By Nadav Baum
This article marks the third time that I have written about the Roth IRA conversion in the past 18 months. I’m writing about the Roth IRA conversion again because of my deep conviction that people converting to a Roth IRA over the next year or two will receive one of largest tax breaks most people will ever be granted. The more affluent the individual, the larger the potential tax savings with be.
The many benefits of the Roth IRA conversion range from getting a tax free income for life to being allowed not to include Roth IRA income when considering taxable portions of Social Security benefits. There are also positive Estate Planning consequences to the Roth IRA conversion.
Summarized below is some key information that people should understand right now about a Roth IRA conversion:
- 2010 is the first year in which high wage earnings, those with an adjusted gross income of $100,000.00 or more, can convert a Traditional IRA to a Roth IRA.
- 2010 is the only year you can spread your tax payments due on the conversion over the two years of 2012 and 2013 by showing the income in 2011 and 2012.
- Your assets in these retirement accounts are likely still below the high water mark of the 2007 market.
I often hear a lot of confusion surrounding the topic “to convert, or not to convert.” Let me clear up all the confusing nonsense that has been written on this subject for you.
There are a few people who represent ideal candidates for the conversion. Many others should, however, go through the exercise of running conversion numbers to understand the pros and cons and see if it makes sense to convert. Running those numbers consists of projecting how much the Roth IRA will make untaxed in the future and how many years until you want to use the Roth IRA money to determine what your break-even point on the conversion is going to be.
Ideal Candidate #1
An individual who has ample assets outside of their retirement accounts and will not need retirement assets to supplement income needs. Therefore, by converting a Traditional IRA to a Roth IRA, the individual will not need to worry about making required minimum distributions at the age of 71.5, as you have to with a traditional IRA. Converting those gives the individual the ability to allow their retirement assets to grow on a tax-deferred basis and gives the individual the option to pass the assets on to their heirs or charities, free of income tax although still requiring appropriate federal estate tax. In essence, you can decide to pay down all of the taxes today while you are alive, and then leave the assets to your kids or charities with a zero tax burden.
Ideal Candidate #2
The second ideal candidate is an individual with a 10-year or longer time horizon before needing to begin thinking about living off of retirement assets. In this example, the individual will have sufficient time to grow the asset base and take advantage of the compounded effect of their account by paying taxes today and not paying taxes again no matter what the account grows to overtime.
The 2010 Roth IRA Conversion opportunity is a true tax incentive for the affluent investor. The income requirement has been lifted for all years going forward but 2010 is the only year you can spread tax payments over two years as opposed to paying the tax on the conversion in the following year.
If you would like more information on the advantages and disadvantages of the Roth IRA conversion, please contact Nadav Baum, Executive Vice President of BPU Investment Management, Inc. at 412-288-9150 or [email protected].
(This article was originally published in the June 2010 Issue of Western Pennsylvania Healthcare News.)
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