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Published: September 18, 2009
More federal spending will mean higher taxes. It
has to.
Tax-rate increases for people earning more than $250,000 are
already on the table. But tax increases are unlikely to stop
there.
That's the bad news. The good news is a rule change can give
taxpayers the chance to lock in a lower rate before taxes go up
across the board.
A change in Roth IRA regulations that affects rollovers takes effect next year. This will open the door for taxpayers who until
now have been excluded from this tax-savvy retirement option.
A traditional IRA is funding with pretax dollars. Investment
gains are taxed at the account holder's marginal tax rate when
they are withdrawn after
age 59 1/2. A Roth,
on the other hand, is funded with after-tax dollars, and
investment gains are never taxed. A "rollover" means putting the
funds from one account into another.
Under the existing rules, individuals and couples filing jointly
whose modified adjusted gross income is more than $100,000 can't
rollover dollars from their traditional IRAs into Roth IRAs.
Married couples filing separately were also barred from this
sort of rollover.
In 2010, those restrictions will no longer apply.
Remember, traditional IRAs are tax-deferred. You don't pay taxes
on the money you contribute, but you will be taxed on
withdrawals. So if your marginal tax rate is higher when you
make those withdrawals, it doesn't work out to be a very good
deal.
But Roth withdrawals are tax-free. If tax rates are indeed
higher once you start making withdrawals, you get to dodge Uncle
Sam and sweeten your golden years.
If you think your tax rate will
be higher in the future, which seems
likely for those in higher tax
brackets or for people who expect to
be, then you should consider rolling
over a portion of your traditional
IRA to a Roth IRA.
You will pay today's marginal tax
rate on your gains. But that could
well be a far better deal than the
increased rates that are coming down
the pike. And to make things easier,
your friends at the IRS give you two
years to meet this tax liability.
This is a tax situation that can
apply to anyone with an IRA. You
don't need a six-figure income to
benefit from a Roth IRA rollover
now. And if you're currently
unemployed or working for lower
wages, then a Roth IRA conversion
should be a top priority.
(In that case, your tax rate
on the conversion will be low
because of your currently low income
compared with your tax rate in the
future -- when your Roth IRA
withdrawals will be tax free.)
Making the Most from Your Roth
IRA Rollover:
While your overall investment
strategy will likely stay the same
once you add a Roth IRA account to
your retirement plan, there are some
investments that are better suited
to a Roth.
For instance, if a portion of your
retirement portfolio is dedicated to
stocks or exchange-traded funds that
are poised to appreciate, you want
to keep those in your Roth. In a
traditional IRA, those outsized
gains would be taxed at your regular
income tax rate on withdrawal. In a
Roth, all those gains are tax-free.
Likewise, if you hold mutual funds
that make large year-end capital
gains distributions, they are better
held in a Roth.
To find out if a Roth IRA rollover
is right for you, a good place to
start is with a Roth IRA conversion
calculator like this
one
from Morningstar. If that
looks promising, talk with a
financial planner or tax consultant
to fully understand the benefits,
rollover process and tax
implications.
-- Amy Calistri
Editor
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