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Financial Planning > Tax Planning

Introducing the Wealthy to Roth IRAs

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Advisors take heed: the income limit for those who can convert their retirement holdings from a traditional IRA to a Roth IRA (now applicable to anyone with a modified adjusted gross income of $100,000) disappears permanently in 2010, so high-net-worth folks–even Bill Gates–will be able to get a portion of their assets into a tax-free Roth account.

Advisors should be telling their high-net-worth clients about this opportunity now, suggests Gail Buckner, retirement specialist at Franklin Templeton Investments, because if advisors wait until the last minute, their clients will probably “hear it from someone else, and you don’t want to look like you don’t know this is coming.” The elimination of the income limit is a way, “particularly for high-net-worth clients, probably your most important clients, to get some of their assets into a tax-free Roth account,” Buckner says.

Clients should also be told about the coming change now so that they can start saving money to pay the tax bill, Buckner says, “because any dollars you convert in 2010, it’s going to be assumed, unless you elect otherwise on your tax return, that you’re not going to pay the income taxes due on this amount until you file your 2011 return, which happens in 2012, and your 2012 return, which happens in 2013.” So the IRS is giving taxpayers “as many as three more years to pay the taxes on this. You would pay 50% when you pay your 2011 return and 50% of the tax bill when you file the 2012 return; but because that doesn’t happen until 2012 and 2013, you still have time between now and then to accumulate the money you’re going to need.”

From 401(k) to Roth IRA

Another important change affecting retirement planning with Roths is that as of 2008 clients will be allowed to transfer their 401(k) balances directly to a Roth IRA. With a Roth IRA, unlike a traditional IRA, contributions go in on an after-tax basis but grow tax-free. Plus, you never have to take required minimum distributions from a Roth IRA even after you’ve reached age 70 1/2 .

Buckner offers a brief history on the conversion opportunity that’s coming for high-net-worth folks. In May 2006, when the groundbreaking Pension Protection Act wasn’t even a glimmer in a Congressman’s eyes, Congress enacted the Tax Increase Prevention and Reconciliation Act of 2005 (TIPRA). That law extended the Bush administration’s lower long-term capital gains rates–which had been reduced from 20% to 15%–for two more years, through 2010, Buckner explains. Also under TIPRA, Congress extended the lower 15% tax rate on dividends through 2010; dividends typically had been taxed at ordinary income tax rates. Furthermore, because Congress had previously imposed on itself a requirement that every tax bill must be revenue neutral, Buckner says, the provision eliminating the income requirement for Roth conversions was included in TIPRA with a start date of 2010 “because that’s how Congress intends to make up the difference” on tax receipts to the Treasury.

At the same time, she says Congress acted because members knew there was “pent-up demand from higher-income individuals who have not been able to do tax-deductible IRA contribution since the late 1980s.”


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