Brutal-truth financial planning conversations are clearly tough for clients and advisors alike. But Chris Wentzien, founder of Natural Bridges Financial Advisors, pulls no punches in never failing to raise the possibility of a “triple whammy,” as he calls it, striking his mass affluent clientele: three bad things hitting at once — like job loss, the stock market tanking and falling ill.
That multi-calamity of course is hammering many Americans now thanks to the coronavirus pandemic.
In an interview, Wentzien tells ThinkAdvisor how advance discussions help him to successfully advise pre-retirees and early retirees, including his identifying a variety of income-tax planning opportunities to preserve their wealth.
Such clients are in what the certified financial planner calls “the bridge years,” that interval before they collect Social Security and take required minimum distributions, when high earners’ tax brackets plummet because they’re no longer receiving paychecks.
During the pandemic, Wenzien, a CPA who is a member of the Alliance of Comprehensive Planners and president of ACP’s 2020 Board of Directors, hasn’t changed his approach to planning for clients in the bridge years. He had already advised them to keep emergency cash reserves and a guaranteed income stream built out at least five years.
Nevertheless, he is spending lots of time revisiting financial plans — in some cases tweaking them — and reviewing those emergency reserves and bond ladders too.
For bridge-years clients, in the window before their tax bracket rises — when they start collecting Social Security and taking RMDs — the planner advises to fill up lower brackets by, for instance, withdrawing funds from a retirement account or converting from a traditional IRA to a Roth IRA.
That keeps their tax bracket from spiking once income rises again, he says. Other strategies he uses for tax planning during the bridge years are donation bunching and tax-loss harvesting.
ThinkAdvisor recently interviewed the tax-focused advisor, speaking by phone from his office in Santa Cruz, California; an email conversation followed on April 6. Wentzien creates a detailed tax plan for each client upfront. This, he says, prevents their arriving at tax time with shoeboxes full of statements and receipts but his not being aware of “the past year of their life.”
Here are highlights from our conversation:
THINKADVISOR: Which years are a client’s bridge years? CHRIS WENTZIEN: The few years when they retire early or are semi-retired before starting Social Security and taking their RMDs. During that time, they need to make a number of financial planning decisions because if they were a fairly high earner when employed, suddenly their income goes down to virtually nothing.
What issue and opportunities does that present? No longer employed, they have to rely on other sources of income. It’s a huge mindset shift. Many clients want to start Social Security right away because they don’t want to overspend their savings. But we advise them to wait till age 70 to take Social Security.
How else do you help clients through this transition? Because their tax bracket can drop significantly before their tax rates go up again when they start Social Security and taking RMDs, we coach them and show them, for example, the benefits of pulling income out of retirement accounts because they’re [temporarily] in a lower tax bracket.
How many years are there to this period usually? It varies from client to client. I have a client who’s 68 with a really big IRA. So we have [only] a couple of years’ window [of opportunity] if she delays taking Social Security till she’s 70. On the other hand, if someone retires when they’re 63, it gives them several more years of tax-planning opportunity.
Suppose that during the bridge years, a client has investments that throw off income? Typically they’re still going to be in a really low tax bracket even if they have a substantial portfolio with dividends and interest.
Please discuss when and how their tax bracket will return to a higher level? When they wait till age 70 to claim Social Security and then take their RMDs [on] a substantial tax-deferred IRA [for example], that combination [of income] automatically pushes them up into a higher bracket when they’re in their 70s.
What is a client’s principal need during the bridge years and the planning strategies you use to satisfy it? The need is for income. The idea is to take advantage of being in a low tax bracket. Once they are, we can take money from retirement accounts. We can also look at converting from a traditional IRA to a Roth IRA. Third, if they have a taxable portfolio with capital gains, we can do tax-loss harvesting. With some clients, we can do a combination of these.
What’s the ultimate goal? If they’re down in, say, a 12% tax bracket or even lower, we want to smooth out their tax bracket over time. Ultimately, this will really help them preserve their wealth. Therefore, we’ll often take taxable income out of their retirement accounts to fill up a lower bracket.
Please discuss just what a Roth IRA conversion will do for them. By increasing the tax bracket a little now, we’re reducing their RMD when they get to age 72. That means they won’t go from a virtually zero tax bracket and then spike when they’re in their 70s. We want them to have a smooth tax rate over the next several years.
Can a substantial contribution to a donor-advised fund help? The biggest impact of the new tax laws that went into effect last year was that instead of itemizing deductions, [most] clients [nationwide] are taking the [higher] standard deduction instead. Many of our clients are doing that. So from a tax perspective, they no longer get the benefit of a charitable donation. However, we’re doing a strategy called bunching — and a donor-advised fund is a great vehicle for this.
How does it help? We may recommend that a client make a large donation to a donor-advised fund to get closer to [or exceed] the standard deduction, which for 2020 is $24,800 [$24,400 for tax year 2019]. When they make the contribution, they get the tax deduction but don’t have to give the money to the charity right away. They can do that in succeeding years. Any other strategies for a charitably inclined client? A great one is a qualified charitable distribution, or QCD. With this, they can give something to a charity direct from their IRA every year, and it stays off their tax return [becomes part of RMD]. This can be done from age 70-1/2.
What will be the biggest impact of the Secure Act during the bridge years? The rule increasing the age that people must start taking RMDs — from 70-1/2 to 72 — is a positive. It will make Roth conversions more popular. What’s probably not good is the rule that says non-spouse beneficiaries must withdraw funds from an inherited IRA within 10 years of [the account owner’s death.] That is, the “stretch IRA” [now eliminated] had been a great tax [benefit] for non-spouse beneficiaries. How does creating detailed tax plans for clients in advance help you as an FA? We don’t have clients coming in with shoeboxes [of statements and receipts] with our being completely unaware of the past year of their life.
Jane Wollman Rusoff is a contributing editor who specializes in interviews with thought leaders. An author and prolific journalist, Jane is founder of www.FamilyStarProductions.com.