A Roth IRA has been around for a while. Named after Senator William Roth of Delaware, it was enacted as part of the Taxpayer Relief Act of 1997. Let’s look at what makes them different. (Read Slide)
Lets take a look at the 2010 Roth IRA changes. (Read slide)
Let me show you why tax diversification is important. (Go to graph) This graph shows the gap between the highest tax rates since 1940 and public debt (expressed as a percentage of gross domestic product). The blue mountain graph represents National Debt and the green bars represent the highest federal tax rates. Back around 1947 National Debt was at its highest and at that time the highest tax rate was 91%. As the debt declined so did the highest tax rate. Since around 1980 the debt began increasing again and the highest tax rate went from 28% up to 39.6%. We are at 35% at this point in time, but what do you think tax rates are likely to do? Currently, the gap between average tax rates and public debt is at historic highs. So, by a show of hands, how many of you think tax rates will be lower in the future? How many feel they will be the same? How many feel they will be higher? I think we would all generally agree that there is a greater likelihood that tax rates will be the same or higher in the future as opposed to tax rates decreasing.
And the Congressional Budget Office feels the same way. Currently, tax rates for low, middle and upper income taxpayers are fairly close. (Go to chart) (explain different tax levels) Some folks will need retirement income, and smart decisions will be necessary to make that income as tax efficient as possible. But it doesn’t end there. You also want to be as tax efficient as possible when leaving a legacy to your heirs. Now is the time to broaden your tax diversification even further. Strategies that allow you to pay taxes upfront when they’re at their lowest. These products allow for tax-free growth, also providing the power of compounding over time, with tax-free withdrawals for retirement income or to pass to beneficiaries. One such strategy is a Roth IRA.
A lot of people only take distributions from their IRA because they are required to by the IRS when they turn 70 1/2. Many of my clients don’t need income from their IRAs and plan on leaving it to the beneficiaries. So let’s see what happens if we convert the IRA to a Roth IRA. (Read assumptions)
(Go to chart) This chart shows two options for your original $100,000. The first scenario we’ll look at is the traditional IRA represented by the light green area. It’s relatively flat. The required minimum distributions, or RMDs, kick in at age 70½ and will be taxable to you as ordinary income. So over time your $100,000 grows to $147,565 and is taxable to your beneficiaries when withdrawn. The beneficiaries will have a few options to choose from. They can either take a one time full distribution and pay taxes on that amount all at once, they can take the distributions over 5 years and pay the taxes over a 5 year period and if it’s set up properly as a stretch IRA they will be able to take annual distributions based on their life expectancy and pay taxes on that amount. The next scenario is converting to a Roth IRA using funds inside the account to pay the taxes for the conversion. Remember, your starting value, shown in blue, is reduced to $70,000 because of a $30,000 tax liability triggered by the conversion. This account grows to $352,368 because there are no RMDs and is transferred tax-free to your beneficiaries.
There may be ways to reduce your tax liability. This is just one of the things we evaluate for our clients.
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TRADITIONAL IRA VS. ROTH IRA <ul><li>Traditional IRA (est. 1974) </li></ul><ul><ul><ul><li>Pretax contributions grow tax-free </li></ul></ul></ul><ul><ul><ul><li>Required minimum distributions (RMDs) required beginning at age 70½ </li></ul></ul></ul><ul><ul><ul><li>Distributions are taxed (treated as ordinary income) </li></ul></ul></ul><ul><ul><ul><li>No adjusted gross income (AGI) limit (AGI may impact deductibility of contributions) </li></ul></ul></ul><ul><ul><ul><li>$5,000 contribution limit (under age 50); $6,000 (above 50) </li></ul></ul></ul><ul><li>Roth IRA (est. 1997) </li></ul><ul><ul><ul><li>Taxed contributions grow tax-free </li></ul></ul></ul><ul><ul><ul><li>No RMDs for the original owner </li></ul></ul></ul><ul><ul><ul><li>Qualified distributions taken at least five years after creation of the account can also be withdrawn tax-free </li></ul></ul></ul><ul><ul><ul><li>AGI limit of $100,000 for conversions in 2009 and prior </li></ul></ul></ul><ul><ul><ul><li>$5,000 contribution limit (under age 50); $6,000 (above 50) </li></ul></ul></ul>
<ul><ul><li>Made possible by the Tax Increase Prevention and Reconciliation Act, passed in 2006 </li></ul></ul><ul><ul><li>Effective January 1, 2010, all taxpayers including those with an adjusted gross income (AGI) > $100,000 are eligible to convert traditional IRAs and qualified plan assets to a Roth IRA </li></ul></ul><ul><ul><li>No restrictions against married filing separately </li></ul></ul><ul><ul><li>Tax liability resulting from a conversion in 2010 may be spread equally over 2011 and 2012 tax years </li></ul></ul>THE ROTH IRA OPPORTUNITY Changes to a Roth IRA Now is the time to take advantage of this opportunity
TAXES OVER TIME Gross Public Debt: Total % GDP & Highest Tax Rate Source: zfacts.com TaxFoundatoin.org
Retirement Legacy The Future of Taxes? Congressional Budget Office Estimates Now is the time for tax diversification Source: The Heritage Foundation, “2009 Federal Revenue and Book of Charts”, Graph 37 (Data derived from Congressional Budget Office) 10% 25% 35% 19% 47% 66% 25% 63% 88%
CONVERTING TO A ROTH IRA LEAVING A LEGACY Assumptions 70 years old 30% tax bracket $100,000 in a traditional IRA Don’t need the IRA for income; you want to leave it to your beneficiaries
CONVERTING TO A ROTH IRA: LEAVING A LEGACY Options: Keep traditional IRA and do nothing Convert to a Roth IRA; taxes paid with funds inside account -$30,000 tax liability taken from initial contribution The assumptions in this illustration are purely hypothetical and are not in any way guaranteed or intended to represent past or future performance of any product. 8% average annual growth $352,368 Tax-free $147,565 Taxable
IF YOU ARE CONCERNED ABOUT TAXES It may benefit you to come see us!