For those in the Hollywood entertainment industry or closely connected to it whose incomes were significantly displaced during the Writers Guild of America (WGA) and Screen Actors Guild-American Federation of Television and Radio Artists (SAG-AFTRA) strikes, it may be advantageous to consider some overlooked end of the year tax planning ideas. For many professionals in and around the entertainment industry, years of accumulation of retirement assets have led to meaningful balances in IRAs, 401(k) plans, SEPs, and other pre-tax retirement accounts. As taxable income for tax year 2023 is likely to be substantially below normal, potentially resulting in a much lower income tax bracket, it may be advisable for entertainment industry professionals to consider Roth conversions of some of their pre-tax retirement assets.
In early May 2023, the WGA went on strike after the guild and the Alliance of Motion Picture and Television Producers (AMPTP) failed to reach an agreement before their contract expired. The strike was prompted by unresolved issues in negotiations with studios including fair compensation for writers in the era of streaming services, a lack of transparency in streamers’ viewership data, and the impact of Artificial Intelligence (AI). In July 2023, SAG-AFTRA announced it, too, would strike after contract negotiations failed, citing similar concerns over streaming revenue and AI.
The economic impact of both the WGA and SAG-AFTRA strikes has been reported by CNN at over $5 billion dollars, with a drop of 34,800 employees in the motion picture and sound industries between May and August, according to the Bureau of Labor Statistics. Employees throughout the entire industry were hit hard, as were the businesses that support them. In a letter urging Hollywood studios to continue negotiations, California State Treasurer Fiona Ma wrote that, “The impact of these two strikes paralyzes Hollywood and reverberates across the state, affecting countless businesses, thousands of pension fund beneficiaries and millions of Californians.” In late-September the WGA strike ended, and recent negotiations ended the SAG-AFTRA strike on November 9th, 2023.
For those affected by the strikes, Roth conversions may offer a small silver lining from the impact. Traditional IRAs and 401(k)s are funded before taxes are taken out, thus deferring taxes until withdrawal, often decades later. Roth accounts provide the advantage of tax-free growth over time, and when it comes to withdrawals, the balances are already taxed. Converting pre-tax retirement assets to Roths allows for the money in Roth retirement accounts to accumulate without taxation while they grow, but result in a taxable event in the year converted. Since taxes will have been paid for the 2023 tax year when many’s incomes were disrupted, those taxes may be at a much lower rate than the rate expected at their retirement, and future growth until then will be tax-free.
Roth conversions can occur in one of two manners. The traditional Roth conversion can take place by converting contributory IRA or IRA rollover accounts into Roth IRAs. A second and lesser-known possibility is to convert 401(k) assets that were deferred on a pre-tax basis into Roth 401(k) assets. Under the latter scenario, a retirement plan must allow for that conversion feature, which is a common benefit of many large 401(k) plans. Since many people in the entertainment industry work for smaller, closely held entities, some of those retirement plans may not presently allow for a Roth conversion feature. However, it is not too late to add this feature to those retirement plans before the year’s end to take advantage of the Roth conversion for 2023. Since it is assumed that Hollywood will be back in full swing in 2024 with incomes being restored back to normal levels, the time to act is now.
Example 1*: A single person who normally makes $250,000 per year (all numbers in Adjusted Gross Income) that will only make $100,000 in 2023 could convert over $80,000 from their IRA to a Roth IRA and pay only 24% in Federal Income Taxes vs. 35% if it were a normal income year.
Example 2*: A married couple that saw a dramatic displacement this year, normally making $465,000 as writers, will only make $65,000 in 2023. They could convert nearly $25,000 at just 12% Federal Income Tax vs. 35% normally. They could convert even more at 24%.
*In both examples, it is important to factor state income taxes as well.
You don’t need to be an actor or a writer to take advantage of this opportunity. Many people and industries were indirectly impacted by the WGA and SAG-AFTRA strikes. Of course, agents and business managers felt the pinch, but so did chiropractors, waiters, and even Airbnb hosts. This same advice is also applicable to select professionals and founders in the venture capital industry, as there was a significant disruption in venture funding with the correction in valuations in the private equity arena over the last 24 months. Many early employees of start-ups and early-stage technology and biotechnology companies have also seen a significant drop in incomes in 2023. For those who have accumulated meaningful retirement benefits on a pre-tax basis, very similar advice could be applied.
I am not an accountant and cannot give tax advice. For those considering Roth conversions, the first step is to consult one’s accountant or tax attorney to do an evaluation of individual tax circumstances. Married couples filed jointly should be aware that it is the tax bracket of the married couple that applies – if the second spouse is still earning at normalized rates, the advantage may not be as great.
Read the full article here
