The Tax Increase Prevention
& Reconciliation Act (TIPRA) of 2005 was signed into
law by President Bush on May 17, 2006. TIPRA includes
a provision that facilitates the conversion of Traditional
IRAs to Roth IRAs. If you read the article on Roth
IRA Rules, you will know that if your Modified Adjusted
Gross Income (MAGI) exceeds $100,000, you are NOT eligible
for a Roth IRA conversion. Why would you want to do a
Roth IRA conversion? Tax-deferred growth of earnings,
tax-free distributions and no minimum required distributions
(RMD) are some of the reasons.
From January 1, 2010, the
above rule of $100,000 maximum income limit for Roth IRA
Conversions will be scrapped. Also, investors who do Roth
IRA conversions in 2010 will be able to spread their tax
obligations over 2 years, 2011 and 2012. This interest
free loan from the Internal Revenue Service (IRS) has
to be repaid over a 2 year period.
What can you do in order
to maximize the opportunities created from this Tax Increase
Prevention & Reconciliation Act of 2005 law? Take
a look:
You should contribute as
much as you can towards other retirement plans such as
the SEP IRA, SIMPLE IRA, 403b
plan or 401k
plan. Once you have accumulated a huge nest egg in any
of these retirement plans, you can then convert them to
Roth IRA in 2010.
If your modified adjusted gross income
(MAGI) exceeds $100,000, you are not eligible to contribute
towards a Roth IRA. However, your next best option may
be a nondeductible IRA. Provided you have employment income,
are under the age of 70 and 1/2, you can contribute $4000
a year ($5000 a year if you are 50 years or older). Yourself
and your spouse combined can contribute $8000 a year ($10,000
if both you and your spouse are 50 years or older).
Consider this hypothetical example
where you invest $10,000 into your non deductible IRA
(both you and your spouse are 50 years old at this time).
The average annual return you achieve is 6% compounded
annually. At the time you turn 65, here's your nest egg:
| Current Principal |
$0 |
| Annual Addition |
$10,000 |
| Years to Grow: |
15 |
| Interest Rate |
6% |
| Compounding Interest: |
Annual |
| Nest Egg at 65 Years |
$246,725.28 |
Here's the analysis. You
contributed $10,000 a year for 15 years. This means your
total contributions are $150,000. However at the age of
65, you would have a whopping $246,725.28!
| $10,000 per year for 15 years |
$150,000 |
| Nest Egg at 65: |
$246,725.28 |
| Nest Egg - Contributions ($246,725.28 -
$150,000) |
$96,725.28 |
At this point, you will have
to pay taxes only on the earnings of $96,725.28 (after
converting to a Roth IRA) in 2010. Also, you will not
have to worry about the minimum required 401k distributions.
