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Julie M. Sturgeon: Roth IRA opportunities in 2010

It’s Your Money

Posted: October 27, 2010 8:27 p.m.
Updated: October 28, 2010 4:55 a.m.

Starting in 2010, more people should be eligible to convert a traditional IRA to a Roth IRA — and take advantage of potential tax benefits. A provision of The Tax Increase Prevention and Reconciliation Act of 2005 will:

* Permanently repeal the income limit for Roth conversions

* Permit conversions by taxpayers who are married but filing separately

* Allow you to report income from Roth IRA conversions, completed in 2010, equally over tax years 2011 and 2012

When you have met certain requirements, your money will grow tax-deferred in the Roth IRA — and withdrawals will be tax-free as well. Some people are finding the new 2010 conversion rules may make converting to a Roth IRA more attractive, depending on the circumstances as long as you keep in mind that there is income tax to pay.

* The $100,000 income limit that currently exists for Roth IRA conversions will be repealed for 2010 and future years.

* One-time tax treatment for 2010 conversions. Income from 2010 conversions can be reported either on your 2010 tax return or equally on your 2011 and 2012 returns.

*  Income limits for Roth IRA conversions are going away, but income limits for Roth contributions remain in place. If you are not eligible for deductible IRA, or nondeductible Roth IRA contributions, you may wish to fund a nondeductible traditional IRA and then convert to a Roth IRA in 2010 and subsequent years.

* IRAs and qualified plans with depressed values are especially advantageous to convert. The current value will be taxed at conversion and the future growth will be tax-free (if qualifications are met).

* If you hold aftertax money in a 401(k) plan, you can request a direct rollover of pretax contributions and earnings to a traditional IRA and convert after-tax assets and earnings directly to a Roth IRA. This allows you to fund a Roth IRA conversion and pay income taxes only on earnings from after-tax contributions.

* Roth IRA conversions can reduce the size of your taxable estate because of the income tax already paid and can allow you to pass income on to beneficiaries income tax-free. The Roth assets may still be subject to estate tax.

Is a Roth IRA conversion smart for you?

Here are some things to think about before making the move:

* If you’re under age 59 1/2, if withdrawn, a 10-percent early-distribution penalty will be assessed on assets not rolled directly into the Roth IRA.  If you use some of the IRA money to pay tax, this can be a serious double-whammy.

* The younger you are, the more you may benefit from a conversion because you’ll have more time to recover the money paid in taxes before you retire.

* If your IRA has suffered losses over the past couple of years, converting while the value is lower could result in a smaller tax bite.

*  There are no required minimum distributions with Roth IRAs once you reach age 70 1/2, which may give you more flexibility after you retire.

It is not too late to go back and undo the conversion you made this year. You have up until you file your taxes to do so. The main reason you may want to undo the conversion is if the value of the investments has fallen. The question is, why pay taxes on the IRA if the value has decreased? The key is to weigh the Roth benefits against the tax liability on the conversion.

Julie M. Sturgeon is a certified public accountant in Valencia specializing in individual and business tax issues. Her column represents her own views and not necessarily those of The Signal. “It’s Your Money” appears Thursdays and rotates between a handful of the valley’s financial professionals.


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