Is a Roth IRA Conversion for You? 5 Things to Consider

Hello Everyone,

Tara & Donzer

Before sharing information with you about Roth Conversions, I want to begin this month’s newsletter thanking my family, friends, and instructors for supporting me in my pursuit of dressage—I couldn’t do it without my team.  I can tell you that the last part of August and this first part of September has been a whirlwind of exciting events.  On the horse front, two exciting announcements.  First, Donzer and I, riding our best test of the year, placed third at the USDF Third Level Adult Amateur Championship.  I particularly enjoyed this ride because Donzer let me drive the whole way without adding any flair of his own.  For those of you that don’t ride I can tell you that when a 1300lb horse decides he is going to “help” there is not a lot you can do in the moment to argue without the judge noticing.  Second, I finally received my USDF Bronze Medal.  I began riding dressage 10 years ago on my quarterhorse, Red.  Red was able to take me through first level, but my new horse Donzer is going to be my partner for the next few years.  I can honestly say that I did not think it would take 10 years to earn my bronze medal scores when I began my endeavor.  Now there’s just a Silver and Gold medal to go!

One the business front, I made the decision to resign from my position with a broker dealer and have established my own company, Tara Nolan Advisory Services, ltd.  I have updated my website and have some more changes on the way.  I am very excited to be driving the train so to speak.  I have very definite ideas of how I want to take care of my clients and now I can provide exactly the kind of service I want to be known for—educational and inspiring!

The first new service I am instating for my clients is a Lifestyle based teleconference series.  I have solicited suggestions for topics from my current and future clients and my first call was:  

Kathy Douglas

What Your Child Needs to Know about College Networking & Job Search Strategies—Dig the Well before you’re Thirsty!  
High Profile Expert from Yale—University Career Services Professional, Kathy Douglas 

You can click here to listen to the call from my website.

I will continue to provide investment tips and food for thought in the monthly newsletters.  I am always open for topic requests and you can send your suggestions to tara@taraenolan.com.  

In this post I want to talk about Roth Conversion 2010:  Is it for me?

This question is challenging to answer in a purely mathematical way because assumptions have to be made and none of us has a crystal ball to know exactly what the future holds.  If you Google, Roth IRA conversion calculators, you will find a huge list of options.  In a sweeping generalization, one of the biggest assumptions is future tax rates.  If your future tax rate is significantly lower, then the conversion may not save much money.  However, it taxes rise, then a conversion is a simple yes answer.  You will also want to discuss with your advisor and possibly your CPA how you will handle paying the taxes incurred by a conversion to a Roth IRA. Let me break out these considerations for you:

5 Reasons Clients Should Consider at Least Partial Conversions

THOUGHT #1: Estate planning options: Roth assets left to heirs maximize the Roth benefits because of the longer period of tax-free build up. The tax payment itself lowers the value of the estate and consequently reduces estate taxes. We don’t know if or when the estate tax will be reinstated. There's something very satisfying about leaving a legacy that is free of all encumbrances.

THOUGHT #2: Live with your current Tax Rate: You know what you’re paying today and you are obviously making it work.  Do you want to take the chance that your taxes might go up and you’ll have to pay the higher rate on withdrawals from a Traditional IRA?  Or, do you think your tax bracket will be lower when you retire? Only you can answer this question for yourself. 

THOUGHT #3: Tax Diversification: When you have a variety of accounts from which to draw retirement income, taxable, tax deferred and tax free, you have much more flexibility in arranging your taxable income. We can't know for sure what tax rates will be in the future, but if they do go higher, a Roth conversion done now will hedge against that possibility.

THOUGHT #4: Tax Flexibility: With a Traditional IRA you are required to take dispersals which will contribute to tax basis for the year.  If you have a Roth IRA you have a source of income that will not impact your taxes. This can become a factor when you start receiving Social Security or Medicare.

THOUGHT #5: The Future of Tax Legislation: As the nation struggles with high deficits, our taxes may change. We've recently seen the new health reform law add a 3.8% Medicare tax on unearned income starting 2013 for high income households. To save on this and other potential tax hikes, it just makes sense to have a source of tax-free income alongside your taxable and tax-deferred accounts.

Of course, there are always exceptions:

• Income needs: If you need income from the IRA now or will soon, you probably shouldn't convert. It takes time to recover from the conversion tax hit. The longer the assets can remain invested, the more advantageous the Roth will be. Also, if you are close to retirement and know you will definitely drop to a lower tax bracket (confirm with a CPA), you probably shouldn't convert.

• 10% penalty: If you are under 59½ and do not have outside funds to pay the conversion taxes, there would be a 10% penalty on any funds that are taken out of the traditional IRA and not put into the Roth.

Also remember…

Make sure you’ve made your appointments for your annual financial plan review.  And, if you’re not already working with me, feel free to make an appointment for an initial free consultation.

If you have questions and would like to learn a little more about me please visit my website www.taraenolan.com.

Cheers,

Tara J

www.taraenolan.com