Behavioral Finance

 

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Recently, I had a conversation with a gentleman who was nearing retirement, and I was talking to him about performing Roth conversions out of his 401k or his rollover IRA after he officially retires and before he starts social security benefits. I mentioned the benefits and that there are a few pitfalls to avoid when doing so, and there were some blank stares. 

When it comes to retirement planning, Roth IRAs offer a powerful combination of tax-free growth and tax-free withdrawals—if you play by the rules. One rule that often catches people off guard is the Roth IRA 5-year rule, particularly when it comes to Roth conversions. Misunderstanding this rule could lead to unexpected penalties and taxes, which is why it’s critical to plan carefully. Let’s break down how the 5-year rule works, why it matters, and how a small contribution today could help you maximize your tax advantages in retirement.

As a reminder, to avoid taxes and penalties after a Roth IRA conversion, the timing of the withdrawal depends on two key factors:

1. Your age at the time of withdrawal
2. Whether the 5-year rule on conversions and earnings has been satisfied

We will assume that you are older than 59 ½ at the time of withdrawal, so this article is focusing on the 5-year rule.

What is the Roth IRA 5-Year Rule?

The Roth IRA 5-year rule applies to two key situations:

1. Roth Conversions: When you convert funds from a traditional IRA or 401(k) to a Roth IRA, the converted funds must remain in the Roth for at least five years before you can withdraw them penalty-free (unless you meet certain exceptions).
2. Roth Contributions: For earnings on Roth IRA contributions to be withdrawn tax-free, the account must have been open for at least five years and you must be at least 59 ½.

While the five-year rule on contributions is fairly straightforward, the rule on Roth conversions is more complex because each conversion has its own five-year clock.

How the 5-Year Rule Works for Roth Conversions

Each Roth conversion you make starts its own separate five-year period, beginning on January 1 of the year you complete the conversion.

Example:

If you convert $50,000 from a traditional IRA to a Roth IRA in July 2025, the five-year clock starts on January 1, 2025.

If you withdraw the converted funds before January 1, 2030, and you are under 59 ½, you may owe a 10% penalty on the converted amount (but not on the earnings).

Important Points:

• The 10% penalty applies to converted funds only—not to any earnings.
• Once you reach age 59 ½, you can withdraw converted funds penalty-free, even if the five-year clock hasn’t expired.
• If you have multiple conversions over time, each one has its own five-year waiting period.

You may be able to avoid the 10% penalty under certain circumstances, including:

• Death or disability
• Qualified first-time home purchase (up to $10,000)
• Substantially equal periodic payments under IRS Rule 72(t)

Starting the Clock Early with a Small Contribution

One simple but effective strategy to avoid the 5-year rule trap is to start the clock early by making a small Roth IRA contribution today—even if you aren’t ready to convert funds yet. Keep in mind that this doesn’t necessarily help the Roth conversion process.

Why This Matters:

• The 5-year clock for Roth IRA contributions starts with your first contribution to the account—not with each additional contribution.
• If you make a $1 contribution to a Roth IRA in 2025, the 5-year “contribution” clock starts on January 1, 2025.
• This means that future conversions and earnings withdrawals could be tax-free sooner.

Example:

You contribute $1 to a Roth IRA in 2025.

You convert $100,000 to the same Roth in 2027.

The clock on the earnings withdrawal requirement will have already started in 2025—potentially reducing the waiting period for tax-free growth.

Key Points to Understand from the Example:

1. Contributions:
2. • The 5-year clock for tax-free withdrawal of earnings starts with your first Roth IRA contribution (not each contribution).
   • If you contribute $1 to a Roth IRA in 2025, the 5-year clock for earnings withdrawal begins on January 1, 2025—regardless of the amount contributed.
3. Conversions:
   • Each Roth conversion starts its own separate 5-year clock for penalty-free withdrawal of the converted funds.
   • If you convert $100,000 in 2027, the 5-year clock for that conversion starts on January 1, 2027—but this clock only applies to the converted funds, not the earnings.
4. Earnings:
   • To withdraw earnings tax-free, two conditions must be met: 
     • The Roth IRA must have been open for at least 5 years
     • You must be 59 ½ or older

Other Strategic Tactics

If you’re considering Roth conversions, here are a few other tactics to optimize your strategy:

• Stagger Conversions – By spreading out conversions over several years, you can manage your tax liability and avoid being pushed into a higher tax bracket.
• Convert During Lower-Income Years – Converting during years when your income is lower can reduce the overall tax burden.
• Use Tax-Loss Harvesting to Offset Conversion Taxes – If you have capital losses in taxable accounts, you can use them to offset the taxes owed on Roth conversions.

Why Professional Guidance Matters

Roth conversions can provide tremendous tax advantages, but they require careful planning to avoid penalties and maximize long-term benefits. The 5-year rule is just one piece of a larger puzzle when it comes to managing retirement income, tax brackets, and overall financial health.

At Intelligent Investing, we specialize in helping high-net-worth individuals and families create tailored Roth conversion strategies to minimize taxes and maximize wealth to help you: 

1. Identify the best timing for Roth conversions
2. Evaluate the tax impact of conversions
3. Develop a long-term withdrawal strategy

Ready to take the next step? Reach out to us today for a complimentary call or coffee to discuss how a strategic Roth conversion plan can help secure your financial future while minimizing taxes.

Get Started Today!  

Disclosure: This blog may reflect the perspectives and research of Intelligent Investing and, where applicable, incorporates insights from guest interviews or expert opinions. Any external views or opinions shared do not necessarily reflect the stance of Intelligent Investing. We may also utilize tools such as ChatGPT to enhance readability, grammar, and flow, while all core ideas remain proprietary to our firm.

Please note that Intelligent Investing does not provide specific tax or legal advice. All investments carry risks, including the potential loss of principal, and past performance is not indicative of future results. Any specific securities, sectors, or investment strategies mentioned are for informational purposes only and should not be considered a recommendation. We encourage readers to consult with Intelligent Investing for advice tailored to their unique financial situation. Unauthorized reproduction or distribution of this content is prohibited without proper credit to Intelligent Investing.

 

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President Donald Trump has drawn comparisons to President William McKinley, often referred to as the “Tariff King,” for his strong stance on tariffs. Trump’s recent decision to impose sweeping 25% tariffs on imports from Canada and Mexico has reignited debates over the role of tariffs in economic policy.

As he addressed Congress this week, Trump defended these measures, asserting that they are about “protecting the soul of our country.” His stance marks a significant shift in the traditionally pro-free trade GOP, though concerns remain within the party about the long-term economic impact.

The Three Functions of Tariffs: Revenue, Restriction, and Reciprocity

Historically, tariffs have been used in three primary ways:

1. Revenue Generation– Before the introduction of the income tax, tariffs were a major source of government revenue.
2. Restriction of Trade – Tariffs can be used to limit imports, protecting domestic industries from foreign competition.
3. Reciprocity – Tariffs can be leveraged to negotiate better trade terms with other nations.

McKinley, who was a strong advocate for protectionist (or restriction of trade) policies, championed high tariffs as a way to protect American businesses and workers. The McKinley Tariff of 1890, which raised duties on imported goods to nearly 50%, was one of the most protectionist measures in U.S. history. While it bolstered certain industries, it also led to increased costs for consumers and retaliatory measures from trading partners.

McKinley utilized tariffs as a tool to bolster American manufacturing, and Trump has adopted a similar approach, using tariffs as a means of economic leverage. However, unlike McKinley’s era, today’s global economy is deeply interconnected, making tariffs a more complex tool with widespread ripple effects.

Trade Deficits and the Laffer Curve

The United States currently faces a trade deficit of $918.4 billion in 2024, a 17% increase from 2023. This deficit results from imports ($4,110.0 billion) exceeding exports ($3,191.6 billion), comprising 3.1% of GDP. While Trump views tariffs as a way to correct trade imbalances, economists warn that such measures can lead to higher consumer prices and potential retaliatory tariffs.

Economist Arthur Laffer introduced the Laffer Curve in 1974 to members of President Gerald Ford’s administration, challenging the prevailing belief that higher tax rates would automatically increase government revenue. He argued that excessive taxation discourages business investment and work effort, leading to lower overall tax revenue. Businesses might relocate or find ways to shelter income, while workers may reduce their productivity if taxed too heavily.

Laffer’s theory influenced President Ronald Reagan’s economic policies, particularly Reaganomics, which emphasized supply-side economics and substantial tax cuts. Despite these cuts, total federal tax revenue nearly doubled from $517 billion in 1980 to $909 billion in 1988, supporting Laffer’s argument that lower tax rates can stimulate economic growth and, in some cases, increase government revenue.

The Shift from Tariffs to Income Tax

The Laffer Curve, often referenced in tax policy discussions, suggests that there is an optimal tax rate that maximizes government revenue. If tariffs are too low, they fail to generate sufficient revenue, but if they are too high, they can stifle trade and reduce overall economic activity. Balancing tariffs to maximize benefits without triggering economic slowdowns is a delicate challenge.

McKinley’s reliance on tariffs as a revenue source ended with his assassination in 1901. Under Theodore Roosevelt, the groundwork for the federal income tax was laid, ultimately leading to the ratification of the 16th Amendment in 1913. This marked a fundamental shift in how the U.S. government funded its operations, reducing reliance on trade restrictions.

Market Reactions and the Importance of Diversification

Trump’s tariff policies are disrupting long-standing economic relationships, particularly within North America. The imposition of tariffs on Canadian and Mexican imports raises production costs for U.S. manufacturers that rely on integrated supply chains. While some businesses may relocate to the U.S. to avoid tariffs, the overall effect is still unknown. 

Markets have responded with increased volatility (Read about 5 Key Takeaways from the Trump Tariff Market Correction here), as investors digest the potential consequences of disrupted trade flows. Historically, stocks have served as a hedge against inflation, as companies grow revenues and increase dividends over time. However, inflationary pressures create a tug-of-war effect:

1. Companies initially raise prices to maintain profit margins, supporting stock prices.
2. When consumers resist further price hikes, companies absorb higher costs, leading to margin compression and weaker stock performance.
3. Economic uncertainty and potential recessions add further volatility to the market.

Despite these fluctuations, history has shown that staying invested in a diversified portfolio remains a prudent strategy. Tariff-driven market disruptions, while unsettling, reinforce the importance of patience and long-term investment discipline.

How to Stay Resilient

Trump’s tariff policies echo those of McKinley, but today’s globalized economy makes their effects more complex. With trade deficits at historic levels and market volatility increasing, investors must remain focused on diversification and long-term growth. Understanding the historical context of tariffs, taxation, and economic policy can provide valuable insights into navigating the current landscape. As history has shown, economic disruptions come and go, but a disciplined approach to investing remains the best path forward.

If you’re concerned about your portfolio or would like a second opinion, we’re here to help. At Intelligent Investing, our passion is to minimize financial stress and maximize lives. Reach out to us to learn how we can help you navigate market volatility and build a strategy aligned with your long-term financial goals.

Get Started Today!  

Disclosure: This blog may reflect the perspectives and research of Intelligent Investing and, where applicable, incorporates insights from guest interviews or expert opinions. Any external views or opinions shared do not necessarily reflect the stance of Intelligent Investing. We may also utilize tools such as ChatGPT to enhance readability, grammar, and flow, while all core ideas remain proprietary to our firm.

Please note that Intelligent Investing does not provide specific tax or legal advice. All investments carry risks, including the potential loss of principal, and past performance is not indicative of future results. Any specific securities, sectors, or investment strategies mentioned are for informational purposes only and should not be considered a recommendation. We encourage readers to consult with Intelligent Investing for advice tailored to their unique financial situation. Unauthorized reproduction or distribution of this content is prohibited without proper credit to Intelligent Investing.

 

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The recent imposition of tariffs by President Donald Trump on imports from Canada, Mexico, and China has led to significant market volatility, with major indices experiencing sharp declines. Read more here about Trump, Tariffs, and the Legacy of McKinley: Understanding Trade Policy and Market Reactions.

As of March 10, 2025, CNN’s Fear & Greed Index stands at 16, indicating a state of “Extreme Fear” among investors (CNN Fear & Greed Index).

While such corrections can be unsettling, they are a natural and healthy aspect of financial markets. Here are five key takeaways to help investors navigate this period with confidence and clarity.

1. Market Corrections Are Normal and Frequent

Historically, market corrections—defined as declines of 10% or more from recent highs—occur regularly. On average, there’s been a market correction every year since 1900. These corrections serve as natural pauses, allowing markets to adjust and prevent the formation of asset bubbles.

Historical Market Corrections (Since 2000)

Year	Index	Decline (%)	Triggering Event
2000	S&P 500	-10.2%	Dot-com bubble burst
2008	S&P 500	-56.8%	Global Financial Crisis
2011	S&P 500	-19.4%	U.S. Credit Downgrade
2018	S&P 500	-19.8%	Fed Rate Hikes & Trade War
2020	S&P 500	-33.9%	COVID-19 Pandemic
2022	S&P 500	-25.4%	Inflation & Rate Hikes
2025	S&P 500	-12.7% (YTD)	Trump Tariffs & Trade Tensions

2. Corrections Serve as a Healthy Reset

Corrections play a crucial role in tempering excessive greed and speculation. They act as a reset mechanism, curbing overvaluations and bringing asset prices more in line with their intrinsic values. This process contributes to the long-term stability and sustainability of financial markets. Investors should view these declines as opportunities rather than setbacks.

3. Emotional Investing Can Be Detrimental

The current “Extreme Fear” reading on the Fear & Greed Index reflects heightened investor anxiety. However, making investment decisions based on emotions can lead to suboptimal outcomes. Studies show that investors who panic and sell during downturns often miss the subsequent market rebounds. The best approach is to remain disciplined and avoid impulsive reactions to short-term market movements.

4. Diversification Mitigates Risk

A well-diversified portfolio can help cushion the impact of market corrections. By spreading investments across various asset classes, sectors, and geographies, investors can reduce the overall risk and potential volatility of their portfolios. Diversification remains one of the most effective tools for managing risk.

Key Diversification Strategies:

• Asset Allocation: Balancing stocks, bonds, and alternative investments
• Sector Diversification: Investing across technology, healthcare, consumer goods, etc.
• Geographic Diversification: Holding international stocks to reduce exposure to domestic risks

5. Focus on Long-Term Goals

While market corrections can be unsettling, it’s crucial to maintain a long-term perspective. Financial markets have historically rebounded from downturns, rewarding patient investors. Aligning investment strategies with long-term financial goals, rather than reacting to short-term fluctuations, is key to achieving sustained success.

Correction Year	Market Decline (%)	Time to Recover
2008 (GFC)	-56.8%	4.5 years
2011 (Credit Downgrade)	-19.4%	5 months
2018 (Trade War)	-19.8%	4 months
2020 (COVID-19)	-33.9%	5 months
2022 (Inflation)	-25.4%	12 months

 

Staying the Course: Smart Investing in Uncertain Times

The recent market correction prompted by the Trump administration’s tariff policies has sparked concerns, but it’s important to view this event within the broader context of market dynamics. Corrections are a normal and necessary aspect of investing, serving to recalibrate valuations and temper excessive market exuberance.

By staying informed, maintaining diversification, and focusing on long-term objectives, investors can navigate these periods with confidence and resilience. The key is to remain patient, avoid emotional decisions, and trust in a well-structured financial plan.

If you’re concerned about your portfolio or would like a second opinion, we’re here to help. At Intelligent Investing, our passion is to minimize financial stress and maximize lives. Reach out to us to learn how we can help you navigate market volatility and build a strategy aligned with your long-term financial goals

Get Started Today!  

Disclosure: This blog may reflect the perspectives and research of Intelligent Investing and, where applicable, incorporates insights from guest interviews or expert opinions. Any external views or opinions shared do not necessarily reflect the stance of Intelligent Investing. We may also utilize tools such as ChatGPT to enhance readability, grammar, and flow, while all core ideas remain proprietary to our firm.

Please note that Intelligent Investing does not provide specific tax or legal advice. All investments carry risks, including the potential loss of principal, and past performance is not indicative of future results. Any specific securities, sectors, or investment strategies mentioned are for informational purposes only and should not be considered a recommendation. We encourage readers to consult with Intelligent Investing for advice tailored to their unique financial situation. Unauthorized reproduction or distribution of this content is prohibited without proper credit to Intelligent Investing.

 

Reading Time: 3 minutes

I recently had coffee with a prospective client who had a financial advisor he “trusted” from his church—possibly a deacon. He had recently been laid off, was looking for new work, and was planning to take Social Security as soon as possible. He had been sold an annuity (or multiple annuities—I’m not entirely sure), but when we got to talking about Social Security, things got more fuzzy. I casually asked if he was aware of the earnings test—how earning too much in a part-time job could reduce his anticipated benefits.

Cue the deer-in-the-headlights look. Apparently, his advisor hadn’t mentioned this.

Unfortunately, I see this all the time. Too often, people are sold financial products they don’t fully understand, and their advisors aren’t experts in tax or Social Security. Then reality hits, and disappointment follows when they don’t receive the benefits they expected.

If you’re considering taking Social Security while still working, here’s what you need to know before you make a decision you may regret.

How Social Security is Taxed and Reduced if You’re Still Working

Social Security benefits aren’t as straightforward as many people assume. They can be taxed, reduced, or delayed based on your income, tax filing status, and age. It is best to have a professional guide you so you are aware of the nuances.

Here’s a brief summary of how it works:

The Earnings Test: How Working Affects Your Social Security Benefits

If you start taking Social Security before reaching Full Retirement Age (FRA) and are still working, you may be subject to the earnings test, which reduces your benefits based on how much you earn:

• Before FRA: In 2024, if you earn more than $22,320 annually ($1,860/month), Social Security will withhold $1 in benefits for every $2 you earn above this limit.
• The Year You Reach FRA: A higher earnings limit applies ($59,520 in 2024), and only $1 is withheld for every $3 earned above that threshold.
• After FRA: The earnings test disappears, and your benefits are no longer reduced, no matter how much you earn.

This is crucial because many people take benefits early without realizing their income could significantly reduce what they actually receive.

Social Security Taxes: Yes, It Can Be Taxed Too

Even if your benefits aren’t reduced by the earnings test, they may still be subject to federal income taxes based on your combined income (Adjusted Gross Income + Nontaxable Interest + 50% of Social Security Benefits). Here’s the breakdown:

• If your combined income is between $25,000–$34,000 (single) or $32,000–$44,000 (married filing jointly), up to 50% of your benefits may be taxable.
• If your combined income exceeds $34,000 (single) or $44,000 (married filing jointly), up to 85% of your benefits may be taxable.

Many retirees don’t anticipate this tax burden, especially if they have other income sources like part-time work, pensions, or investments.

Why Taking Social Security at 62 Isn’t Always a Slam Dunk

It’s tempting to start collecting Social Security at 62, but is it the right choice for you? Consider these factors:

• Reduced Benefits: Taking Social Security early results in a permanent reduction in your monthly benefit—up to 30% less than if you had waited until FRA.
• Longevity Considerations: If you live a long life, delaying benefits until 70 could mean substantially more in lifetime benefits.
• Spousal Implications: If you’re married, your claiming decision affects spousal and survivor benefits.
• Health & Income Needs: If you’re in poor health or need the income, taking benefits early might make sense. But if you’re still working and don’t need the funds, delaying could be the smarter move.

Social Security Decisions Are Complex—Get Expert Guidance

Social Security isn’t a simple “take it or leave it” decision. The right timing depends on your earnings, taxes, health, longevity, spousal situation, and financial plan. Unfortunately, many financial professionals don’t specialize in Social Security and taxes, leaving their clients unaware of critical pitfalls.

At Intelligent Investing, we specialize in helping clients navigate these tricky waters with comprehensive financial planning and expert Social Security strategies. If you’re approaching 62—or any key retirement milestone—let’s grab a complimentary coffee or call to discuss the best approach for your unique situation.

Get Started Today!  

Disclosure: This blog may reflect the perspectives and research of Intelligent Investing and, where applicable, incorporates insights from guest interviews or expert opinions. Any external views or opinions shared do not necessarily reflect the stance of Intelligent Investing. We may also utilize tools such as ChatGPT to enhance readability, grammar, and flow, while all core ideas remain proprietary to our firm.

Please note that Intelligent Investing does not provide specific tax or legal advice. All investments carry risks, including the potential loss of principal, and past performance is not indicative of future results. Any specific securities, sectors, or investment strategies mentioned are for informational purposes only and should not be considered a recommendation. We encourage readers to consult with Intelligent Investing for advice tailored to their unique financial situation. Unauthorized reproduction or distribution of this content is prohibited without proper credit to Intelligent Investing.