS!
  • In early retirement, they live off taxable accounts and do not do Roth conversions. They may pay nothing in federal income tax! Win versus the IRS!
  • Once taxable accounts are depleted, traditional retirement account distributions could have benefitted from the Hidden Roth IRA. Win versus the IRS!
  • Even RMDs are likely subject to the 12 percent and 22 percent brackets while they are both alive. Win versus the IRS!
  • As a widow, the relatively minor tax inefficiencies creep in. These are Garbage Time Touchdowns. 

This arc, which eschewed Roth 401(k) contributions and taxable Roth conversions, screams “Jane wins a blow out victory over the IRS” over the course of her lifetime. 

Sure, at the end Jane gave up some Garbage Time Touchdowns to the IRS, but not after decades of defeating the IRS. 

What’s more important than winning the spreadsheet is lived experience. Notice that Jane paying 32 percent on about six percent of her RMD has $200K of after-tax cash flow? 

In order for the Widow’s Tax Trap to bite hard, the widow generally has to have about $200K or more of after-tax cash flow.

The taxes bite when widows can most afford them!

Watch me break down the tax analysis of our 81 year-old widow on YouTube.

Roth Conversions to Avoid the Widow’s Tax Trap

Should Jane and her husband have done taxable Roth Conversions in retirement to avoid the widow paying 32 percent federal income tax on some of her RMDs?

Here vocabulary becomes very important. Yes, some taxable Roth conversions taxed at 22 percent or 24 percent could have been beneficial. But they were hardly necessary.

Outside of cases where taxable Roth conversions create enough required income to qualify for a Premium Tax Credit, taxable Roth conversions are not necessary. 

Yes, there are times where large taxable Roth conversions can be beneficial in that they mitigate harmful effects of the Widow’s Tax Trap. But the analysis above shows that the harmful effects of the Widow’s Tax Trap aren’t all that harmful for the vast, vast, vast majority of Americans. This is true even those with most of their financial wealth in traditional retirement accounts. 

Why would Jane and her husband prioritize large scale taxable Roth conversions to avoid having six percent of her RMDs as a widow being subject to the 32 percent tax bracket? 

Further Reading

The tax planning landscape has changed. One resource that puts aside the fear and realistically tackles today’s tax and retirement planning landscape is Tax Planning To and Through Early Retirement, a book I’m proud to have co-authored with Cody Garrett. 

FI Tax Guy can be your financial planner! Find out more by visiting mullaneyfinancial.com

Follow me on LinkedIn: @SeanWMullaney

This post is for entertainment and educational purposes only. It does not constitute accounting, financial, investment, legal, or tax advice. Please consult with your advisor(s) regarding your personal accounting, financial, investment, legal, and tax matters. Please also refer to the Disclaimer & Warning section found here.

The Backdoor Roth IRA After an Excess Contribution to a Roth IRA

It happens all the time. People contribute to a Roth IRA only to find out at tax time they made too much income to have made the Roth IRA contribution. 

There are two primary ways to correct this situation. They are a recharacterization and a corrective distribution. Both are entirely valid remedial paths when it turns out that one contributed to a Roth IRA and their income was too high to have done so. 

But which remedial path makes the most sense if the investor wants to also do a Backdoor Roth IRA for the year in question?

As I am posting this in late 2025, this is about to become very relevant as applied to excess Roth IRA contributions occurring in 2025. Many will find out in early 2026 as they work through their 2025 tax return that they did not qualify for a previously made 2025 Roth IRA contribution. 

Below I explore this topic with two examples. 

Recharacterization

Let’s consider Rich and Rebecca, married and both age 48 in 2025. At least one of them was covered by a workplace retirement plan in 2025. Rich and Rebecca each contributed $7,000 to a Roth IRA on January 2, 2025 anticipating their 2025 modified adjusted gross income would be approximately $225,000. Due to a year-end bonus and unexpected capital gains distributions, their 2025 MAGI turned out to be $250,000, which they discovered after talking to their income tax return preparer in February 2026. 

Having exceeded the 2025 Roth IRA MAGI contribution limit of $246,000, they need to remedy the situation. Since neither of them has any balance in a traditional IRA, SEP IRA, and/or SIMPLE IRA, they are also interested in doing a Backdoor Roth IRA for 2025 (what I refer to as a Split-Year Backdoor Roth IRA). 

They proceed as follows. First, they ask their financial institution to recharacterize their 2025 Roth IRA contributions and related earnings ($550 in Rich’s case, $600 in Rebecca’s case) as traditional IRAs in late February 2026. This event does not create any 2025 or 2026 taxable income. 

Second, in early March 2026, Rich converts the balance in his traditional IRA, now $7,560, from his traditional IRA to a Roth IRA. Likewise, Rebecca converts the balance in her traditional IRA, now $7,612 from her traditional IRA to a Roth IRA. This creates $560 of 2026 taxable income for Rich and $612 of 2026 taxable income for Rebecca. 

Both Rich and Rebecca have $0 balances in all traditional IRAs, SEP IRAs, and SIMPLE IRAs as of December 31, 2026. 

I believe that it’s helpful to illustrate the sequence logically using letters. A is a checking account, B is a traditional IRA, and C is a Roth IRA.

Here is how the entire sequence looks when Rich and Rebecca first contribute to a Roth IRA, correct it through a recharacterization, and then do the Split-Year Backdoor Roth IRA. 

A→C→B→C

Corrective Distribution

Let’s consider Carl and Debbie, married and both age 47 in 2025. At least one of them was covered by a workplace retirement plan in 2025. Carl and Debbie each contributed $7,000 to a Roth IRA on January 2, 2025 anticipating their 2025 modified adjusted gross income would be approximately $225,000. Due to a year-end bonus and unexpected capital gains distributions, their 2025 MAGI turned out to be $255,000, which they discovered after talking to their income tax return preparer in February 2026. 

Having exceeded the 2025 Roth IRA MAGI contribution limit of $246,000, they need to remedy the situation. Since neither of them has any balance in a traditional IRA, SEP IRA, and/or SIMPLE IRA, they are also interested in doing a Backdoor Roth IRA for 2025. 

They proceed as follows. First, they ask their financial institution to send them a corrective distribution of their 2025 Roth IRA contributions and related earnings ($650 in Carl’s case, $700 in Debbie’s case) in late February 2026. 

The February 2026 corrective distribution of the excess Roth IRA contributions and related net income attributable to the returned contributions creates taxable income of $650 to Carl and $700 to Debbie in 2025 to be reported on their soon-to-be-filed 2025 federal income tax returns. See Section 408(d)(4)(C), Treas. Reg. Sec. 1.408A-6 Q&A 1(d), and this Vorris J. Blankenship article. 

Second, in late February 2026, both Carl and Debbie make a $7,000 contribution to their traditional IRAs and code the contribution as being for 2025. 

Third, Carl converts the balance in his traditional IRA, now $7,010, from his traditional IRA to a Roth IRA. Likewise, Debbie converts the balance in her traditional IRA, now $7,010, from her traditional IRA to a Roth IRA. This creates $10 of 2026 taxable income for Carl and $10 of 2026 taxable income for Debbie. 

Both Carl and Debbie have $0 balances in all traditional IRAs, SEP IRAs, and SIMPLE IRAs as of December 31, 2026. 

Here is how the entire sequence looks when Carl and Debbie first contribute to a Roth IRA, correct it through a corrective distribution, and then do the Split-Year Backdoor Roth IRA. 

A→C→A→B→C

Critical Assessment

Let’s step back. Logically, what is the Backdoor Roth IRA? It boils down to the following formulation:

A→B→C

I and others have argued that “B” should be respected. I’m unaware that the IRS disagrees with this view. At this point, after a decade and a half of Backdoor Roth IRAs, it would be exceedingly odd for the IRS to start aggressively challenging the transaction. 

Assessing the Corrective Distribution Remedial Path

Viewed logically, the “corrective distribution followed by the Split-Year Backdoor Roth IRA” is just as strong as the Backdoor Roth IRA itself. It simply appends two additional transactions, an (ultimately excess) Roth IRA annual contribution followed by a corrective distribution. If one can defend the Backdoor Roth IRA, one should be able to defend the corrective distribution followed by the Split-Year Backdoor Roth IRA.

You might argue that the money was in a Roth IRA and ultimately ends up back in a Roth IRA. That can be true, though the investor need not use the exact same dollars received in the corrective distribution to initiate the later Split-Year Backdoor Roth IRA. 

Regardless, in order to “collapse” steps, the IRS would need to successfully defeat not one, but two, steps. First the IRS would need to successfully disregard the corrective distribution on which the investor most likely reports taxable income. Second, the IRS would need to disregard the transfer to the traditional IRA. 

The IRS has not aggressively tried to disregard a single step (the traditional IRA contribution) when it comes to the Backdoor Roth IRA transaction for the past 15 years. It’s difficult to imagine the IRS would try to aggressively disregard two distinct steps, which is what it would take to defeat the “corrective distribution followed by the Split-Year Backdoor Roth IRA” path. 

Assessing the Recharacterization Remedial Path

Where I get much more concerned is the “recharacterization followed by the Backdoor Roth IRA” path. 

In all of these analyses, the key issue is “do we respect “B”?” Recall the recharacterization followed by the Backdoor Roth IRA formulation:

A→C→B→C

Notice what’s on both sides of B? 

C!

We have a case where funds are in a Roth IRA, temporarily rest in a traditional IRA, and then end up right back in a Roth IRA. 

Yes, the Internal Revenue Code allows recharacterizations. But could the IRS successfully disregard a recharacterization into a traditional IRA when both immediately before and immediately after those funds are in a Roth IRA?

I believe that a recharacterization followed by a Split-Year Backdoor Roth IRA dramatically increases the risk to the investor. The risk is that the recharacterization would be disregarded, exposing the investor to the annual 6% excess Roth IRA contribution penalty. 

Favored Approach

I strongly favor the corrective distribution remedial path if one is looking to do a Backdoor Roth IRA after having made an excess contribution to the Roth IRA for the year.

What are the drawbacks to my favored approach? It requires three steps instead of two, since the investor must initiate the corrective distribution, contribute to a traditional IRA, and then convert the traditional IRA. 

Further, my favored approach generally accelerates the tax on the “net income attributable” to the excess contribution. Recall Rich and Rebecca pay that tax in 2026 while Carl and Debbie pay practically all of that tax with their 2025 federal income tax returns. 

My favored approach generally does not increase the small tax created by the combination of the remediation and the Split-Year Backdoor Roth IRA. It simply accelerates it by one year. In a low yield world, that is a tiny drawback. 

I believe that the corrective distribution remedial path is very strong. I do not believe that the IRS would stand a very good chance of disregarding two steps to create an excess contribution to a Roth IRA. Further, I believe that respecting time spent in a traditional IRA is much more challenging when that money is in a Roth IRA immediately before and immediately after being in the traditional IRA. 

When both corrective distributions and recharacterizations are available to those looking to ultimately do a Backdoor Roth IRA, why not choose the corrective distribution path? 

Finally, note that this blog post is not advice for you or anyone else. I am not writing that the recharacterization remedial path cannot work. Rather, I am, in an academic sense, simply stating two things.

First, the recharacterization followed by a Split-Year Backdoor Roth IRA path increases the risk to the investor.

Second, the corrective distribution path appears to be preferable to the recharacterization path if one is looking to do the Split-Year Backdoor Roth IRA after an excess contribution to the Roth IRA for the same year. 

The Real Answer

Congratulations on reading a blog post that should not exist! The real answer to this issue isn’t my analysis. Rather, it is for Congress to eliminate the MAGI restriction on the ability to make an annual Roth IRA contribution. This would align American rules with Canadian rules. 

FI Tax Guy can be your financial planner! Find out more by visiting mullaneyfinancial.com

Follow me on LinkedIn at @SeanWMullaney

This post is for entertainment and educational purposes only. It does not constitute accounting, financial, legal, investment, medical, or tax advice. Please consult with your advisor(s) regarding your personal accounting, financial, legal, investment, medical, and tax matters. Please also refer to the Disclaimer & Warning section found here.

2026 ACA Premium Tax Credits: Embrace Solutions!

Fear is prevalent.

ACA Premium Tax Credits are going away!!!

The 400 percent cliff will ruin your early retirement!!!

Neither of these is true. But the messages are out there.

Yes, the Premium Tax Credit for 2026 is very unsettled. Could it create problems for early retirees in 2026? Yes.

But now is the time to embrace solutions, to borrow a phrase from Jon Taffer. 

Since 2026 ACA open enrollment begins in less than a week, below I assess the lay of the land for ACA medical insurance and Premium Tax Credits in 2026. I then move onto planning as early retirees consider their ACA medical insurance options for 2026 in late 2025.

Premium Tax Credit

From 2014 through 2020, the Premium Tax Credit reduces ACA medical insurance premiums based on this table. Of note is that this table fully eliminates Premium Tax Credits once one’s income is over 400 percent of the federal poverty level. I refer to the years 2014 through 2020 as the “First Era.”

From 2021 through 2025, the Premium Tax Credit reduces ACA medical insurance premiums based on this more generous table. Of note is that this table ratably reduces, but does not eliminate, Premium Tax Credits once one’s income is over 400 percent of the federal poverty level. I refer to the years 2021 through 2025 as the “Second Era.”

With no change to the laws, in 2026 we start what I refer to as the “Third Era.” The Premium Tax Credit will be determined based on the First Era table. The enhancements to ACA Premium Tax Credits will go away. ACA Premium Tax Credits themselves will not go away. 

Fears Over Changes to the Premium Tax Credit

If we look at history, we know that the 400 percent of federal poverty level cliff will not ruin an early retirement.

Why?

We saw from 2014 through 2020 plenty of Americans were successfully early retired. Many of them got Premium Tax Credits.

Yes, the First Era featured the 400 percent of federal poverty level cliff. Yes, that was a financial planning issue for early retirees to deal with. No, it did not ruin their early retirement. 

Further, medical insurance premiums are simply one of many financial planning issues early retirees deal with. It’s odd to claim that a change to one expense in 2026 will destroy a retirement plan.

The Government Shutdown

Currently, many federal government agencies are either closed or working with reduced operations. This is commonly referred to as the “Government Shutdown.”

The Government Shutdown provides a potential leverage point for politicians to extend a version of the enhanced Premium Tax Credits. Democrats generally want to make the Second Era Premium Tax Credit enhancements permanent. Interestingly enough, there are two Republican cohorts that also want to extend some version of enhanced Premium Tax Credits. One is a baker’s dozen of generally Blue State Republicans in the House and one are more populist Republicans led by Representative Marjorie Taylor Greene. 

There are no guarantees. It is absolutely possible that some version of enhanced Premium Tax Credits will apply in 2026. However, from a planning perspective, early retirees should consider the very real possibility that we go back to the First Era Premium Tax Credit rules in 2026.

2026 Premium Tax Credit Solutions

One year’s medical insurance premiums are not likely to ruin anyone’s early retirement and finances. 

That being said, early retirees should approach the situation by embracing solutions.

To my mind, for those looking to improve their tax and ACA medical insurance premium picture in 2026, as of late October 2025 there are two primary paths. The first path is “Bronze Plan and Lower Income” and the second path is “Catastrophic Plan and Lower Premiums.”

Bronze Plan and Lower Income

I have previously said that in the new planning environment, Bronze is Gold. 

For many early retirees, Bronze ACA plans will be very desirable in 2026. Why? First, the premiums are lower than Platinum, Gold, and Silver plans, reducing pressure on the Premium Tax Credit issue. 

Second, beginning in 2026 all Bronze plans will qualify as “high deductible health plans” allowing deductible HSA contributions. This allows early retired enrollees to deduct their HSA contributions, possibly increasing their Premium Tax Credit and possibly ducking under the 400 percent of federal poverty level cliff. 

Third, this sets up a tax free pot of money from which to pay medical expenses in 2026. From a Premium Tax Credit perspective, it’s better to reach into a tax free pot than to fund medical expenses by selling a capital gain asset or taking a taxable distribution from a traditional IRA.

A component of Bronze is Gold planning is keeping taxable income low. One helpful tactic in this regard is to hold all taxable bonds in traditional retirement accounts. This keeps interest income off one’s tax return, reducing Premium Tax Credit damage that taxable bond interest can do. 

Cody Garrett and I anticipated that keeping income low for Premium Tax Credit purposes would be a big issue in 2026 when we wrote Tax Planning To and Through Early Retirement. That’s why, on pages 176 and 177 of the paperback version, we include 8 tactics early retirees might be able to use to lower their income in 2026 and increase their Premium Tax Credit. 

Catastrophic Plan and Lower Premiums

A little-noticed change in September 2025 can be very helpful to those thinking about enrolling in ACA medical insurance in November 2025 for 2026.

The government now allows those with incomes above 400 percent of the federal poverty level to enroll in an ACA Catastrophic medical insurance plan. Previously, catastrophic plans were mostly open only to those under age 30 or could otherwise demonstrate a hardship. Now the rules allow having income over 400 percent of federal poverty level to qualify as having a hardship, and thus enroll in Catastrophic coverage.

I believe that Catastrophic coverage is an option well worth considering for many early retirees. Catastrophic policies generally have no coinsurance to start, but they do have in-network annual out-of-pocket maximums. To my mind, that latter feature is, by far, the most important benefit of a medical insurance policy–avoidance of financial ruin in the event of significant medical expenses. 

Further, Catastrophic plans generally have lower premiums than Bronze plans, perhaps significantly lower. Note this can vary significantly based on age and geography.

Those on a Catastrophic plan do not qualify for a Premium Tax Credit. That can be a feature rather than a bug if you’re likely to be near the 400 percent of federal poverty level cliff anyways. Being on a Catastrophic plan makes Roth conversions much more desirable. With no Premium Tax Credit to manage for, the early part of an early retirement becomes a much more desirable time to do Roth conversions.

In today’s planning environment, I’m generally conservative when it comes to Roth conversions when one is on an ACA medical insurance plan. Why do Roth conversions when you are subject to what are essentially two federal income taxes; the federal income tax itself and the possible reduction or elimination of the Premium Tax Credit?

Catastrophic plan enrollment can open the door to more potentially beneficial Roth conversions.

Note that starting in 2026 all Catastrophic plans will qualify as high deductible health plans, allowing deductible HSA contributions. These deductions can help with Roth conversion and other tax planning.

Conclusion

Think twice when you hear fearful messages about 2026 Premium Tax Credits. For early retirees, now is the time to plan and embrace solutions. It’s also time to keep one’s ear to the ground. It’s possible that eventually some version of the Second Era’s Premium Tax Credit enhancements will ultimately be enacted.

FI Tax Guy can be your financial planner! Find out more by visiting mullaneyfinancial.com

Follow me on LinkedIn at @SeanWMullaney

This post is for entertainment and educational purposes only. It does not constitute accounting, financial, legal, investment, medical, or tax advice. Please consult with your advisor(s) regarding your personal accounting, financial, legal, investment, medical, and tax matters. Please also refer to the Disclaimer & Warning section found here.

2025 Year-End Tax Planning

It’s that time of year again. The air is cool and the New York Jets season is over. That can only mean one thing when it comes to personal finance: time to start thinking about year-end tax planning.

I’ll provide some commentary about year-end tax planning to consider, with headings corresponding to the timeframe required to execute. 

As always, none of this is advice for your particular situation but rather it is educational information. 

Urgent

By urgent, I mean those items that (i) need to happen before year-end and (ii) may not happen if taxpayers delay and try to accomplish them late in the year. 

Taxable Roth Conversions

Before we talk about taxable Roth conversion timing, we must talk about taxable Roth conversion desirability. Taxable Roth conversion desirability has significantly declined in recent years. Many commentators have not caught up to the new reality.

Fortunately, Mike Piper knows what time it is. At the 2024 Bogleheads conference, he said “[Roth conversions] don’t usually improve financial security in retirement.” Cody Garrett and I also acknowledge and tackle the changed landscape in our new book Tax Planning To and Through Early Retirement. 

Yes, there can be some taxable Roth conversions that are highly advantageous. But they tend to be much more limited in scope and scale than most commentators acknowledge. In our book, Cody and I detail the sorts of taxable Roth conversions that tend to be beneficial.  

Back to timing. For a Roth conversion to count as being for 2025, it must be done before January 1, 2026. That means New Year’s Eve is the deadline. However, taxable Roth conversions should be done well before New Year’s Eve because 

  1. It requires analysis (hopefully done with up-to-date thinking) to determine if a taxable Roth conversion is advantageous, 
  2. If advantageous, the proper amount to convert must be estimated, and 
  3. The financial institution needs time to execute the Roth conversion so it counts as having occurred in 2025. 

For those age 65 or older by year-end, the Roth conversion calculus should consider the new senior deduction.

Generally speaking it is not good to have federal and/or state income taxes withheld when doing Roth conversions!

Donor Advised Fund Contributions

The donor advised fund is a great way to contribute to charity and accelerate a tax deduction. My favorite way to use the donor advised fund is to contribute appreciated stock directly to the donor advised fund. This gets the donor three tax benefits: 1) a potential upfront itemized tax deduction, 2) removing the unrealized capital gain from future income tax, and 3) removing the income produced by the assets inside the donor advised fund from the donor’s tax return. 

In order to get the first benefit in 2025, the appreciated stock must be received by the donor advised fund prior to January 1, 2026. This deadline is no different than the normal charitable contribution deadline.

2025 is a great time to make a donor advised fund contribution. Why? Because of the new 0.5% of income haircut on itemized charitable deductions starting in 2026. Assuming one has high income in both years, 2025 might be more desirable than 2026. I walked through an example of how the new haircut reduces itemized charitable deductions with Brad Barrett on the ChooseFI podcast. 

Due to much year end interest in donor advised fund contributions and processing time, different financial institutions will have different deadlines on when transfers must be initiated in order to count for 2025. Donor advised fund planning should be attended to sooner rather than later. 

Adjust Withholding

This varies, but it is a good idea to look at how much tax you owed last year. If you are on pace to get 100% (110% if 2024 AGI is $150K or greater) or slightly more of that amount paid into Uncle Sam by the end of the year (take a look at your most recent pay stub), there’s likely no need for action. But what if you are likely to have much more or much less than 100%/110%? It may be that you want to reduce or increase your workplace withholdings for the rest of 2025. If you do, don’t forget to reassess your workplace withholdings for 2026 early in the year.

One great way to make up for underwithholding, particularly for retirees, is through an IRA withdrawal mostly directed to the IRS and/or a state taxing agency. Just note that for those under age 59 ½, this tactic may require special planning.  

Backdoor Roth IRA Diligence

The deadline for the Backdoor Roth IRA for 2025 is not December 31st, as I will discuss below. But if you have already completed a Backdoor Roth IRA for 2025, the deadline to get to a zero balance in all traditional IRAs, SEP IRAs, and SIMPLE IRAs is December 31, 2025. 

Year-End Deadline

These items can wait till close to year-end, though you don’t want to find yourself doing them on New Year’s Eve.

Tax Gain Harvesting

For those finding themselves in the federal 0% long-term capital gains tax bracket and with an asset in a taxable account with a built-in gain, tax gain harvesting prior to December 31, 2025 may be a good tax tactic to increase basis without incurring additional federal income tax. Remember, though, the gain itself increases one’s taxable income, making it harder to stay within the federal 0% long-term capital gains tax bracket. 

I’m also quite fond of tax gain harvesting that reallocates one’s portfolio in a tax efficient manner. 

Tax Loss Harvesting

The deadline for tax loss harvesting for 2025 is December 31, 2025. Just remember to navigate the wash sale rule. 

RMDs from Your Own Retirement Account

The deadline to take any required minimum distributions from one’s own retirement account is December 31, 2025. Remember, the rules can get a bit confusing. Generally, IRAs can be aggregated for RMD purposes, but 401(k)s cannot. 

RMDs from Inherited Accounts

The deadline to take any RMDs from inherited retirement accounts is December 31st. 

Can Wait Till Next Year

Traditional IRA and Roth IRA Contribution Deadline

The deadline for funding either or both a traditional IRA and a Roth IRA for 2025 is April 15, 2026. 

Backdoor Roth IRA Deadline

There’s no law saying “the deadline for the Backdoor Roth IRA is DATE X.” However, the deadline to make a nondeductible traditional IRA contribution for the 2025 tax year is April 15, 2026. Those doing the Backdoor Roth IRA for 2025 and doing the Roth conversion step in 2026 may want to consider the unique tax filing when that happens (what I refer to as a “Split-Year Backdoor Roth IRA”). 

HSA Funding Deadline

The deadline to fund an HSA for 2025 is April 15, 2026. Those who have not maximized their HSA through payroll deductions during the year may want to look into establishing payroll withholding for their HSA so as to take advantage of the payroll tax break available when HSAs are funded through payroll. 

The deadline for those age 55 and older to fund a Baby HSA for 2025 is April 16, 2026. 

2026 Tax Planning at the End of 2025

ACA, HDHP, and HSA Open Enrollment

It’s open enrollment season at work and November 1st starts ACA medical insurance open enrollment for 2026. Now is a great time to assess whether a high deductible health plan (a HDHP) is a good medical insurance plan for you. One of the benefits of the HDHP is the health savings account (an HSA).

New for 2026! All Bronze and Catastrophic ACA plans will qualify as HDHPs! This opens the door for many self-employed and early retired individuals covered by these plans to make deductible HSA contributions. These deductible contributions can increase Premium Tax Credits and lower income taxes. 

As I write this in mid-October 2025, the Premium Tax Credit is in flux. I do think many early retirees and self-employed individuals will benefit from considering a Bronze or Catastrophic plan. As I’ve said before, Bronze is Gold!

For those who already have a HDHP, now is a good time to review payroll withholding into the HSA. Many HSA owners will want to max this out through payroll deductions so as to qualify to reduce both income taxes and payroll taxes.

Self-Employment Tax Planning

Year-end is a great time for solopreneurs, particularly newer solopreneurs, to assess their business structure and retirement plans. Perhaps 2025 is the year to open a Solo 401(k). Often this type of analysis benefits from professional consultations.

FI Tax Guy can be your financial planner! Find out more by visiting mullaneyfinancial.com

Follow me on LinkedIn at @SeanWMullaney

This post is for entertainment and educational purposes only. It does not constitute accounting, financial, legal, investment, medical, or tax advice. Please consult with your advisor(s) regarding your personal accounting, financial, legal, investment, medical, and tax matters. Please also refer to the Disclaimer & Warning section found here.

Tax Planning To and Through Early Retirement Launch Day

It’s finally here! Tax Planning To and Through Early Retirement launches today, September 23rd. It’s available at Amazon and other online retailers.

To mark the occasion, we discussed the book on yesterday’s episode of the ChooseFI podcast and today’s episode of the BiggerPockets Money podcast.

We will be on several more podcasts in the coming weeks and months discussing the book and its concepts. 

One I’m particularly excited about is this Friday’s BiggerPockets Money podcast episode where we discuss tax planning for the five phases of retirement drawdown. You can find that episode on September 26th on the BiggerPockets Money YouTube channel and on podcast players.

I have also put two special YouTube videos on my YouTube channel discussing concepts from the book. 

  • Today I posted a video discussing just how much tax a retired married couple might pay on a $40,700 Roth conversion using an example from the book. You might be very pleasantly surprised by the result.

A Favor Request

I speak for both Cody and myself when I say we are grateful for all of the support we have received for this project.

If you have purchased the book and read it, we humbly for one more favor. Please write an honest and objective review of the book on Amazon. The number and quality of reviews is vital to the book remaining one that Amazon recommends to its customers. 

We want to get word out about Tax Planning To and Through Early Retirement. You can help us do that with an Amazon review! 

Thank you for considering our request.

FI Tax Guy can be your financial planner! Find out more by visiting mullaneyfinancial.com

Follow me on LinkedIn: @SeanWMullaney

This post is for entertainment and educational purposes only. It does not constitute accounting, financial, investment, legal, or tax advice. Please consult with your advisor(s) regarding your personal accounting, financial, investment, legal, and tax matters. Please also refer to the Disclaimer & Warning section found here.

The Tax Planning World Has Changed

The tax planning world has changed. Have I and my fellow advisors caught up?

Below I discuss three changes in the past three years. These recent changes make a big impact on retiree taxation. Most commentators and gurus have largely ignored these changes.

The world has changed. It’s time for financial planners and tax advisors to adjust their advice accordingly.

No RMDs Until Age 75

In September 2022 required minimum distributions (“RMDs”) began at age 72. RMDs make traditional retirement account balances in retirement accounts less desirable, since they require taxable distributions.

In December 2022, SECURE 2.0 became law. For those born in 1960 and later, it delayed the onset of RMDs until age 75. SECURE 2.0 moved the needle when it comes to the desirability of traditional retirement accounts since it cancelled the three most likely to occur RMDs.

How long do we expect people to live beyond age 75? Take a look at the most recent Social Security Trustees Report actuarial table. For the vast majority of Americans, RMDs will now impact a very small proportionate share of their lifetime. 

It’s time for advisors to question prioritizing a planning concern, RMDs, that now impacts a very small slice of most Americans’ lives. 

Permanently Extended Lower Tax Brackets and Higher Standard Deduction

In 2022, advisors were on alert.

Better do those Roth conversions before lower tax rates sunset in 2026 was the common refrain. To be fair, in 2022 the Internal Revenue Code stated that the lower tax rates and the higher standard deduction expired on New Year’s Day 2026. 

Since 2022, both the world and the Internal Revenue Code have changed.

The sunset never happened! In July 2025, the One Big Beautiful Bill permanently extended the previously “temporary” lower tax brackets and the higher standard deduction. In fact, the new bill slightly increased the higher standard deduction ($750 for singles, $1,500 for those married filing jointly).

Let’s think about what that means for taxes in retirement. RMDs that would have been taxed at 15%, 25%, and/or 28% will now be taxed at 12%, 22%, and 24%. That makes a big difference in planning, as the taxation of RMDs becomes less harmful. 

It gets better! Less of most Americans’ RMDs will be taxed in a taxpayer’s highest bracket, thanks to the higher standard deduction. The higher standard deduction drags taxable income down in retirement, decreasing the amount of an RMD subject to the taxpayer’s highest marginal tax bracket. 

Senior Deduction

New for 2025 is the senior deduction. It is up to $6,000 per person for those 65 or older by year end. Yes, it is subject to modified adjusted gross income (“MAGI”) phaseouts between $75,000 and $175,000 for singles and $150,000 to $250,000 for those married filing jointly. But those income phase outs still allow many rather affluent retirees to claim some or all of the senior deduction.

Many affluent retired couples will not show $150,000 of MAGI, especially prior to claiming Social Security. Even those with $200,000 of MAGI, a very limited cohort of affluent retired couples, get $6,000 of the potential $12,000 deduction. While the senior deduction may be more limited for affluent single retirees, many will be able to control income so as to qualify for some of the senior deduction.

The senior deduction helps with several retirement tax planning tactics and objectives. For some, the senior deduction opens the door wider for significant tax free taxable Roth conversions prior to collecting Social Security. For others, it will open the door to very significant Hidden Roth IRA distributions prior to collecting Social Security. The senior deduction also reduces the tax hit on RMDs, since it lowers the amount of the RMD subject to the taxpayer’s highest marginal tax rate. 

2025 Increased Deduction: Consider a married couple both turning 65 in 2025. On New Year’s Day, their 2025 standard deduction was $33,200. Pretty good. With the increased standard deduction and the new senior deduction, assuming their MAGI is $150,000 or less, their total combined 2025 “standard” deduction is now $46,700. Yes, the tax planning world has changed!

Senior Deduction Uncertainty

Some worry: doesn’t the senior deduction vanish in 2029?

Aren’t we back to the “temporary” tax cuts that lowered the tax brackets and increased the standard deduction? 

“Temporary” was simply the weigh station to “permanent” in that case. I strongly suspect something similar will happen with the senior deduction.

Let’s play out the politics. If Congress does nothing, in 2029, the senior deduction, the new deduction for tipped income, and the new deduction for overtime income all vanish overnight. Is it politically wise for Congress to allow seniors, waiters, waitresses, and many blue collar workers to face tax hikes? 

Congress tends to act in its own best interests. While there are no guarantees, the politics are well aligned for the senior deduction to be extended into 2029 and beyond. 

Tax Planning Impact

Fewer RMDs. Lower tax rates and a higher standard deduction. The senior deduction.

Three big changes in three years change tax planning.

We’ve heard commentators push for Roth 401(k) contributions during the working years and aggressive Roth conversions during the early part of retirement. Both tactics optimize for taxes in the later part of retirement. But we’ve just seen three changes in three years that significantly lower taxes later in retirement. 

If the goal is to pay tax when you pay less tax, it’s time to adjust our thinking. 

This is particularly true when it comes to Roth 401(k) contributions. These contributions, for most taxpayers, tend to cost a tax deduction at the taxpayer’s highest lifetime marginal tax rate. In a changed world where retiree taxation has been significantly reduced, that’s not likely to be good planning for most Americans. 

My view is that the new tax planning environment reduces the desirability of significant Roth conversions prior to collecting Social Security. As Mike Piper stated, one of the main benefits of Roth conversions is to reduce tax drag caused by RMDs. The new tax laws significantly reduce that tax drag. Thus, accelerating income tax through Roth conversions becomes much less desirable.

Tax Planning Resource For a Changed World

Cody Garrett, CFP(R), and I created a resource for the new tax planning landscape. 

Tax Planning To and Through Early Retirement is a book that tackles the new realities of tax planning, including deep dives into accumulation planning, drawdown tactics, taxable Roth conversions, RMDs, the Widow’s Tax Trap, and the senior deduction. 

We also have an entire chapter titled Planning for Uncertainty. In that chapter we tackle the “What about future tax hikes?” question using history, logic, and reason. 

Conclusion

In football and in tax planning, the game changes. The recommendations advisors made four years ago may have been the right recommendations then. But big changes in the retirement tax landscape require advisors to reevaluate their strategies and tactics when it comes to tax planning. 

FI Tax Guy can be your financial planner! Find out more by visiting mullaneyfinancial.com

Follow me on LinkedIn: @SeanWMullaney

This post is for entertainment and educational purposes only. It does not constitute accounting, financial, investment, legal, or tax advice. Please consult with your advisor(s) regarding your personal accounting, financial, investment, legal, and tax matters. Please also refer to the Disclaimer & Warning section found here.

2026 401(k) Catch-Up Contributions and the Quorum Clause

Starting in 2026, those with significant prior year W-2 incomes must make catch-up contributions to 401(k)s and other workplace retirement plans as Roth contributions. 

Mandatory Roth catch-up contributions deny many workers 50 and older a valuable tax deduction. 

The new rule originates with SECURE 2.0, a component of the Omnibus bill passed in December 2022.

The validity of the Omnibus bill has been questioned. In 2023, the Attorney General of the State of Texas sued the Department of Justice claiming that the House of Representatives did not have a sufficient quorum under the Quorum Clause to enact legislation when the Omnibus was passed. I share the Attorney General’s concern and have written to the government expressing that concern. 

Were the Omnibus were to be invalidated on Quorum Clause grounds, the rule requiring mandatory Roth catch-up contributions could not be sustained.

Judicial Results to Date

In the federal courts in Texas, four federal judges have weighed in. Two have opined that the Omnibus was passed in a Constitutionally qualified manner consistent with the Quorum Clause. Two have opined that the Omnibus was not passed in a Constitutionally qualified manner since the House did not have a sufficient quorum at the time of the Omnibus’s purported passage.

First, in February 2024 a federal district court judge determined that the Omnibus was not passed in a Constitutionally qualified manner. In August 2025, that opinion was overturned 2 to 1 by a three judge panel of the Fifth Circuit. 

SECURE 2.0 Lay of the Land in September 2025

Here is how I assess where we are in September 2025. 

First, it is likely that SECURE 2.0 will never be overturned. While I cannot say that definitively, I feel rather confident that it will survive, and I would plan around that outcome.

Let’s play out the future. As of this writing, I do not know if Ken Paxton, the Attorney General of the State of Texas, will appeal the August decision to an en banc panel of the Fifth Circuit and/or to the Supreme Court. But assuming it goes to the Supreme Court, just for analytical purposes, I suspect at least two of the institutionalist bloc of Justices Roberts, Kavanaugh, and Barrett would side with both the Biden and Trump Departments of Justice against overturning the Omnibus on Quorum Clause grounds.

From a planning perspective, it’s time for higher income W-2 workers to understand that they must make any 401(k) or other workplace retirement plan catch-up contributions as Roth contributions in 2026. The IRS confirmed this in recent guidance. 

The threshold to be considered high income for this purpose is likely to be slightly more than $145,000 of W-2 wages from that employer in 2025. I suspect that in October the IRS will come out with the exact threshold 2025 W-2 wage threshold amount applicable in 2026 (this is adjusted based on inflation). 

In late 2025, those subject to this potential restriction may want to prioritize W-2 income reduction planning opportunities such as making remaining 2025 401(k) contributions as traditional contributions to potentially fit under the 2026 threshold. 

Silver Lining: Required Minimum Distributions

There’s a silver lining to SECURE 2.0 likely surviving Quorum Clause concerns: delayed RMDs. For those born in 1960 or later, SECURE 2.0 delays the onset of required minimum distributions (“RMDs”) from age 72 to age 75. 

This delay requires all of us to step back from the inchoate fears about taxes in retirement and reassess RMDs and their impact.

Conclusion

While the final path of the Omnibus Quorum Clause litigation is not certain, it’s tilting heavily towards the Omnibus, and thus SECURE 2.0, surviving concerns about the House of Representatives’ use of proxies to establish a quorum in December 2022.

From a financial planning perspective, it is time to plan for higher income workers being required to make 401(k) catch-up contributions as Roth contributions. Further, it’s quite reasonable for those born in 1960 and later to plan on RMDs beginning at age 75.

FI Tax Guy can be your financial planner! Find out more by visiting mullaneyfinancial.com

Follow me on LinkedIn: @SeanWMullaney

This post is for entertainment and educational purposes only. It does not constitute accounting, financial, investment, legal, or tax advice. Please consult with your advisor(s) regarding your personal accounting, financial, investment, legal, and tax matters. Please also refer to the Disclaimer & Warning section found here.

Calculating the Senior Deduction

The tax laws have changed. Starting in 2025, those aged 65 at year-end can generally claim an additional deduction (referred to as the senior deduction or the Enhanced Deduction for Seniors) of up to $6,000 per person. 

Below I discuss how to calculate the senior deduction, how to optimize planning for the senior deduction (starting in 2025!), and offer thoughts on the future of the senior deduction. 

Standard Deduction or Itemized Deductions

One excellent feature of the senior deduction is it applies regardless of whether one claims the standard deduction or itemized deductions. The senior deduction is in addition to either the standard deduction or itemized deductions. 

Senior Deduction Calculation

The maximum senior deduction is $6,000 per person per year. It is not indexed for inflation.

Two things eliminate the senior deduction. The first thing that eliminates the senior deduction is not having a valid Social Security number (see Section 151(d)(5)(C)(iv)). The second thing that eliminates the senior deduction is filing as “married filing separately” (see Section 151(d)(5)(C)(v)).

One thing reduces or eliminates the senior deduction: having modified adjusted gross income (“MAGI”) above certain thresholds. 

For singles, the MAGI threshold is between $75,000 to $175,000. Within that threshold, the senior deduction is reduced 6 cents on the dollar. MAGI at or above $175,000 eliminates the senior deduction entirely. The MAGI threshold amounts are not adjusted for inflation. 

For those filing married filing jointly, the MAGI threshold is between $150,000 to $250,000. Within that threshold, each person’s senior deduction is reduced 6 cents on the dollar. Effectively, this means a dollar of income within the threshold reduces the total senior deduction 12 cents on the dollar. MAGI at or above $250,000 eliminates the senior deduction entirely. Again, the MAGI threshold amounts are not adjusted for inflation. 

MAGI for Senior Deduction Purposes: For the vast majority of readers, MAGI will simply be the adjusted gross income (“AGI”) reported on the tax return. However, three items are added back to determine MAGI: excluded foreign earned income/housing income, excluded income from certain U.S. territories, and excluded income from Puerto Rico. 

Senior Deduction Examples

Let’s start with Sally. She is single and turns 66 during 2025. Thus, she is eligible for the senior deduction. In 2025, her AGI and her MAGI is $100,000.

Here is her 2025 senior deduction is computed:

LetterItemAmount
AModified Adjusted Gross Income$100,000
BInitial Threshold Amount (Single)$75,000
CExcess MAGI (A minus B, cannot be less than $0)$25,000
DReduced Deduction (C times 6 percent)$1,500
E2025 Senior Deduction ($6,000 minus D)$4,500

Let’s move onto a married couple filing jointly. George and Lucille file married filing jointly and both turn 66 during 2025. Thus, they are each eligible for up to $6,000 of senior deductions. In 2026, their AGI and their MAGI is $162,000.

Here is how their 2025 senior deduction is computed:

LetterItemAmount
AModified Adjusted Gross Income$162,000
BInitial Threshold Amount (MFJ)$150,000
CExcess MAGI (A minus B, cannot be less than $0)$12,000
DReduced Deduction (C times 6 percent)$720
E2025 First Spouse Senior Deduction ($6,000 minus D)$5,280
F2025 Second Spouse Senior Deduction ($0 unless both spouses are at least age 65 by year end. If both are at least 65 at year end, enter the same amount as “E”)$5,280
GTotal Senior Deduction (E plus F)$10,560

Senior Deduction Optimization Planning

How does one plan to optimize for the senior deduction?

My favorite tactic, for those who can afford to, is to delay claiming Social Security benefits. That helps keep income lower longer in one’s mid-to-late 60s, increasing the odds they can claim the senior deduction. Delaying Social Security also increases the chances one can claim a full senior deduction and either (i) do an advantageous Roth conversion or (ii) benefit from the very favorable Hidden Roth IRA. 

A second favored planning technique to optimize the senior deduction is to keep ordinary income as low as possible in retirement. Tactics that further this objective include holding all taxable bonds and taxable bond funds in traditional retirement accounts and avoiding nonqualified annuities. 

Senior Deduction Tax Return Reporting

The senior deduction is computed on Part V of a new tax return schedule, Schedule 1-A, Additional Deductions, filed with one’s annual federal income tax return.

The Future of the Senior Deduction

The new senior deduction is scheduled to expire on New Year’s Day 2029. My personal view is that outcome is unlikely to occur. 

Two other tax deductions expire at the same time: the deduction for some tip income, and the deduction for some overtime income. It’s doubtful that Congress will allow seniors, waiters, waitresses, and blue collar workers to all face a significant overnight tax hike. I strongly suspect all three tax cuts will be extended such that they do not expire in 2029.

We have just seen this play out. Many advisors encouraged Roth conversions “before the 2017 TCJA tax cuts sunset.”

Yes, the higher standard deduction and lower tax brackets were originally scheduled to sunset at the end of 2025. Did that sunset happen? No!

Tax Planning To and Through Early Retirement Book

Cody Garrett and I wrote what we believe to be one of the first books to tackle the new senior deduction and the 2025 tax law changes in a serious way. 

Tax Planning To and Through Early Retirement is available on Amazon. It tackles retirement tax planning considering the new tax planning environment. 

Conclusion

The new senior deduction has a rather straightforward calculation, as I demonstrated above. Retirees should be attentive to monitoring income to help optimize for the senior deduction. 

FI Tax Guy can be your financial planner! Find out more by visiting mullaneyfinancial.com

Follow me on LinkedIn: @SeanWMullaney

This post is for entertainment and educational purposes only. It does not constitute accounting, financial, investment, legal, or tax advice. Please consult with your advisor(s) regarding your personal accounting, financial, investment, legal, and tax matters. Please also refer to the Disclaimer & Warning section found here.

One Big Beautiful Bill Passes

On July 4th, President Trump signed into law the reconciliation bill, commonly referred to as the One Big Beautiful Bill.

The Bill will drive a significant amount of my content creation this summer.

On my YouTube channel, I will devote my Saturday videos to discussions of how the One Big Beautiful Bill impacts financial planning and retirement planning. Already I did a video stating that the One Big Beautiful Bill ought to have us questioning our thinking about the future, and a video about how One Big Beautiful Bill changes the tax planning landscape for charitable giving.

Separately, I am working with Cody Garrett, CFP(R), to put the finishing touches on our forthcoming book, Tax Planning To and Through Early Retirement, which we anticipate publishing later this year. The book will devote significant space to how the new law changes retirement planning.

To find out when we are publishing the book, please sign up for an email alert here.

Two One Big Beautiful Bill resources:

The bill text: https://www.congress.gov/bill/119th-congress/house-bill/1/text

Jeff Levine’s X thread on the bill: https://x.com/CPAPlanner/status/1940856699872858202

Follow me on YouTube: SeanMullaneyVideos

This post is for entertainment and educational purposes only. It does not constitute accounting, financial, investment, legal, or tax advice. Please consult with your advisor(s) regarding your personal accounting, financial, investment, legal, and tax matters. Please also refer to the Disclaimer & Warning section found here.

Share this: