David Walker, the former United States Comptroller General, once wrote a CNN op-ed entitled, “Why Your Taxes Could Double.” In it, he laid out the case that, sooner or later, tax rates will have to rise, perhaps even double, if our country is to avoid fiscal calamity. The cost of unfunded obligations like Social Security and Medicare, he wrote, will begin to crowd out all other budget items until either taxes are forced up, spending is forced down, or some combination of the two.
While some economists predict that tax rates will likely rise at some point in the next decade, very few are willing to put a firm date on when. So, some ambiguity persists as to how much longer we will continue to enjoy historically low tax rates.
Despite the general uncertainty about the timing of a future tax increase, there is a certain segment of the population that will see a near doubling of their tax rate — no matter what. This doubling of taxes is guaranteed because it’s written into the IRS tax code.
I’m referring to the husband or wife in the 15 percent tax bracket who survives the death of their spouse.
Think about it: If you’re a married couple and have $65,000 of taxable income, you’re still in the 15 percent marginal federal tax bracket (the 15 percent tax bracket ends at $75,300). While nobody relishes the chore of paying taxes, 15 percent is a good deal of historic proportions. Taxes for you will never be lower than they are right now. In other words, given the fiscal landscape, your taxes are on sale.
However, if one spouse dies, and the surviving spouse continues to experience that same $65,000 of taxable income, he suddenly finds himself catapulted from the 15 percent marginal bracket to the 25 percent marginal bracket (the 25 percent tax bracket for a single filer starts at $37,650). Going from a 15 percent tax bracket to a 25 percent tax bracket is a near doubling of your tax bracket!
In other words, for a couple in the 15 percent marginal tax bracket, they don’t have to read the tea leaves to divine the exact date when our nation’s tax load will double. It’s not a question of studying economic forecasts or analyzing our country’s unfunded obligations.
Why? Because if you’re in the 15 percent tax bracket, all it takes for your tax rate to double is for your spouse to die. It’s a time bomb that’s set to go off at the death of the first spouse.
All this of course begs the question: How can a retired couple defuse this tax time bomb?
The answer is, pay your taxes while they are on sale. Pay your taxes while they’re historically low, and while you’re enjoying your comparatively low tax rates as married joint filers. If you are currently in the 15 percent tax bracket, not a year should go by where you’re not fully maxing out your 15 percent tax bracket. This can be done by converting IRAs to Roth IRAs or repositioning some of your qualified plans to a tax-free Life Insurance Retirement Plan (LIRP).
Here’s an example: If line 43 of your tax return (taxable income) is $50,000, then reposition $25,300 in order to get to the top of the 15 percent tax bracket ($75,300). If your taxable income is less than $50,000, then you’ll want to shift even more. Just remember, tax rates for a married couple in a 15 percent tax bracket will never be lower than they are today.
In short, our country’s tax rates are going up, however uncertain the timing. If you are a married couple in the 15 percent marginal tax bracket, however, the near doubling of your tax rate is nearly inescapable, unless you undertake proactive planning. This planning involves a repositioning of assets from the tax-deferred bucket to tax-free in a thoughtful, systematic and intentional way.
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