From the May 2008 issue of Boomer Market Advisor • Subscribe!

Reveal your client's IRA tax benefits

As we've mentioned in previous columns, the government grants a number of tax strategies that your clients are unaware of, and therefore they're failing to take advantage.

IRS rules and regulations are complex (to say the least) and most people don?? 1/2 t know where to begin when it comes to effective tax strategies. Introducing your clients to current gems contained in the tax code is your chance to shine. Here are just a few:

Make non-deductible IRA contributions and convert to a Roth in 2010 ?? 1/2 Many people are not contributing to their traditional IRAs because their income exceeds the limits for claiming a full deduction. Similar income limits preclude them from contributing to a Roth IRA (the 2008 limit is $166,000 for joint filers). The $100,000 MAGI limit for converting a traditional IRA to a Roth goes away in 2010, providing an opportunity for everybody to convert. By making non-deductible IRA contributions now and converting to a Roth in 2010, your client is effectively making a Roth contribution today.

The non-deductible contributions to the IRA today will not be taxable at conversion, but there is a catch. At conversion, to determine the taxable portion of the converted amount, you need to take into account the value of all their IRA assets, not just the amount that?? 1/2 s converted. For example:

Your client has two IRA accounts; the first account is comprised of fully deductible contributions (plus growth) and is valued at $25,000. The second account has been funded with $20,000 of non-deductible, after-tax money and has also grown to $25,000. If you converted only the second IRA (the non-deductible account) to a Roth, $15,000 of the conversion would still be included in taxable income. The equation is as follows:

(Non-deductible contributions ($20k)/Total IRA balances ($50k)) * Conversion amount ($25k) = Tax-free conversion amount ($10k)

Balances held in employer-sponsored plans such as 401(k) or 403(b) accounts do not get added to the IRA totals for this calculation. So if your client?? 1/2 s other retirement assets are in their 401(k) and they have no deductible IRA accounts, only $5,000 of the above conversion would be taxable.

Tax breaks for beneficiaries of inherited IRAs ?? 1/2 A beneficiary of an inherited IRA, annuity or other income-producing asset may be eligible to claim a substantial deduction on their tax return for Income in Respect of a Decedent (IRD). If a beneficiary inherits a large IRA on which estate taxes were paid, the beneficiary could be eligible to claim an itemized deduction on their tax return each year they receive income from the asset. The deduction is based upon the total federal estate taxes paid on the asset and the amount of the distribution taken. This deduction is not limited by the 2 percent of AGI, nor is it subject to AMT.

This could be a major tax break for beneficiaries who have been taking distributions from inherited assets but were unaware of this deduction ?? 1/2 as you can amend tax returns (for up to the previous three years) to recapture this deduction. Over time, this deduction could end up saving tens of thousands of dollars in taxes.

An additional, and often overlooked, tax benefit is that non-deductible, after-tax contributions made to the inherited IRA are not considered taxable at distribution. A distribution from an inherited IRA is taxed based upon a ratio of the current account value and the non-deductible basis each year ?? 1/2 more possible tax savings.

The best asset to leave a grandchild ?? 1/2 Consider leaving a new (or converted) Roth IRA to a young beneficiary. If a grandparent were to pass away and leave a $10,000 Roth IRA to their one-year-old grandchild, and the grandchild took only the minimum required distributions each year for the rest of his life (assuming annual growth of 8 percent), the child would receive over $800,000, completely tax free, over his lifetime.

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