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Roth IRA

How the 3.8% Surtax Could Influence Roth Conversions

Note: This is a dust-off of an article written in April 2010 that dealt with the special two-year taxation of Roth Conversions that was available in that year.  An astute reader noted that the original was a bit dusty and not applicable to today’s decision-making (thanks S!). One of the provisions of the Affordable Care Act is a new tax – a surtax on investment income over certain amounts.  This surtax has come into play this year, for tax returns filed in 2014 on 2013 income.  The income amounts are, admittedly, rather high, but nonetheless will likely impact a lot of folks.  What you may not realize is that, due to the application of this surtax, Roth IRA conversion strategies that you may have had in play may be impacted.  Depending upon your overall income, you may have to pay the surtax on some or all of your conversion amount. […]

Why Diversify?

Remember Enron? I think we all do. Enron was once a powerhouse company that saw its empire crumble and took the wealth of many of its employees with it. Why was that the case? Many of Enron’s employees had their 401(k) retirement savings in Enron stock. This was the classic example of having all of your eggs in one basket and zero diversification. Let’s say that the employees had half of their retirement in Enron stock and half in a mutual fund. Enron tanks but their mutual fund stays afloat. This means that they lost, but only lost half of their retirement, all else being equal. Imagine if they had only a quarter of their retirement in Enron and the remaining 75% in three separate mutual funds. Enron’s demise is only responsible for a fourth of their retirement evaporating. This could go on and on. The point is that when […]

Don’t Forget to Pay Tax on Your 2010 Roth Conversion

Remember back in those heady days in 2010, when you finally had carte blanche eligibility to convert your IRA funds to a Roth IRA regardless of your income?  And then there was a special provision that the IRS made available: you could convert money to your Roth IRA in 2010, and delay recognizing the income and paying the tax over the next two years… remember that?  That was so cool. However. (Ever notice how there’s always a “however” in life?) Here we are, two years later, and NOW you have to pay tax on the Roth conversion that happened way back then.  You might have forgotten it altogether, but you can bet the IRS hasn’t forgotten. Hopefully you didn’t forget this on your 2011 tax return that you filed in 2012 as well.  At that time, you should have recognized half of the deferred Roth IRA conversion from 2010 on […]

Pros and Cons of the Roth 401(k)

The Roth 401(k) first became available in January 2006, is an option available for employers to provide as a part of “normal” 401(k) plans, either existing or new.  The Roth provision allows the employee to choose to direct all or part of his or her salary deferrals into the 401(k) plan to a separate account, called a Designated Roth Account, or DRAC. The DRAC account is segregated from the regular 401(k) account, because of the way the funds are treated.  When you direct a portion of your salary into a DRAC, you pay tax on the deferred salary just the same as if you had received it in cash.  This deferred salary is subject to ordinary income tax, Medicare withholding, and Social Security withholding if applicable. The unique thing about your DRAC funds is that, upon withdrawal for a qualified purpose (e.g., after you have reached age 59½, among other […]

Receive a Tax Credit For Saving

Starting (or staying with) a savings plan can be difficult to do.  After all, it’s often difficult enough to just get by on your earnings day-to-day, week-to-week, before reducing the take-home pay that you’ve worked so hard for by putting it into a savings plan.  The thing is though, once you start a savings plan, you’ll be surprised at how little it “hurts” to start putting small amounts aside.  After a while, you won’t even miss it. In addition, the IRS has a way to help you get started – it’s called the Saver’s Credit.  This is a credit that you receive on your tax return, simply for putting money aside in a savings plan.  Pretty sweet deal, if you asked me! The IRS recently released their Newswire IR-2012-101, which details how the plan works and how you can take advantage of it.  The full text of IR-2012-101 is below: […]

Retirement Plan Contribution Limits for 2013

The IRS recently published the new contribution limits for various retirement plans for 2013.  These limits are indexed to inflation, and as such sometimes they do not increase much year over year, and sometimes they don’t increase at all. This year we saw across-the-board increases for most all contribution amounts, and as usual the income limits increased as well.  This provides increased opportunity for savings via these tax-preferred vehicles. IRAs The annual contribution limit for IRAs (both traditional and Roth) increased from $5,000 in 2012 to $5,500 in 2013.  The “catch up” amount, for folks age 50 or over, remains at $1,000. The income limits for traditional (deductible) IRAs increased slightly from last year: for singles covered by a retirement plan, your Adjusted Gross Income (AGI) must be less than $59,000 for a full deduction; phased deduction is allowed up to an AGI of $69,000.  This is an increase of […]

The Roth 401(k) Plan

Many hard working Americans have access to a defined contribution retirement plan called a 401(k). Essentially, a 401(k) is a retirement savings vehicle provided by employers to their employees as a means for the employee to save for retirement, often with the employer providing a “match” of the employee’s contributions up to a certain percentage. As of January of 2006 (a result of EGTRRA 2001), employers can now offer employees the Roth 401(k) as part of their 401(k) plan. Before we get into the advantages of the Roth 401(k), let’s briefly look at how the regular 401(k) works. Employees that have access to a 401(k) are generally allowed to contribute up to $17,000 (2012 figures, indexed annually) per year to their 401(k). Employees aged 50 and over are allowed an additional $5,500 (again, 2012 figures, indexed annually). Employee salary deferrals are taken from the employee’s earnings on a pre-tax basis […]

The Difference Between IRA Contributions and Rollovers

Often there is confusion about what constitutes a “contribution” and a “rollover” into an IRA.  This post is intended to clear up the difference. While both activities are technically contributions, there’s a major difference between the two.  The most significant of the differences is that with a regular annual contribution there are several limits imposed that can be quite restrictive. Annual Contribution Limits For an annual contribution to a traditional IRA or a Roth IRA, you are limited to the lesser of $5,000 or your actual earned income for the year.  If you have no earned income, you’re not allowed to make an annual contribution to an IRA.  Above that amount, if you happen to be 50 years old or better, you can add $1,000 more to your annual contribution (2012 figures). Astute readers will point out that there is the option for a spouse to make a spousal IRA […]

Tips for Summer Jobs From the IRS

With summer in full swing, many young folks are working in temporary jobs for the summer.  There are a few things that you need to know about these temporary jobs that the IRS (and I!) would like you to know.  Recently the IRS produced their Summertime Tax Tip 2012-13, which provides important information for students working in summer jobs.  I have added an extra couple of tips after the original IRS text that may be useful to you as well. The original text of the Tip is below: A Lesson from the IRS for Students Starting a Summer Job School’s out, but the IRS has another lesson for students who will be starting summer jobs.  Summer jobs represent an opportunity for students to learn about the tax system. Not all of the money they earn will be included in their paychecks because their employer must withhold taxes. Here are six […]

Once you reach age 70½ – No more IRA contributions

When you reach age 70½, you are no longer eligible to make regular contributions to an IRA account.  A common misconception is that if you are still actively working, this age restriction doesn’t apply.  The reason for this misconception is that this is true for 401(k) accounts and other qualified retirement plans (like a 403(b), 457 plan or other). Another misunderstanding about this rule is that it applies to all IRAs.  Actually, this rule only applies to traditional IRAs – not Roth IRAs.  A Roth IRA has no age restriction for contributions to the account.  As always though, you must have earned income for the tax year in which you are making contributions to the Roth IRA. This age restriction for traditional IRAs applies only to regular contributions – whether deductible or non-deductible.  Rollovers into or out of IRA accounts are not restricted by age.

What If My Employer Doesn’t Match My 401(k) Contributions?

Should I continue to make contributions to my 401(k)? Is there something else that I should make contributions to instead? As you may recall, the recommended order for retirement savings contributions is normally as follows: 401(k) contributions up to the amount that the company matches max out your Roth or traditional IRA contributions for the year (as applicable) max out the remainder of the available 401(k) contributions make taxable investment contributions In the situation where your employer doesn’t match your contributions to a 401(k) plan, the order of contributions is more appropriate if you bump up the Roth or traditional IRA contributions.  In other words, just eliminate the first bulletpoint. Now, the choice of Roth IRA versus the traditional IRA for your contributions is dependent upon your income and the tax impacts.  For example, you would not be eligible to make a deductible traditional IRA contribution if your Modified Adjusted […]

When Is a Roth IRA Subject to Income Tax?

Elaine Roth (Photo credit: Wikipedia) Ah, the Roth IRA. That single bastion of non-taxable money in our arsenal of accounts. When you have investments in a Roth IRA, you can take the money out tax-free, right? Not always. There are several situations where a Roth IRA’s monies can be subjected to tax, penalty, or both.  Listed below are some of those circumstances. When a Roth IRA is Taxable It should be noted that contributions to a Roth IRA may always be withdrawn from the account tax-free, for any purpose whatsoever.  There are no restrictions on these withdrawals. 1.  Taking the money out of the account within the first five years of the account’s existence can result in taxation of a portion of the funds.  The portion that is taxable is any withdrawal that exceeds the total of all contributions and conversions into the account.  This rule applies without exceptions. 2.  […]

A Tax-Free Roth Conversion Question of Timing

Fern Overgrowth (Photo credit: MightyBoyBrian) We’ve discussed here in the past about how it is (at least under present law) a perfectly legal maneuver to make a non-deductible contribution to a traditional IRA and then at some point later convert the same contribution to your Roth IRA (see Is it Really Allowed? for more).  If you have no other IRA accounts, this conversion to Roth can be a tax-free event, especially if there has been no growth or gains in the investments in the account. However (and there’s always a however in life) I recently came across a situation that was sent to me by a reader, where he wanted to do such a conversion, but he also wanted to rollover some money from his 401(k) plan into an IRA.  The question is in the timing – understandably, if he does the conversion from the traditional IRA to the Roth […]

About to Graduate? Learn How to Save!

Hey, soon-to-be-graduates: as you begin to make your way out into the world of full-time employment, you’ll soon be faced with many, many “grown up” ways to spend the money you’ll be earning.  You’ll of course have rent, insurance, food and clothing, maybe a car payment, and you’ll want to use some of that new-found money to blow off steam, however you choose to do that – maybe fulfilling a lifetime dream of getting “beaked” by Fredbird, for example. If you’re on top of your game, you’ll may also be thinking about saving some of your earnings.  Here, you’ll have a bundle of options to choose from – regular “bank” savings accounts, 401(k) plan (or something similar) from your employer, and IRA accounts, both the traditional deductible kind and the Roth kind (hint: the Roth kind is what I want you to pay particular attention to). Side note: even if […]

What types of accounts can I rollover into?

OMG IRA (Photo credit: girlonaglide) When you have money in several accounts and you’d like to have that money consolidated in one place, the question comes up – Which type of account can be tax-free rolled over into which other type of accounts? Thankfully, the IRS has provided a simple matrix to help with this question. At this link you’ll find the matrix, sourced from IRS Publication 590. In terms of explanation, here are a few rules to remember: You can generally rollover one account of any variety (IRA, Roth IRA, 401(k), and so on) into another account of the exact same type. You can rollover a Traditional IRA into just about any other tax-deferral plan, including 401(k), 403(b), 457(b), as well as a SEP IRA.  The same goes for each of the accounts in reverse as well as between all of these types of accounts.  In general, employer plans […]

Ordering Rules for Roth IRA Distributions

Tax (Photo credit: 401K) Did you know that there is a specific order for distributions from your Roth IRA? The Internal Revenue Service has set up a group of rules to determine the order of money, by source, as it is distributed from your account.  This holds for any distribution from a Roth account. Ordering rules First, over-contributions or return of your annual contribution for the tax year.  This means that if you’ve made a contribution to the Roth IRA in the tax year, the first money that you withdraw from the account will be the money that you contributed that year.  If you over-contributed to your account a prior year. Growth on this over-contribution or annual contribution needs to be removed at this time as well, with tax and penalty paid as required. Second, regular annual contributions to the account.  The next money that comes out is the total […]

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