Tax-Smart Strategies for Your Retirement

Figuring out ways to minimize how much the IRS takes from your retirement money should be a central part of retirement planning. Consider these strategies to help reduce your taxable income, generate tax-advantaged growth potential in your accounts and keep more of what you’ve worked so hard to save. 

The deadline to make a contribution to an Individual Retirement Account (IRA) for 2020 has been postponed to May 17, 2021, for most individual taxpayers. Note the two primary types of IRAs:

1. Traditional IRAs, contributions to which may be tax deductible; or


2. Roth IRAs, for potential tax-free distributions if certain conditions are met.¹ Roth IRAs are funded with after-tax contributions.

The maximum contribution to a Traditional or Roth IRA is the lesser of (a) your taxable compensation for 2020 or (b) $6,000 (or $7,000 if you are age 50 or older at any time during the calendar year) for 2021. These limits apply to all of your Traditional and Roth IRAs combined.² If you are self-employed or a small business owner, consider establishing a Simplified Employee Pension Plan (SEP) (which is an IRA-based retirement plan) and funding a SEP IRA with employer contributions made under that plan. Note that if your business employs any employees, the SEP will likely have to cover the employees as well if they qualify. For 2020, the maximum employer contribution to a SEP IRA (or to your own SEP IRA) is the lesser of (a) 25% of your employees’ eligible compensation (or, if you are self-employed, 20% of your net earnings from self-employment), or (b) $57,000, and the deadline to contribute is the due date of the federal income tax return for your business, which for 2020 employer contributions is postponed to May 17, 2021 for self-employed individuals who file Form 1040, Schedule C to report their self-employment income.³

High-earning individuals can't contribute directly into Roth IRAs if their income exceeds certain limits set by the tax code, but may be able to convert a Traditional IRA to a Roth IRA. The taxable amount converted (including the tax-deductible contributions as well as tax-deferred earnings) is subject to ordinary income tax for the year the conversion is made but provides future federal tax-free growth potential. This strategy may work for taxpayers who will not need to take distributions from their Roth IRA during retirement and plan to leave their accounts to their children. Keep in mind, however, that such a conversion in 2021 may increase your adjusted gross income for 2021.

The Setting Every Community Up for Retirement Enhancement (SECURE) Act of 2019, which was signed into law December 20, 2019, increased the RMD beginning age to 72 for individuals born after June 30, 1949; the RMD beginning age remains age 70 ½ for individuals born before July 1, 1949. This means that if you were born after June 30, 1949, you won’t need to begin RMDs until at least age 72.

In response to COVID-19, the Coronavirus Aid, Relief, and Economic Security (CARES) Act was enacted. The CARES Act waives RMDs for IRAs and defined contribution plans (including 401(k), 403(b), and governmental 457(b) plans) for calendar year 2020. As of the date of the publication of this article, RMDs have not been waived for 2021. Speak with your Financial Advisor and your tax advisor about how you should approach taking RMDs in the context of your overall retirement plan. 

The CARES Act did not change the rules around Qualified Charitable Distributions (QCDs), which generally allow individuals age 70½ or older to make a QCD of up to $100,000 per year directly from their IRAs to an eligible organization.⁴  QCDs can be counted toward satisfying RMDs for the year if certain rules are met. However, if an individual makes a tax deductible contribution after age 70 ½, the amount the individual can exclude from their taxable income as a QCD will generally be reduced. Keep in mind that, for an IRA distribution to qualify as a QCD, it must satisfy certain requirements (e.g., must be paid directly from your IRA to an eligible organization and not all charitable organizations qualify to receive QCDs). Make sure to work with your Tax Advisor to ensure that you satisfy all the QCD requirements and that QCDs have been correctly reported on your tax return. 

You can choose to take a distribution to fund a 529 education savings plan for grandchildren or other family members. While your distribution will be subject to tax, once you invest the funds in a 529 plan they can potentially grow tax-free. Also, any withdrawal used for qualified higher education expenses will generally be tax-free, as well. Furthermore, Morgan Stanley recently launched the Morgan Stanley National Advisory 529 Plan, the first 529 plan of its kind, made available nationwide, and offered exclusively to Morgan Stanley clients. You can select from goals-based asset allocation portfolios, guided by Morgan Stanley thought leaders, that align with your unique time frame, risk profile and goals, while gaining access to institutional caliber fund managers and pricing.

If you’ve maxed out how much you can contribute to 401(k)s, IRAs and other tax-qualified retirement accounts, consider putting additional savings into variable annuities. Assets in a variable annuity maintain tax-deferred growth potential until they are withdrawn by the contract owner. When you retire, depending on your annuity contract, you may be able to elect to receive regular income payments for a specified period or spread over your lifetime. Many annuities also offer a variety of living and death benefit options, usually for additional fees.

Speak with your Morgan Stanley Financial Advisor or Private Wealth Advisor and your personal tax and legal advisors to determine which strategies might be appropriate for you.