After my wife passed away last summer, the last thing on my mind was what my life would look like going forward from a financial perspective. As you might imagine, there are significantly more important things to process after losing a loved one, especially at a young age. She was 57, I was 55 and our daughter was 21 at the time. Our lives had been permanently altered.

I will spare you all the emotional details since then (and there have been many), as my intent with this blog post is to share the financial twists and turns that many may be unaware of as one suddenly moves from being married to a widow or widower.

Expense Changes

We have always tracked our expenses in detail. I have continued that practice to this day and plan to going forward. Why change what has worked so well? … I highly recommend that everyone track their spending.

I use Quicken to record all financial transactions, down to the penny and with granular categorization. I have decades of data from this process.

What I noticed over the past year is that my expenses as a single person, living in the same household, have not really declined all that much from our married life. The big three categories – housing, transportation and food – collectively only declined by a very small amount.

• Housing had no changes – same house, with the same associated expenses: property taxes, utilities, mortgage interest, insurance, etc…

• Transportation also had no meaningful changes – same car, with the same expenses, such as insurance, maintenance, and gas.

• Food costs dropped somewhat as there was one less mouth to feed, however, more recently food price inflation has offset this to a large degree.

Overall, my total expenditures have only declined by about 10%.

Tax Changes

The tax consequences of becoming a widower are the real eye opener.

In the year a spouse passes away, the widow or widower may file their tax return as Married Filing Jointly – so no change of tax filing status there. In the following year, if the surviving spouse has a qualifying dependent child, they may file as Qualifying Widow(er). The same is true if that remains the case in the second year after death.

However, if the surviving spouse does not have a qualifying dependent child, they must file their tax return as Single in the year following the death of a spouse. This is the real shocker for many when it comes time to pay taxes.

Just as in the case of expenses, household income doesn’t usually drop proportionally, especially for anyone who is retired and living off their investment portfolio or other non-traditional streams of income. Yet when one moves from the Married Filing Joint (or Qualifying Widow/er) tax classification to Single, tax brackets and standard deduction amounts are cut in half. Consequently, the tax liability for a person in this situation can rise substantially.

Tax Planning Disruption

As many people in the financial independence community are aware, there are tax planning opportunities for those who opt to retire early. One of the main levers is making large pre-tax contributions to tax-deferred retirement accounts – such as Traditional 401(k)s – during the high earning years and later converting those assets to Roth IRAs during years when earned income, due to downshifting or fully retiring, is lower. Effectively, this creates an opportunity to defer taxes when the marginal tax rate is higher and paying the taxes when the marginal tax rate is lower – a form of tax arbitrage.

This was our intended plan, as we had contributed the maximum allowable to our Traditional 401(k) plans throughout our careers. Once we stopped working, or significantly reduced our earned income, we would convert those assets to Roth IRAs over time at more advantageous tax rates while avoiding sizable Required Minimum Distributions (RMDs) once we reached the age required to do so (currently age 72). Consequently, when I retired at age 50 nearly 85% of our financial assets were located in non-Roth tax-deferred accounts.

For us, the sweet spot of the tax optimization window to conduct Roth IRA conversions would be during the two decades between age 50 when I retired and age 70 when I would begin my maximum delayed social security retirement benefit. Of course, we assumed we would be filing our tax returns as Married Filing Jointly throughout this entire Roth conversion window.

About one third of the way into this optimum tax window, my tax brackets will be cut in half as a result of moving from the Married Filing Joint tax status to Single, albeit with a slight reprieve, as I will be able to file as Qualifying Widow/er for one year while my daughter is a qualifying dependent child (full-time student under the age of 24).

Please do not shed a tear for me as I feel very fortunate to be where I am today financially. I only want to mention this for people to be aware of this potential tax situation for anyone whose tax filing status may change unexpectedly. A similar situation could be true in the case of divorce.

Inheritance Considerations

One of the other unanticipated aspects that has recently come to my attention is the tax consequence of my inheritors if I too were to die early. When you are married and both spouses are alive the idea of both of you passing away early doesn’t usually enter one’s mind – or at least it didn’t for me. Now that I am a widower and have experienced the reality that dying at a young age is a real possibility, I have pondered my own mortality. As a result, I have been thinking more about that eventuality and my current estate planning.

Prior to the SECURE Act that went into effect January 1, 2020, any retirement accounts bequeathed to my daughter would have required minimum distributions based on her life expectancy using the IRS Single Life Expectancy table. While all distributions from any Traditional IRA and 401(k) accounts of which she was a beneficiary would be taxable and added on top of her own taxable income, the lengthy time frame allowed to stretch out her RMDs would help minimize the ultimate tax impact.

However, the new SECURE Act requires “non-eligible designated beneficiaries” (such as those more than 10-years younger than the decedent) to fully distribute the assets from any inherited retirement accounts within 10 years. For Roth accounts, while they too must be drained within that time frame, no taxes would be due. However, for non-Roth retirement accounts, that creates an accelerated timetable (10-years versus life expectancy) to withdraw the balance and pay the tax. This has the effect of stacking much larger amounts of taxable income on top of one’s own earnings during that 10-year withdrawal period.

For this reason, it would be more beneficial to leave beneficiaries Roth assets rather than Traditional fully taxable retirement assets. So now tax planning not only includes estimating your own current and future tax rates, but also projecting the tax rates of any anticipated heirs.

There is one element of estate planning that can be beneficial to consider. Any taxable retirement assets that are left to a charity are tax-free to that entity provided that they are a fully recognized 501(c)(3) Organization. In addition, while you cannot contribute directly to a Donor Advised Fund from a retirement account while alive, you can do so upon death.

An heir could be named as a Donor Advised Fund’s successor advisor. This can be especially valuable to an heir as a tax efficient way of making future charitable contributions in lieu of receiving taxable inheritance amounts intended for their future charitable intentions.

For these reasons, from a tax perspective, it may be beneficial to bequeath any assets you intend to direct to charity or a Donor Advised Fund from fully taxable retirement accounts and direct Roth assets and other assets that receive a step-up in basis to heirs instead.

(This is certainly not intended as tax advice – only things that I have come to learn that apply to my situation as I go through this thought process.)

Conclusion

As we move through life, we tend to see the future much as it exists today. In the financial independence community, we often plan with the present situation in mind.

My intention is not to wish my circumstance on others, but to share my experience in a effort to broaden perspectives that disruptions in the best laid plans can occur without notice and adaptation to an alternative plan may result.

I hope that you may be enlightened to widen your lens when planning for the future to include alternate scenarios that may require a deviation from a well-defined financial plan.