Write a separate check for IRA fees, save big

February 11, 2011

Valerie Arbogast, France's Banque Populaire financial adviser, speaks with Eric Fresnel (R), head of packaging company Sleever, in Paris October 29, 2008.  REUTERS/Benoit Tessier  If you’re getting investment advice for your Individual Retirement Account (IRA), Roth IRA or Rollover IRA, you’re probably paying for it, even if the charges aren’t obvious. But by making that payment explicit, and covering it with funds from outside of your retirement account, you can magnify your retirement savings and get an extra tax deduction, too.

That’s because the Internal Revenue Service has ruled that money paid to financial advisers for managing IRAs doesn’t have to count against the annual IRA contributions limit. Put simply, if the fee you’re paying to your adviser is a wrap fee, or a fee calculated as some percentage of the assets your adviser is managing, you can write a separate check for it and not allow it to deplete your retirement account. If, instead, your adviser is compensated by trade-related commissions, you can’t separate them from your account and take advantage of this break.

The recent ruling, which came in the form of a letter to an investment firm released by the IRS on January 28, 2011, reiterates a position the IRS has taken before. As is typically the case with the so-called private letter rulings, the name of the company that requested the ruling is not released, and the findings only apply to that particular letter writer. But this isn’t the first time the IRS has taken this position, says Bob Trinz, an analyst with the Tax & Accounting business of Thomson Reuters. “As a practical matter, you can do this,” he said.

That presents planning opportunities that are especially potent for Roth IRA  holders, says Ed Slott, an IRA expert and editor of Ed Slott’s IRA Advisor, a newsletter. By writing their check to their money manager from outside funds, they avoid depleting the funds in their tax-sheltered account. And the fees they pay can be deductible as miscellaneous expenses. That means they aren’t deductible until they exceed 2 percent of adjusted gross income, but these fees can be significant. For example, someone with a $1-million IRA paying 1 percent of assets under management to their adviser would pay $10,000 a year in fees.”By paying that from outside, you’ve added $10,000 to your IRA that would otherwise have been spent on fees,” says Slott. “And the tax deduction is like gravy.”

Not everyone will choose to write the separate check. If you’re close to the withdrawal-phase of retirement, it might make sense to let your adviser pull her fee from within the account. That’s because money withdrawn from a tax-deferred IRA is subject to income tax. Paying the broker directly from within the account wouldn’t necessarily create a taxable event; pulling the money out first and then writing the check would cause a taxable distribution to you.

The ruling does provide one more bit of impetus to switch away from a commission-earning adviser to one who charges fees instead. Investors seeking conflict-free advise have been moving in that direction anyway.

Finally, the separate-check for fees approach offers one more benefit to investors. It will show you in stark relief, how much you’re actually paying for that advice. The obvious next step? Deciding whether it’s worth it.

2 comments

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This is old news and to be honest may not really help consumers all that much since the deduction is subject to the 2% floor. Not everyone has that million dollar IRA nor pays 10K as a fee. For many, the paying of a few thousand dollars may not allow any reduction in taxes; again it depends on the AGI.

What I have done is offered my people who are in the RMD phase the opportunity to pay me with a check drawn on their IRA. This way it goes toward satisfying the RMD and may allow them a tax deduction and slows down the diminishing of the IRA.

Sure it is more work for my firm but the client does come first.

Posted by ConsumersVoice | Report as abusive

Publication 550, page 36, of the tax code states “you can deduct fees you pay for counsel and advice about investments that produce taxable income” so it appears to clearly support the writeoff of investment advisory fees for IRAs (if paid by external funds). Also, Publication 550 Page 37 of the tax code states “you cannot deduct expenses you incur to produce tax-exempt income”. Thus, would the January 28, 2011 letter stated in your article also apply to a Roth IRA or only a regular IRA?

Also I am assuming that a separate account within the advisors firm for paying taxes would also qualify as a hand written check?

Posted by Lowertax | Report as abusive