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MONTHLY TAX NEWSLETTER
SHOULD YOU CONVERT
TO A ROTH IN 2010?
Andrew D. Schwartz, CPA
months and counting. Effective January 1, 2010, the income limitation preventing people from converting their IRAs and
other qualified retirement accounts to a Roth IRA disappears.
Roth accounts so attractive? While you don't get a current year tax
deduction for money contributed into a Roth, any money invested within your Roth
grows tax-free. As long as the rules don't change down the road, you'll be
able to withdraw money
from your Roth upon reaching age 59 1/2, and you won't pay even a dime in taxes on
the money withdrawn.
though Roth IRAs
were first introduced back in 1998, many middle-income and
high-income taxpayers have never had the opportunity to contribute money into
these tax-free retirement savings accounts. For 2008, single individuals who earned more than $116k and
married couples who earned more than $169k were ineligible.
way to get money into a Roth IRA has been even more restrictive. Since the
Roth rules were first instituted eleven years ago, the income
threshold to be able to convert your existing IRAs or other qualified retirement
accounts to a Roth has been stuck at $100k . Please note that the same $100k threshold applies to single
individuals and to married couples. (Talk about the marriage penalty.)
relatively new option available to many taxpayers looking to get some money into a Roth account is to
take advantage of the Roth version of an employer sponsored 401(k) or 403(b)
Plan. As I wrote last spring in the
April 2008 Newsletter in A Rant
About Roths, however, I am not generally a big fan of this strategy for people
in the higher tax brackets. Remember, you are giving up a valuable current year tax
break in exchange for a promise from the government that they won't change the
rules between today and when you retire. I don't trust those guys in Washington
to keep their word.
Fortunately, there is a more tax efficient strategy available to you to finally
get some money into a Roth IRA. As I wrote in our
March 2007 newsletter in The
Re-Emergence of the Non-Deductible IRA, you don't give up a
current year tax break when you make non-deductible IRA contributions that you
subsequently convert to a Roth IRA in 2010. Depending on
what your IRAs are worth versus the non-deductible contributions you made over the years, you
end up owing no income taxes on the money you convert.
And even if you do have income to report, the rules allow you to spread the
income from the 2010 Roth conversion over two tax years.
should you take now in anticipation of converting your IRAs and other eligible
retirement accounts to a Roth IRA in 2010?
step is to see how much you have in your IRA accounts. Yes, even though
the Dow is still way down from it's peak of $14,000, I'm asking you to do the
unthinkable and open your statements to tally up the value of all of your IRA
accounts. Don't forget to include all of your traditional IRAs, rollover
IRAs, SEP IRAs,
and SIMPLE IRA accounts.
Verify Your Non-Deductible Contributions
Next, figure out the total of your non-deductible contributions you've made
over the years. The easiest place to find this number is to pull out your
2008 Form 1040, and take a look at the
attached. This is the IRS tax form used to keep track of your cumulative
post-tax IRA contributions.
despair if you haven't submitted a Form 8606 each year or the number reflected
on the current year's 8606 is incorrect. The IRS allows you to file this
form as a stand alone form.
enter the correct totals for the non-deductible contributions made through 2008,
sign the form on the bottom of page 2, and submit the signed
Form 8606 to the Internal Revenue
Service where you would otherwise file your Form 1040. It's very important that
the IRS have the correct info on file in anticipation of your converting your
IRAs to a Roth IRA in 2010.
the Tax Burden
where things might get a little tricky. Does it make sense for you to
convert your IRAs to a Roth IRA?
value of all of your IRA accounts is less than the total of your non-deductible
contributions as reflected on your 8606, there is no reason not to convert to
a Roth in 2010. As an added bonus, you can even claim your remaining IRA basis as a
miscellaneous itemized deduction provided you convert 100% of your IRAs by the
end of the year.
your IRAs are worth more than your after-tax contributions? Expect to pay
taxes on the percentage of each dollar converted that represents the pre-tax
portion of all of your IRAs.
example, let's say your IRAs are worth $60,000, and you made a total of $20,000
of non-deductible contributions over the years. In this example, there
$40,000 of pre-tax dollars built into the $60,000 of IRA value, which means two-thirds
of each dollar converted would be taxed.
Basically, the smaller the
percentage of post-tax dollars within your IRAs, the tougher this decisionl
remember, if you have multiple IRA
accounts, you need to determine the pre-tax amounts included within all of those
accounts - even if you only ever made your non-deductible contributions into just one
figuring out what to do about this rapidly approaching opportunity? For
starters, work through the 2010 version of our Roth Conversion Quiz which you
can find below.
info, listen to our podcast about
Saving Taxes By Saving For Retirement.
The segment about converting your IRAs to a Roth IRA begins at 48:30.
help? Please contact the nearest
to help you work through the math and make a prudent decision.
VERSION OF OUR ROTH IRA CONVERSION QUIZ
When you convert an IRA or other
qualified retirement account to a Roth IRA, you take money that is growing tax deferred and turn
it into Roth money that grows tax-free. The downside to
converting is that you most likely will owe some taxes on the amount converted.
For 2009, you're allowed to
convert some or all of your traditional IRAs to a Roth IRA only if
your income is less than $100,000. Effective 2010, the income
limitation no longer applies, so everyone becomes eligible.
you consider converting your IRAs to a Roth IRA? To help you
decide what to do, we've prepared this Roth IRA Conversion Quiz.
answer the following ten questions. When you are done, simply add up
your score, and compare your score with the table found at the bottom
of this page to determine whether you should consider converting your
IRA to a Roth IRA.
If the value of your IRAs
is less than the non-deductible contributions you've made over the
years, then don't bother with this quiz. You will definitely want to convert
your IRAs to a Roth IRA early in 2010.
1: How many years before you anticipate taking distributions from
your IRA or Roth IRA?
than 20 years (2
- 20 years (4
- 10 years (6
than 5 years (8
Question 2: At what rates do you think you will pay taxes in the
future? (Currently, there are six tax brackets: 10%, 15%, 25%, 28%, 33%, 35%.)
will be taxed at a much higher tax rate in the future. (2
not sure, but you're fairly certain that your tax rate will NOT
decrease in the future. (4
you retire, you will be taxed at a lower tax rate.
whole tax system is going to change within your lifetime and you
will not pay any income taxes in the future.
3: How Much Untaxed Money Is Sitting Within Your IRAs?
The value of your IRAs exceeds
your cumulative post-tax contributions by a very small amount. (2
- Your post-tax
contributions make up more than half the value of your IRAs. (4
- Your IRAs are worth
more than double your cumulative non-deductible contributions. (6
- Your IRAs include
little or no post-tax dollars.
Question 4: How will you pay the taxes that will be due in
connection with the conversion? Remember, the taxes on the 2010
conversion will be spread over two years starting in 2011.
currently have enough money sitting in a savings account to pay the
taxes that will be due. (2
will be able to adjust your withholding at work to cover the
additional taxes that will be due without impacting your family
budget too badly. (4
money needed to pay the taxes is fully invested in stocks and mutual
funds. To pay the taxes that will be due, you will need to sell some
of those investments. (6
will not be able to come up with the money to pay the taxes on the
conversion without withdrawing money from the Roth IRA. (8
5: Do you trust the government not to change the rules as they
pertain to Roth IRA's?
your lifetime, the government will not change any of the rules
pertaining to Roth IRA's. (2
rules will change, but amounts contributed to your Roth IRA prior to
the date that the rules are changed will be grandfathered and,
therefore, not subject to income taxes when withdrawn .
you're hopeful that the rules pertaining to Roth IRA's won't change,
you feel that, during your lifetime, distributions from Roth IRA's
will be subject to some level of income taxes. (6
is no way that, during your lifetime, the government will not begin
to tax distributions from Roth IRA's. (8
6: How do you feel about pre-paying income taxes to the government?
not opposed to pre-paying income taxes today if you can save
significant taxes in the future. (2
prefer not to have to pre-pay any income taxes, but the many
benefits of the Roth IRA make it acceptable.
have trouble rationalizing pre-paying taxes today; especially when
you have no guarantees as to what the tax rules will be like when you
begin to withdraw money from your IRA's. (6
only pay taxes to the government when you're absolutely required to
pay them and would never even consider pre-paying as little as one
dime in taxes to the government.
7: At what age will you begin to withdraw money from your IRA or
plan to wait as long as possible before taking any distributions
from your IRA or Roth IRA to maximize the tax deferred growth. (2
won't need the money when you retire, but you view the money in your
IRA or Roth IRA as your savings and you plan to spend some of it
during your lifetime. (4
will retire with a moderate amount of savings, but will PROBABLY
need to begin taking withdrawals from your IRA's around the time you
turn 70. (6
will have few assets in addition to your IRA's when you retire, so
you will DEFINITELY begin taking distributions from your IRA or Roth
IRA before reaching the age of 70.
8: How do you feel about your heirs paying income taxes on the
balance in your IRA's and Roth IRA's that they will eventually inherit?
do whatever it takes to minimize the taxes that your heirs will pay
on amounts that they inherit from you. (2
be willing to pay some taxes now to have your heirs avoid being
subject to income taxes on the IRA's and Roth IRA's that they
would regret if your heirs had to pay a lot of taxes on their
inheritance, but you wouldn't be so upset that you would consider
paying some taxes in advance. (6
fact that your heirs might be subject to income taxes on the IRA's
that they inherit doesn't bother you in the least. (8
9: How do you feel about the long-terms prospect of your IRA
confident that the stock markets will ultimately get back on track and return to their
historical growth rates of more than 10 percent per year. (2
don't think we'll ever see growth like we saw during the previous 20
years, but feel
that you can come up with a diversified portfolio that will get you a
decent return. (4
become risk adverse and will invest only in very conservative
feel that the markets are still overvalued and will continue to go
down in value in the short-term, and aren't worried that Obama will do
away with this strategy after 2010. (8
10: How do you feel about withdrawing money from your IRA's for
education costs, medical expenses, or other uses?
view money in your IRA's as available to be used in a financial
emergency (excluding education or medical expenses) and would
reluctantly withdraw money from your IRA's if a cash crisis were to
would not even consider invading your IRA's prior to your
have a tendency to spend every dime available to you and would most
likely end up withdrawing money from you IRA's UNLESS the amounts
withdrawn were subject to income taxes and the 10% premature
distribution penalty. (6
the future, you intend to use the money in your IRA's to pay for
your family's education or medical expenses since there won't be any
other source of money available to you at that time. (8
up the points from each question. If your score is:
than 30, you should DEFINITELY consider converting your IRA to a
Roth IRA in 2010.
31 and 42, you should PROBABLY consider converting your IRA to a
43 and 48, you have a TOUGH DECISION to make.
49 and 60, you should PROBABLY NOT consider converting your IRA to a
than 60, you should DEFINITELY NOT consider converting your IRA to a
TAX AND FINANCIAL PLANNING CALENDAR FOR
Saving and Investing
Good time to make semi-annual donation of clothing and
household items to charitable organizations
If you participate in the NIH LRP, contact one of the
MDTAXES CPAs to help you get back any additional taxes
owed to you by the NIH
Before summer kicks in, take a look at your asset allocation of all
your retirement and non-retirement accounts, and consider
rebalancing your accounts.
2008 & 2009 TAX FACTS
- For 2008, the standard deduction for a single individual is $5,450 and
for a married couple is $10,900. A person will benefit by itemizing once
allowable deductions exceed the applicable standard deduction. Itemized
deductions include state and local income taxes (or sales taxes), real estate
taxes, mortgage interest, charitable contributions, and unreimbursed employee
- For 2008, the personal exemption is $3,500.
Individuals will claim a personal deduction for themselves, their spouse, and
- The maximum earnings subject to social security taxes is $106,800
for 2009, up from $102,000 for 2008.
- The standard mileage rate is $.55 per business mile as of
January 1, 2009, down from $.585 per mile as of December 31, 2008.
- The maximum annual contribution into a 401(k) plan or a
403(b) plan is $16,500 in 2009. And if you'll be 50 or older by
December 31st, you can contribute an extra $5,500 into your 401(k) or 403(b)
account this year.
- The maximum annual contribution to your IRA is $5,000 for 2008
and 2009. And if you turn 50 by December 31st, you can contribute an extra
$1,000 that year. You have until April 15, 2009 to make your 2008 IRA