The Tuesday, July 21st edition of The New York Times had an article titled “Converting an IRA Into a Roth? How’s Your Crystal Ball?”. Naturally, this got our attention. Jim Lange was at the forefront of the Roth movement when he wrote the first peer-reviewed article on Roth IRAs for The Tax Adviser in 1998. Since then, Roth IRAs and Roth IRA conversions have been Jim’s passion.
For many taxpayers, Roth IRAs have not been on their radar because of the income limitations. Currently, if your household’s adjusted gross income is over $100,000, you don’t qualify for a Roth conversion. However, a big change is about to take place. Starting January 1, 2010, all taxpayers will be eligible for a Roth IRA conversion regardless of income. If you are unfamiliar with Roth IRAs, here’s how they work. With a traditional IRA, you take a tax deduction now and pay income taxes when you withdraw the money. With a Roth IRA, you pay the taxes up front and then your money continues to grow income tax-free for the rest of your life and, perhaps, even the lives of your children and grandchildren.
As we get closer to the tax-law change in 2010, not only is interest in Roth IRAs heating up, but so is speculation that the rules may change down the road. The New York Times article suggests that in the worst case senario, the federal government might try to tax the earnings on a Roth IRA after all. Or, perhaps, the feds might impose a penalty tax on excessive balances. This argument is especially hot right now considering the massive and growing federal budget deficit.
Others believe that Roth IRAs will remain the same, but all other accounts would change to be like them. That means contributions to traditional IRAs would no longer be tax-deductible and pretax savings in 401(k)s and similiar plans would also stop.
Does that mean that you shouldn’t consider a Roth IRA conversion? Not at all. As The New York Times also mentions, many advisors believe that Roth IRAs will not only remain the same, but will become even more valuable if income tax rates increase.
If you’ve ever been to one of Jim Lange’s Roth IRA workshops, he answers the question about a possible tax-law change governing Roth IRAs by pointing out that Roth IRAs are part of The Internal Revenue Code (as opposed to Social Security taxes – which were never part of The Internal Revenue Code). If this law were suddenly changed and taxes imposed at withdrawal, Jim has said in his workshop that this would be “a violation of due process, a violation of the constitution, and you would have a very well-financed revolution”.
Listen to the July 15th edition of The Lange Money Hour which featured one of America’s top IRA experts, Natalie Choate, and you’ll find that Jim and Natalie both agree with two other points made in The New York Times’ article. First of all, if you don’t have the money to pay for the taxes on a Roth IRA conversion outside of your retirement plan, you should probably not convert.
Secondly, it’s not a good idea to do a 100% conversion. As Natalie put it, “don’t put all your money on one horse”. It’s not a good idea to ignore the Roth IRA, and it’s also not a good idea to have all of your money in a Roth IRA. Diversification is key.
Jim Lange and the rest of our team are still very excitied about the possibilities ahead with Roth IRAs and Roth IRA conversions. If you’re wondering what to do, we recommend a professional analysis of your situation. It’s possible that a series of small conversions would work best for you. The professional staff here has been doing thorough Roth IRA projections for years. You don’t have to wait until 2010 to get started – for help, call the office at 800-387-1129.