Individual retirement accounts are probably the most pervasive yet least understood retirement account available. To be truly effective for our client, advisors must be able to clearly convey the features and benefits of each type of IRA, including traditional, Roth, SEP and SIMPLE. We cannot fault clients for not understanding the details of the IRA rules, because many advisors do not take the time to learn the nuances either. For advisors who are well-versed in this area, there are ample opportunities to bring value to new and existing clients.
For example, I am sure I speak for many advisors when I say that questions about Roth conversions are coming out of the woodwork this year. The MAGI limits surrounding Roth conversions have been removed for 2010, and as a result, clients are interested in finding out if they can benefit from the changes. The conversations are typically short, as realization of the potential tax consequence of the law mysteriously extinguishes interest levels very quickly. However, the conversion may still make a great deal of sense for a client who needs tax diversification; and the fact that clients have the option to pay the tax over two years, makes the process more attractive.
Although the income limits for regular contributions are still in place, clients who qualify should without a doubt establish a Roth account. Of course, advisors must caution their clients that future tax rates and legislation are factors to consider, though tax rates look to be on the rise, and concerns about changes to the tax-free nature of the Roth are, in my opinion, overblown. As added protection, the government actually gives you a mulligan in the form of a recharachterization should the conversion not work out.
A strategy that I suggest every advisor should take advantage of, and one that I am utilizing with my own clients, involves jumpstarting the Roth clock by doing a small conversion in the amount of $1,000 to $2,000 this year. This small conversion allows the 5-year holding period to begin on the accounts and the client can subsequently add funds according to their individual contribution schedule without being subject to the 5-year holding period on the new money. This rule also holds true for future Roth conversions or roll-overs from a Roth 401(k).
In addition, your high-income-earning clients, who are prohibited from making Roth contributions, are allowed to take advantage of a Roth conversion this year, starting the 5-year clock and putting the account in place for future benefit.
SEP and SIMPLE IRAs are mainstays for self-employed individuals and small businesses. Many small firms do not offer 401(k)s or profit sharing plans, and these IRA accounts are the only option. The plans are generally administratively friendly, portable and offer diverse investment opportunities. I find it wise to partner with a capable administrator to confirm that documentation and filings are in order, especially if I am taking over an existing plan with assets. SEPs have higher contribution limits and SIMPLE plans have a few quirky rules, like the 25% penalty for withdrawals pre 59 ½ and prior to two years after inception.
