To Marry Or Not To Marry—That Is The Question
By Beth Blecker
Member of Ed Slott's Master Elite IRA Advisor GroupSM
Another historic event for Same Sex Marriages happened on Wednesday, September 14, 2016. That is when the U.S. Department of Treasury and the Internal Revenue Service (IRS) released final regulations amending the definitions of “marriage” and “husband and wife” in the wake of the Supreme Court’s Obergefell v. Hodges decision which legalized same-sex marriage, and the Windsor v. U.S. decision, which struck down Section 3 of the Defense of Marriage Act (DOMA).
In short for federal tax purposes, the terms “spouse,” husband,” and “wife” are defined as an individual lawfully married to another individual. The definitions apply regardless of the taxpayers’ sexes or genders.
No matter what, deciding to get married is probably one of the biggest decisions you will make in your life. It is usually a decision that is made with your heart and a big discussion on the financial benefits is not even considered.
However, what happens if you have lived a wonderful life as partners and now suddenly marriage becomes a possibility that you never had available to you before! It becomes your choice. With marriage equality here to stay, more and more same-sex couples are faced with the decision, “Is tying the knot the right choice for us?”
Same-sex couples who may not have given full thought to the financial side of making it legal, should do so before walking down the aisle. So, shortly after that ground-breaking day in June, 2015 many partners began pondering on the pros and cons of marriage.
One of those couples, who had been together for over 19 years thought, “Wouldn’t it be nice to celebrate our 20th anniversary by getting married with a small ceremony surrounded by our loved ones!” Being the fiscally responsible women that they are, they decided that before they planned this simple event they should sit down with me, their financial advisor and go over the pros and cons of marriage.
It is not often that I have an opportunity to help a couple in love decide on the financial benefits of marriage, beyond working with an attorney to put together a prenuptial agreement and decide on beneficiary designations. This was a decision of whether it was financially beneficial to marry—because they have been fine up until now in their current relationship. They have done their planning, prepared legal documents and proper beneficiary designations so will this be better?
Without that much research I soon determined the answer was a resounding YES!
First the big negative for them—taxes. As they have both worked in well paying positions combining their salaries will definitely cause them a marriage penalty and loss of deductions. Second it will cause them to lose their eligibility to make Roth IRA contributions.
There were also several factors that were neutral to their situation, so we will not discuss them here. But now for the pros.
First is that they both will receive state pensions at retirement and a married participant has the ability to make the spouse the joint and survivor beneficiary of that pension. That benefit is not available for a nonspouse partner. This is a great planning tool with many options available. If they were to marry, they now guarantee the second to die spouse would retain two very significant pensions. This becomes a great benefit since at the first death they will be losing one nice size Social Security check a month.
The next significant pro was on their 457 plans. If the first spouse dies before retiring and/or rolling the 457 plan (as well as a 401k and 403b plan) over to an IRA it is much easier for the second spouse to have the plan rolled over to their own. As with IRAs a nonspouse beneficiary is unable to roll the qualified plan into their own IRA but many times it is not even allowed for a nonspouse beneficiary to set up a decedent account in the plan and the plan requires the nonspouse beneficiary (partner) to distribute the plan out over five years with all taxes paid. Plans are required to allow a nonspouse beneficiary to do a direct rollover of the inherited plan benefits to an inherited IRA or to convert them to an inherited Roth IRA. This must be done by December 31 of the year after the plan participant’s death in order to use the stretch options in the inherited IRA account.
In this case there are two 457 plans that will be rolled over at retirement to IRAs. This is where a spouse has the best options.
1. If the first spouse dies before 59 ½ a decision will be made as to whether or not the surviving spouse will need any of the money before she turns 59 ½. If the possibility exists that any money may be needed from the IRA then the account should be rolled directly into a Decedent IRA, not rolled over to the surviving spouse’s IRA. This allows the surviving spouse to take distributions (still fully taxable) without a 10% penalty. For a spouse beneficiary there is no RMD (required minimum distribution) until the deceased spouse would have turned 70 ½ and also the account can be rolled over at any time. Of course, you would want to wait until after age 59 ½ and before age 70 to do the rollover.
2. Once the spouse already turned 59 ½ or after age 70 ½ the best option only a spouse has is to roll the IRA into their own IRA. This gives the spouse the ability to not only change the beneficiaries—but allow the beneficiaries to have their own ability to set up a decedent IRA and stretch it over their lives. The surviving spouse now having made the IRA their own gets to use the Uniform Lifetime Table instead of the Single Life Expectancy Table for Inherited IRAs. This gives them a significantly longer stretch and usually much smaller RMDs if larger distributions were not needed as in the case of my couple who will be keeping two pensions, the larger Social Security and combining two 457s into one large IRA where lower distributions may be desired.
By the time we finished this conversation my clients had heard enough! They were thrilled. They knew that there could and would be negatives to getting married, such as higher taxes and the possibility of the anguish of divorce, but so is splitting up a relationship after 20 years. So the decision was made. The wedding was planned on their 20th anniversary in three short months. The love was strong and so was the financial decision.
This was the analysis needed for these clients. I have another couple where one partner was a small business owner with a low income, so taxes were actually not an issue. However, with a small income, Social Security then became an important factor. The point is this exercise is not only for same-sex couples but for all couples that may be considering marriage later in life.