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April, 2007
ROTH
IRA CONVERSIONS
A traditional individual
retirement account (IRA) is funded with before‑tax contributions and
grows tax‑deferred, but not tax‑free. (Taxpayers with a 401(k) plan
provided by their employers, and who fall into higher income tax
brackets, generally cannot deduct an IRA contribution.) Beginning at age
70‑1/2, the individual must take minimum distributions from a
traditional IRA, which are taxed in full at the income rate then
applicable to the taxpayer.
By contrast, contributions
are made to a Roth IRA with after‑tax money. If the account has been
held for at least five years, the accumulated principal and interest in
a Roth IRA may be withdrawn tax‑free once the individual reaches 59‑1/2.
Unlike a traditional IRA, there are no mandatory minimum distributions
for a Roth IRA.
The ability to make
contributions to a Roth IRA is phased out for couples with a modified
adjusted gross income of between $150,000 and $160,000 ($95,000 to
$110,000 for individuals). While those contribution restrictions will
remain in place, a new law that goes into effect in 2010 will open up
the Roth IRA to higher‑income taxpayers by allowing them to convert a
traditional IRA account into a Roth IRA account, thereby benefiting from
the Roth features when money is withdrawn. A current provision limiting
Roth conversions to those taxpayers with adjusted gross incomes of under
$100,000 will no longer be in effect.
When a conversion occurs,
the individual withdraws funds from the traditional IRA account, reports
those funds as income, and transfers them to a Roth IRA. The conversion
must be done before December 31 of the current tax year. If the earlier
IRA contributions were taken as deductions, taxes will be due on both
the principal and the earnings. Otherwise, taxes will be due only on the
earnings. In any event, funds can be converted from a traditional IRA to
a Roth IRA without incurring the 10% penalty for early withdrawals.
Why worry now about a law
that will not go into effect until 2010? Because proper planning and
saving in a traditional IRA between now and then can result in a
significant nest egg that can be converted into a Roth IRA when the
income restrictions are lifted in 2010. For example, given current and
projected limits on contributions to a traditional IRA, a married couple
in their fifties, with at least one spouse working, could contribute
over $50,000 to a traditional IRA over the next few years, then convert
those funds to a Roth IRA, and thereafter reap the benefits of that type
of retirement fund. Since some taxes will be due whenever the conversion
takes place, it also is advisable to save up some funds outside of the
account for that day of reckoning with the IRS.
A tax professional can help
you determine whether and when to convert a traditional IRA into a Roth
IRA, considering factors such as your current and future tax brackets
and income, when you want to begin making withdrawals, and your estate
plans in general.
All legal articles in this site
are general and informative. The articles or any other information on this
site is not legal advice nor is any information warranted or guaranteed.
Laws change over time and in different localities and jurisdictions laws may
be different from any laws mentioned on this site. It is advisable that you
consult an attorney and or an accountant in the area where your business
will be located.
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All legal articles in this site
are general and informative. The articles or any other information on this
site is not legal advice nor is any information warranted or guaranteed.
Laws change over time and in different localities and jurisdictions laws may
be different from any laws mentioned on this site. It is advisable that you
consult a attorney and or an accountant in the area where your business
will be located.
-
Elias
Stassinos, Esquire
is a trademark and
incorporation attorney that has
helped thousands of small
business owners and entrepreneurs
launch their first business
enterprise. He's also an
entrepreneur who operates several
successful businesses not related to
his law practice.
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© E. Stassinos, Esq. 2005. All Rights Reserved.
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