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Roth Ira Conversions 2010
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Roth Ira Conversions 2010

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New rules regarding converting a Traditional IRA to a Roth IRA. Who may convert and is it right for you?

New rules regarding converting a Traditional IRA to a Roth IRA. Who may convert and is it right for you?

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  • So, now that we’ve covered how Roth IRAs work, how do you participate in this Roth revolution? There are three primary ways to fund a Roth IRA. <CLICK> The first is by making regular annual contributions, if you qualify based on your earnings. <CLICK> The second is by rolling over an eligible distribution from an employer retirement plan, like a 401(k), to a Roth IRA. <CLICK> The third way is by converting a traditional IRA to a Roth IRA. We’ll talk about the first two methods later on. But for now, let’s focus on conversions. <CLICK> 
  • A conversion lets you turn your traditional IRA into a Roth IRA. <CLICK>When you convert your traditional IRA to a Roth IRA, you’re taxed as if you took a withdrawal equal to the amount of the conversion. So by converting, you’ll accelerate the taxation of your traditional IRA. <CLICK> Why would you want to do this? Again, as we discussed earlier, you trade off paying taxes now with the hope and expectation that later distributions from your Roth IRA will be qualified, and therefore tax-free.<CLICK> When we talk about conversions, the term “traditional IRA” also includes SEP IRAs and SIMPLE IRAs. You can convert these to Roth IRAs as well, but for SIMPLE IRAs you’ll have to satisfy a two-year waiting period before you can convert to a Roth. <CLICK>
  • Before 2010, you weren't able to convert a traditional IRA to a Roth IRA if your income exceeded $100,000, or you were married and filed separate federal income tax returns. <CLICK> Thanks to recent changes in federal law, however, anyone can convert a traditional IRA to a Roth IRA beginning in 2010, without regard to income limits or marital status.There is one important exception: if you inherit a traditional IRA, you can't convert that inherited IRA to a Roth. However, special rules apply to spouse beneficiaries. If you are the surviving spouse and you inherit a traditional IRA, you can roll those funds into your own traditional IRA, and then make a Roth conversion. If you are the surviving spouse and sole beneficiary, you can also treat the inherited IRA as your own, and then make a conversion.<CLICK>
  • The third way way to fund a Roth IRA is simply by making annual contributions to the account. <CLICK> You can contribute up to $5,000 to a traditional IRA or Roth IRA, or to a combination of both, in 2010. <CLICK> The limit is $6,000 if you're age 50 or older.<CLICK> But your ability to make annual contributions to a Roth IRA depends on your earnings, specifically the amount of your modified adjusted gross income. These limits have not been repealed. So if you’re a high-income taxpayer, your ability to make annual contributions to a Roth IRA may still be reduced, or even eliminated. <CLICK>
  • But even if the income limits prohibit you from making annual contributions directly to a Roth IRA, you can still accomplish the same result by using the new liberal conversion rules. This is how it would work: <CLICK> Anyone younger than age 70½ can make nondeductible contributions to a traditional IRA, regardless of income, marital status, or participation in an employer retirement plan. The only requirement is that youhave compensation for the year at least equal to the amount of your contribution. And as we know, virtually anyone can convert a traditional IRA to a Roth IRA beginning in 2010.<CLIICK> So you would make your annual contribution initially to a traditional IRA. <CLICK> You can then immediately convert the traditional IRA to a Roth, using the new liberal conversion rules.<CLICK> But remember, you’ll need to aggregate all your traditional IRAs when you calculate the taxable portion of the conversion.<CLICK>
  • Well, that brings us to the end of our presentation. I hope you’ve found this information helpful as you consider the new Roth conversion opportunities for 2010.Thank you for your time. You’ve been a wonderful audience. I would welcome the opportunity to meet individually with each of you to address any specific concerns or questions that you may have.

Transcript

  • 1. Roth IRA Conversions 2010
    New Opportunities for 2010
  • 2. Introduction to Roth IRAs
    Contributions are made on an after-tax basis
    There’s no up-front tax benefit
    Qualified distributions are entirely free from federal income tax
    New rules for 2010
    Caution: Different rules may apply for state tax purposes
  • 3. Traditional IRA vs. Roth IRA
    Traditional IRA
    Roth IRA
    Can make annual contribution if age 70½ and have compensation
    Deductible contributions depend on income, filing status, and coverage by retirement plan
    Can make after-tax (nondeductible) contributions
    Distributions subject to federal income tax, except for after-tax contributions
    Distributions prior to age 59½ may be subject to additional 10% penalty tax
    Distributions required after 70½
    Funds grow tax deferred
    • Can make annual contribution if have compensation; no age limit
    • 4. Ability to contribute depends on income level and filing status
    • 5. All contributions are after-tax (no up-front deduction)
    • 6. Qualified distributions are entirely free from federal income taxes
    • 7. For nonqualified distributions, earnings subject to federal income tax and 10% penalty tax may apply if under age 59½
    • 8. No lifetime required distributions
    • 9. Funds grow tax deferred/tax-free
  • Roth Tax-Free Qualified Distributions
    Qualified distributions are federal income tax free.
    For a distribution to be qualified, it must meet BOTH of the following
    requirements:
    Satisfy five-year holding period
    AND
    Have qualifying event
    Age 59½
    Disability
    First-time homebuyer expenses (limited to $10,000 lifetime from all IRAs)
    Death
  • 10. Roth Qualified Distributions: The Five-Year Holding Period
    Five-year holding period begins on the first day of the tax year for which you first establish ANY Roth IRA
    Five-year holding period ends after five calendar years
    Applies to your beneficiaries after your death as well
    Spouse beneficiary can roll over to own Roth IRA or treat your Roth IRA as his or her own. In either case, the five-year holding period begins on the earlier of:
    January 1 of tax year your spouse first established any Roth IRA, or
    January 1 of tax year you first established any Roth IRA
    Period begins on January 1 of first taxyear
    • Can contribute to IRA for a tax year until April 15 of following year
    • 11. If contribute to first Roth IRA on April 15, 2011, and designate contribution for 2010, five-year holding period begins on January 1, 2010
  • Qualified Distributions - Example 1
    Age 60
    Establish first Roth IRA on December 31, 2010, by converting a traditional IRA to a Roth IRA
    Must have qualifying event AND satisfy five-year holding period
    Here qualifying event has occurred--you’ve attained age 59½
    Five-year holding period begins January 1, 2010
    Five-year holding period ends December 31, 2014
    Tax-free qualified withdrawals from this Roth IRA, and any other Roth IRA you own, available anytime after December 31, 2014
    Est first Roth
    IRA 12/31/10
    5-year period
    starts 1/1/10
    5 -year period
    ends 12/31/14
    Qual event
    59 ½
    Tax-free dist
    after 12/31/14
  • 12. Qualified Distributions - Example 2
    Age 35
    Establish first Roth IRA on June 1, 2010, by making a rollover from a 401(k) plan to the Roth IRA
    Must have qualifying event AND satisfy five-year holding period
    Five-year holding period begins January 1, 2010
    Five-year holding period ends December 31, 2014
    Tax-free qualified withdrawals available from this Roth IRA, and any other Roth IRA you own:
    In 2034, after you attain age 59½
    After December 31, 2014, if you become disabled or die*
    After December 31, 2014, if you have first-time homebuyer expenses (up to $10,000 lifetime from all IRAs)*
    Qual event
    59 ½ in 2034
    5-year period
    starts 1/1/10
    5 year ends
    12/31/14
    Est first Roth
    IRA 6/31/10
    Tax-free dist
    *Tax-free dist
    after 12/31/14
  • 13. Qualified Distributions - Example 3
    You inherit a Roth IRA from your mother in 2010
    Your mother established her first Roth IRA in 2007 by making a regular annual contribution
    Must have qualifying event AND satisfy five-year holding period
    Qualifying event is your mother’s death
    Five-year holding period begins January 1, 2007
    Five-year holding period ends December 31, 2011
    Tax-free qualified withdrawals are available from the inherited Roth IRA anytime after December 31, 2011
    Qual. event
    in 2010
    mother’s death
    5-year period
    starts 1/1/07
    5-year period
    ends 12/31/11
    Tax-free dist
    after 12/31/11
    Mother
    est. first Roth
    IRA in 2007
  • 14. Nonqualified Roth Distributions
    Nonqualified distribution: You haven’t satisfied the five-year holding period or you don’t have a qualifying event
    • Your contributions come out tax-free
    • 15. Your contributions come out first
    • 16. Taxable earnings come out last
    • 17. Earnings are subject to income tax, and 10% penalty tax unless exception applies
  • Ways to Fund a Roth IRA
  • 18. Converting a Traditional IRA to a Roth IRA
    Taxed at conversion as if you took a withdrawal (but 10% early distribution does not apply)
    Trade off immediate taxation for possibility of tax-free qualified distributions in future
    You can also convert SIMPLE IRAs (after two-year waiting period) and SEP IRAs to Roth IRAs
  • 19. Ways to Convert a Traditional IRA to a Roth IRA
    Rollover
    Trustee-to-trustee transfer
    Same-trustee transfer
  • 20. Calculating the Conversion Taxes
    Taxed as if you took a withdrawal from the traditional IRA
    10% penalty tax doesn’t apply (but may be recaptured if you make a nonqualified withdrawal from your Roth IRA within five years of any conversion)
  • 21. Calculating the Conversion Taxes
    Only deductible contributions and earnings
    If you’ve made only deductible contributions to your
    traditional IRAs, then the entire amount you convert is
    subject to income tax.
    IRA
    =
    Fully taxable conversion
  • 22. Calculating the Conversion Taxes
    TAXABLE
    Deductible contributions and earnings
    NONTAXABLE
    Non-deductible contributions
    If you’ve made nondeductible (after-tax) contributions to your traditional IRA, any distribution consists of pro-rata amount of taxable and nontaxable dollars
    Can’t just convert nontaxable dollars in a traditional IRA for tax-free conversion
    IRA
  • 23. Calculating the Conversion Taxes
    IRA #1
    TAXABLE
    Deductible contributions and earnings
    TAXABLE
    Deductible contributions and earnings
    TAXABLE
    Deductible contributions and earnings
    IRA #2
    NONTAXABLE
    Non-deductible contributions
    NONTAXABLE
    Non-deductible contributions
    NONTAXABLE
    Non-deductible contributions
    IRA
    IRA
    Must aggregate all traditional IRAs you own, including SEP and SIMPLE IRAs, when calculating the taxable amount of a withdrawal or conversion
  • 24. Calculating the Conversion Taxes
    Deductible contributions and earnings
    Non-deductible contributions
    $100,000
    $20,000
    Traditional
    IRA #1
    Traditional
    IRA #2
    • If you convert IRA #2 to a Roth you’ll have $16,666 of taxable income
    • 25. First aggregate all traditional IRAs = $120,000 total balance
    • 26. Then determine taxable percentage = 83⅓% ($100,000/$120,000)
    • 27. Then calculate taxable portion of IRA conversion = $16,666 ($20,000 x 83⅓%)
  • Who Can Convert to a Roth?
  • 28. Special Deferral Rule for 2010
    Special rule applies only to conversions in 2010
    Can report half of the conversion income on your 2011 federal income tax return, and the other half on your 2012 tax return
    Or can report all of the income in 2010
  • 29. Special Deferral Rule for 2010
    Deductible contributions and earnings
    2011 Tax Return
    $125,000
    IRA
    2010 Tax
    Return
    $250,000
    $250,000
    =
    OR
    2012 Tax
    Return
    $125,000
    • If you convert the entire traditional IRA to a Roth, you’ll have $250,000 of taxable income
    • 30. Can report $125,000 on 2011 return, and $125,000 on 2012 return
    • 31. Or can report $250,000 on 2010 tax return
  • Should You Use the Special 2010 Deferral Rule?
    Decision depends on your anticipated tax rates for 2010, 2011, and 2012
    Tax rates are scheduled to revert to pre-2001 levels in 2011
    Highest marginal rate in 2011 will be 39.6% compared to 35% in 2010
    2010 Tax
    Return
    100%
    ?
    OR
    2012 Tax
    Return
    50%
    2011 Tax
    Return
    50%
  • 32. Converting Employer Plan Dollars to a Roth IRA
    Eligible distributions from 401(k), 403(b), 457(b), and qualified plans can be rolled over to traditional or Roth IRA
    Your employer will identify an eligible rollover distribution
    Amounts rolled over to a Roth IRA are taxed except for any after-tax contributions
    Rollovers to a Roth IRA in 2010 are eligible for special 2010 deferral rule
    Beginning in 2010 anyone can roll over to a Roth IRA, regardless of income limits or marital status--even non-spouse beneficiaries
    Rollovers from employer plans can be complicated, and can have serious tax implications
  • 33. Using the New Rules to Fund Annual Roth Contributions
    You can contribute up to $5,000 to a Roth IRA in 2010
    Individuals age 50 or older can make additional “catch up” contribution of $1,000
    Annual contributions may be limited depending on income level and filing status:
  • 34. Using the New Rules to Fund Annual Roth Contributions
    Even if you can’t contribute to a Roth IRA because of the income limits, you can contribute to a traditional IRA if you’re under age 70½
    Anyone can convert a traditional IRA to a Roth beginning in 2010, regardless of income or marital status
    You can make nondeductible contributions initially to a traditional IRA
    Convert that traditional IRA to a Roth
    Remember to aggregate your traditional IRAs when calculating tax
    Traditional
    IRA
    Roth IRA
    First contribute to:
    Then convert to:
    Up to $5,000 in 2010
    ($6,000 if age 50 or older)
  • 35. Is a Roth Conversion Right For You?
  • 36. Is a Roth Conversion Right For You?.
  • 37. What if a Conversion Doesn’t Work Out? “Recharacterize!”
    You may be able to undo, or “recharacterize,” a conversion by carefully following IRS rules
    Deadline is due date for filing your tax return for year of conversion, plus extensions
    For example, you generally have until October 15, 2011, to undo a 2010 conversion
    Assets are transferred to traditional IRA; treated for tax purposes as if Roth conversion never occurred
    Can convert traditional IRA back to a Roth after waiting period, which can be as short as thirty days.
  • 38. Conclusion
    I would welcome the opportunity to meet individually with each of you to address any specific concerns or questions that you may have.
  • 39. Disclaimer
    Forefield Inc. does not provide legal, tax, or investment advice. All content provided by Forefield is protected by copyright. Forefield is not responsible for any modifications made to its materials, or for the accuracy of information provided by other sources.