There's a lot speculation that taxes are going up in the future. People wonder--what should I do?
Fear is the underpinning of a lot of tax speculation. People don't like to pay for things they don't control. Our country was founded by people who didn't want to pay taxes. People fear that because of taxes, they'll run out of money. Or they fear the government will waste their hard earned tax dollars.
We challenge the accepted thinking on the topic--that rates are going up.
The reality of the situation is that tax rates haven't gone up in a long time. It's been 30 years since there's been a significant increase in federal tax rates.
When tax law does change, it's often in unpredictable ways. In order to negotiate, the politicians don't tell people what they have in mind.
For instance, one of the most significant changes in taxes, the advent of the Roth IRA, wasn't talked much if at all until it passed into law.
If no legislation happens before 2026, the rates go back to what they were before the recent reduction in taxes.
So what should you do? We have a two step strategy:
1. Practice good "tax hygiene." Take the deductions you're allowed.
2. If you know your tax rates are going to go up, then emphasize Roth contributions and conversions. and make sure that you're converting IRAs
Taxes are something you can't control. But you can control your reaction to taxes. If you get stuck in fear about them, you're not living up to your full potential. Focus on what you can control.
Bridget's firm website: www.sullivanmermel.com
John's firm website: www.trinfin.com
For advisors around the US: www.acplanners.org
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TRANSCRIPT:
John: Everybody's talking about tax rates going up. There're debates in Congress right now. What is there to do about it? That's what we're going to talk about on today's episode of Friends Talk Financial Planning. Hi, I'm John Scherer, and I run a fee-only financial planning practice in Middleton, Wisconsin.
Bridget: And I'm Bridget Sullivan Mermel, and I've got a fee-only financial planning practice in Chicago, Illinois. Today, I'm with John Scherer, though, in his office in Middleton, Wisconsin. So, I just wanted to say thanks for having me in a person video.
John: Yeah. This is so great to have a chance to sit together in person and talk.
Bridget: And the next thing I'm going to do is tell everybody to subscribe. So before we start talking about what to do about the upcoming tax increase, or what people think will be one, we want to say, “Hey, go ahead and subscribe.”
John: That's right. Hit that subscribe button. And then I'm really interested, Bridget, to hear what you have to say about this. I've been hearing a lot about this with my clients, reading about it, trying to figure out what they're going to do in Washington. You run a tax practice. You've got 25 years of experience in this. What are you telling people that they should be doing?
Bridget: Well, people think that taxes are going to go up, and people don't like thinking that their taxes are going to go up. And so they feel a lot of uncertainty about taxes, and they think, “Gee whiz, what if my taxes go up and I retire and I don't have any money? What if I run out of money? Or other mind spirals that end up with: "What if I run out of money? I don't want to lose all my money. And I don't like paying the government, and that's going to be the source of my misery.”
So, people don't like paying more in taxes. So we want to separate that from the reality of the current situation. And what I see is that there's an uphill legislative battle for any kind of tax increases to go in place. And in my opinion, it's unlikely anything is going to happen as far as increasing taxes for a significant number of people before the year of 2026. And even after 2026 it is unlikely.
You'd probably be taking a better bet to bet against significant increases in taxes than for them. So, John, tell me what your thoughts are.
John: Well, we were talking a little bit before the show that it's been basically 30 years since any significant tax increases have happened. Back in the early 90s on things, some tax increases back in the 2000s on things. But one thing caught my ear about talking about 2026, right? The last tax law change was a decrease in tax rates, but those will expire.
So, if nothing happens in Washington, then in 2026, taxes are going to change, and they're going to go back to what they were before, which is an increase. So that's one of those interesting things that people forget. If nothing happens, taxes are going to increase somewhat because of what it goes back to. And the other thing that strikes me, and I talk about it with people, is that last year at this time when the elections were just happening, we were asking, "What's going to happen?" And, golly, everybody was certain that taxes were going to go up.
And it goes back to that discussion: it's been a long time since tax rates have actually gone up. And what happens is often so much different than what we think is going to happen. And that's with investments, that's with any number of things, and taxes are one of those. And one of the interesting things is that one of the biggest tax changes in the last 20 or 30 years has been the advent of the Roth IRA, the Roth 401K. Significant changes. And yet, as we were talking before the show, before that law came into being, that was not talked about at all, right?
Bridget: Right. That was just a back-room decision--the policy people getting together.
John: Right. So sometimes the things that we think are going to be big deals aren't, and the things that we don't think are going to be big deals turn out to be. And the bottom line is we have to wait until something happens, so we have something tangible.
So that's one of the takeaways I'd have for this. There's lots of talk going on, but let's wait and see what, if anything, happens (maybe nothing happens), but it wastes a lot of energy to get excited to make plans right now for a tax increase that may or may not happen. But what are some things that people can do right now? Are there some action steps you've been talking to people about?
Bridget: Well, let's split those into two different camps. One is what I generally recommend, which is generally good tax hygiene--just looking at your taxes every year and saying, “Okay, am I making sure that I'm taking all the deductions that are allowable to me?”
However, if you are right before retirement years or right at the beginning of your retirement years, a lot of times there're adjustments you can take to accelerate taking some IRA distributions or making Roth conversions at those times just to push you, so that you're top of that tax bracket. Okay. So that's just the stuff that I always generally…
John: I love that phrase: tax hygiene. I've not heard that one before. I'm going to start adopting that. Tax hygiene: stuff that you do all the time…
Bridget: Routine. No big drama.
John: What about special things.
Bridget: Okay. A special thing that I want to mention is if you're tuned into this video because you want to know what to do, because you're convinced the taxes really are going up, despite the fact that we just spent five or ten minutes saying, “Hold your horses. They might not go up.”
But let's say you are convinced, or you know more about your tax situation than I do, which you do, you absolutely do know more about your particular tax situation. So you might be in a situation where you know, “Hey, my taxes are going up for specific reasons.” So in that case, Roth conversions, contributing to a Roth, and contributing to a Roth 401K, if you have one, are all places to go with your money.
John: That would be something like you get a new job and you know your tax rates going up, right? Or maybe somebody was staying home with the kids. Now they're back up in the workforce, you know income is going to go up and therefore taxes are going to go up--those sorts of things you're talking.
Bridget: Absolutely. Or you just got a big promotion.
John: Yeah.
Bridget: And, you know your taxes going up. Sometimes people know this, so they know, “Hey, I'm making a lot more,” just like sometimes people know they're going to be paying less in taxes.
So if that's the case for you, it's not just the sinking feeling because you think life is getting worse, and it's kind of an amorphous fear. I would say don't act on the amorphous fear, but if you do know, “Hey, my income is going up, and so my taxes are going up, and I know it,” then hit the Roths.
John: Yeah. And so just to circle back on those two things, what we're hearing is, number one, it's not based on what goes on in Washington or other things. It's what's your personal situation? If your personal situation dictates it, yeah, do the Roth option, do some of those things.
And then the other thing is, don't let the fear take over. Wait and see what happens. We don't know what might happen, right? Wait until something happens before taking any action. Those are sort of the two takeaways I have from our discussion here today.
Bridget: Great! So, John, just to finish this up, two things we want to say. One is that we're both members of ACP or the Alliance of Comprehensive Planners. It's a group of fee-only planners that operate all over the country, so if you like the way that you hear us talking about things, acplanners.org is a great place to checkout. And the people in ACP know more about taxes than most advisers, so it's a great resource.
John: That's right. And don't forget to hit that subscribe button and help other people find content like this. And with that, until next time.
Bridget: Thanks, John.
At Sullivan Mermel, Inc., we are fee-only financial planners located in Chicago, Illinois serving clients in Chicago and throughout the nation. We meet both in-person in our Chicago office and virtually through video conferencing and secure file transfer.
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