Q: Unfortunately, we just realized we totally forgot to pay our estimated quarterly tax payments last year. We’re afraid to ask, but how do the penalties and interest charges work?
A: Things happen. Here is a quick rundown using rough figures for tax season 2023.
The federal government is much more lenient than Michigan. The IRS’ combined penalties plus interest rate works out to about 8% on your unpaid tax that is due. Thankfully, your unpaid tax debt isn’t subjected to that rate for the whole year. You are only expected to pay your total tax due in quarterly installments, thus the name “quarterly estimated tax payments.”
Now, Michigan is downright mean if you fail to send in your estimated payments. The interest rate charged is also about 8% in 2023. But, if you didn’t send any of your estimates, they slap you with a huge add-on 25% penalty on each estimated amount that’s due. They will lower that penalty to “only” 10% if you paid even one tiny estimated tax payment during the year.
Q: I’ve been holding a large amount of cash in my investment portfolio for some time now. Recently, I’ve been advised to shift some of that money into bonds. It makes me really nervous. Your thoughts?
A: Your bonds vs. cash conundrum is widespread. Your advisor is thinking soundly, in my view. Yes, today you can get over 5% on your cash with little-to-no risk. But, it’s logical to assume this won’t last. If you wait until interest rates start dropping, you might kick yourself for not locking in current yields.
If the economy slows with the continued slowdown in inflation, we should expect the Fed to cut rates. Many expect that to start as soon as their meeting in late March. And, markets are expecting that you’ll see rates about 1% lower by September. So, your advisor is channeling Wayne Gretzky by skating to where the puck is going to be, not where it is now.
Q: We’ve done Roth conversions in recent years. Our motivation was to take advantage of today’s low tax rates. With the election looming and deficits booming, it seems like we’re headed for higher taxes. Is that a valid enough reason to keep doing Roth conversions or is there more to it?
A: Roth conversion analyses require both financial know-how and a pretty good crystal ball. If your current tax burden is temporarily lower than it will be in the future, converting some of your pre-tax IRA balance to a Roth is a no-brainer. But, if you are purely focused on making a good guess about future tax hikes, things get more challenging.
If forced to answer in a blanket manner, I’d err toward considering Roth conversions; when done methodically and in moderation. Our tax code is often quite complex and sometimes Roth conversions have unintended consequences. especially if not done carefully. This is fresh fodder for a future column.
