Roth IRAs – Part II – The Major Differences Between a Roth IRA and a Traditional IRA

Jane M. Young, CFP, EA

The primary difference between a Traditional IRA and a Roth IRA is when you pay income tax. A traditional IRA and a traditional retirement plan are funded with pre-tax dollars and you pay taxes on your withdrawals. A Roth IRA is funded with after tax dollars and you don’t pay taxes on your withdrawals. The decision to buy a Roth or a Traditional IRA is largely based on your current and future tax rates, your investment timeframe and your investment goals. The Roth IRA is usually the more advantageous of the two options but it depends on your individual situation.

Traditional IRA: (tax me later)

• Funded with pre-tax dollars therefore it provides a current tax deduction
• Earnings are tax deferred
• Distributions taxed at regular income tax rates, penalty if withdrawn before 59 1/2
• Required minimum distributions must be taken beginning at age 70 1/2
• Income limit on contributions begins at, if participant is in a retirement plan, $89,000 MFJ and $55,000 if single.
• Annual contribution limit is $5000 if under 50 and $6000 if over 50
• Many IRAs are created as a result of a rollover from a company retirement plan such as a 401k – very similar in tax structure.

Roth IRA: (tax me now)

• Funded with after tax dollars, does not provide a current tax deduction
• Earnings tax exempt (after five years or 59 ½)
• Contributions can be withdrawn penalty and tax free
• Earnings can be withdrawn tax free after five years or 59 1/2
• No required minimum distribution
• Income limit on contribution begins at $166,000 MFJ and $105,000 if single
• Annual contribution limit is $5000 if under 50 and $6000 if over 50

Part III of this series will address the pros and cons of converting a Roth IRA to a Traditional IRA.

Start Planning Now! Income Limits on Roth IRA Conversions to be Lifted in 2010 – Part 1

Jane M. Young, CFP, EA

Beginning in January 2010 the income limit of $100,000 AGI (adjusted gross income) on converting a traditional IRA to a Roth IRA will be lifted. This is a huge opportunity for many who have been unable to contribute to a Roth or convert to a Roth due to income restrictions. Normally, when one converts a traditional IRA to a Roth IRA the amount converted is added to gross income in the year of conversion. However, for conversions made in 2010 the government is allowing you to spread out the payment of taxes over the 2011 and 2012 tax years.

Why should you care about this now, prior to 2010? There are several things you can do to prepare for this opportunity. This is a great time to fund your traditional IRA, non-deductible traditional IRA or your 401k plan, if you are planning to retire or change companies soon, in anticipation of converting it to a Roth in 2010. You will need cash to pay the taxes associated with converting to a Roth IRA, so you should be incorporating this additional need for liquidity into your financial planning today.

This is the first in a series of postings on Roth IRAs and Roth IRA conversions.

Three Significant Changes to Your Retirement Plans in 2009 and 2010

Jane M. Young, CFP, EA

1. No required minimum distribution in 2009 for IRA, 401k, 403b, 457b, 401k and profit sharing plans. This does not apply to annuitized defined benefit plans.

2. If you are older than 70 ½, in 2009 you can make charitable gifts from your IRA without the payment being included in your adjusted gross income. The distribution must be a “qualified charitable distribution”, which means it must be made directly from the IRA owner to the charitable institution. This is especially beneficial if you claim a standard deduction and were unable to deduct charitable contributions by itemizing.

3. Beginning in 2010 individuals earning over $100,000 in modified adjusted gross income will be able to convert traditional IRAs to Roth IRAs. Modified adjusted gross income is the bottom line on the first page of the 1040 tax form. Income from a conversion in 2010 may be reported equally over 2011 and 2012.

While there are many benefits to converting from a traditional IRA to a Roth IRA the conversion will increase your adjusted gross income (AGI) which can have some unintended consequences. An increase in AGI may impact the taxability of your social security, phase-outs on itemized deductions, education and your tax bracket.

I will write more about Roth IRA conversions in a future blog.

Finding Peace of Mind in Turbulent Times

 Jane M. Young, CFP, EA



1. Don’t lose sight of your investment timeframe.  You’ve heard it time and time again but stock is a long term investment.  So, don’t let the current drop in the stock market cause you to make drastic changes to money you won’t need for 10, 15 or 20 years.   If you don’t need your money for 5 to 10 years stop worrying about it, the market will recover.   If you are in or approaching retirement, you should have put aside the money you will need in the short term.   Use this for your immediate needs.   Down the road in 5 or 10 years when you need to tap into your stock mutual funds they should be back to reasonable levels.   Don’t lose sleep about the level of your investments 10 years from now.


2. Every financial crisis feels like the end of the world while we are in it.  If you were to look at the headlines during any one of the past financial downturns you couldn’t differentiate them from today.   Every time we go through a financial crisis whether it’s the savings and loan crisis in the 80’s or the crisis the message is the same.  This time it’s different, things will never be the same, the sky is falling and so forth.   Everything isn’t rosy, but we will recover from this.  We need to avoid making decisions based on emotion and fear.  The media is in the business to sell papers or increase viewers.  They are going to sensationalize our economic situation.  Good news does not provide high ratings.    Take a deep breath, hug your kids, walk your dog, live your life and stay the course with your portfolio – this too shall pass.


3. Don’t pass up a once in a lifetime opportunity to invest in stock at exceptionally low values.  Sure it has been exceptionally painful to watch the stock portion of our portfolios drop by 40% but what a great opportunity we have.   If you have a long time horizon now is a great time to invest in the stock market.  I encourage you to invest a set amount of money into a diversified set of stock mutual funds every month (dollar cost averaging).   Investing in your company 401k or a Roth IRA is a great way to make systematic investments.   Now is the time to invest, not to sit on the sidelines.  It is always darkest before the dawn.  Remember, the stock market is counterintuitive – you feel like selling when you should be buying and you feel like buying when you should be selling.  Therefore, right now we should be buying!!!   When you feel it is safe to buy again it will be too late.


4.  Choose your battles and focus on what you can control.  You can’t control the fluctuations in the stock market or where the market is headed.  However, you can better prepare yourself for a weak economy.  Maybe now is the time to cut your personal spending and build up your emergency fund.  Evaluate how to reduce your expenses and pay off debt. Make sure your skills are current and relevant.  Build and strengthen your network now before you really need it.  If you are approaching retirement, and the market has set you back, evaluate alternatives and contingency plans.   Take advantage of opportunities available to you – buy stock mutual funds at low values,  re-finance your home at a low interest rate, convert your traditional IRA to a Roth and sell those especially weak stocks to harvest tax losses.

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