An individual retirement account is a smart way to save for your post-employment years. The traditional IRA allows you to deduct contributions from your income taxes; you don't pay taxes on any earnings in the account until you withdraw the money, when your (in theory) reduced income level will mean a lower tax rate. But the management fees that you pay to someone to handle the account are no longer deductible.
Under the new tax laws, you can no longer deduct IRA management fees.
Deducting IRA Management Fees
The IRS allows you to deduct expenses associated with a capital investment, such as a brokerage account in which you buy and sell stocks, bonds and mutual funds. If the broker charged a commission on a trade, the commission is added to your cost basis, and it's subtracted from sale proceeds when calculating the capital gain or loss. That expense can still be paid on a pretax basis under the new tax law.
However, if you are charged a general management fee for handling the account, that expense is no longer deductible. In most investment accounts, including IRAs, the manager charges a percentage of the account size, typically 1 percent or 1.5 percent of the assets under management.
Exceptions to Deductibility
If your IRA suffers a loss of capital, you may not deduct this loss until you've withdrawn the entire account balance, and the amount of money you've received is less than the basis – the money that you contributed to the IRA over the years. In a Roth IRA, there are no taxes due on account gains when you withdraw, but you can deduct losses in the account.
2018 Tax Changes
Although the tax changes eliminate the tax deductibility of investment management fees, it isn't a big loss for many investors. The amount of fees had to exceed 2 percent of adjusted gross income, and many did not pay fees in an amount that exceeded the income they brought in each year. It's worth noting that the standard deduction has nearly doubled under the new law, so you may be able to easily make up any tax savings you lost.
Mitigating Management Fees
If you want to lessen the impact of management fees on your portfolio, there are options to optimize your returns. One route to take is changing your actively-managed portfolio to a more passively-driven one. Two examples of this are switching to a bond fund (typically with lower fees than an actively managed fund) and moving to a lower-cost fund such as an index fund.
Another option for retirement savings is investing in a target-date fund, which offers some free advice for investors at reasonable prices. Two examples of these funds are T. Rowe Price and Vanguard target-date funds.
Experienced investors who want to take a more active role in their portfolio decisions can transfer their investments to a low-cost brokerage and take charge of their own portfolios by investing in exchange-traded funds or low-cost mutual funds. This option isn't for investors who lack the knowledge of how to do this, which means that paying management fees may be their best option, even though the management fees are no longer deductible.
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