Thursday, December 31, 2009

IRA to Roth IRA Conversion Tax Laws to Change in 2010

Investors and financial advisers are preparing to take advantage of a new tax law that makes it easier to gain access to Roth IRAs—even if it means breaking a sacrosanct rule about Roth conversions.

Starting, Jan. 1, the $100,000 income limit disappears for converting traditional individual retirement accounts and employer-sponsored retirement plans to Roth IRAs, one of the biggest changes on the IRA landscape in years. Roths, of course, have long been viewed as one of the best deals in retirement planning; after investors meet holding requirements, virtually all withdrawals are tax-free.

Just how many investors will make the leap is unclear. Converting to a Roth can be expensive; it requires paying income tax on all pretax contributions and earnings included in the amount converted. What's more, financial advisers have long argued that converting makes sense only if an investor can pay the tax from funds outside the IRA itself - an admonition that seemingly limits the strategy to the very wealthy.

That said, some financial advisers say growing numbers of their clients are leaning toward a Roth conversion, even if they have to tap their traditional IRAs to pay the taxes. The primary reasons: new, contrarian analyses of taxes and conversions—and a desire to gain more control over nest eggs in the years ahead. With a traditional IRA, investors must begin tapping their accounts after reaching age 701/2, which increases taxable income. With a Roth, there are no required distributions, giving retirees more flexibility in managing their investments and cash flow.

For many investors, "the required minimum distribution makes them sick," says John Neyland, president of JCN Financial Group in Baton Rouge, La. "They don't want the government to tell them when to take the money out."

Although only 5% of the country's $3.7 trillion IRA assets currently are held in Roths, about 13 million households holding more than $1.4 trillion in retirement assets will become newly eligible next month for conversions, says Ben Norquist, president of Convergent Retirement Plan Solutions LLC, a Brainerd, Minn., consulting firm. Vanguard Group predicts that 5% of its customers will do Roth conversions in 2010, up from a typical 1.5% rate. Charles Schwab & Co. found that 13% of 400 households with adjusted $100,000-plus incomes are considering converting at least part of their IRAs.

The income tax due on assets being moved to a Roth from a traditional IRA is a non-starter for many people, because few—including those with incomes of $100,000 or more—have the assets outside their tax-deferred accounts to pay the Internal Revenue Service. Others, who do have the money, are reluctant to part with it; such funds, often, are set aside for emergencies.

But some financial planners, after running projections involving retirement savings, withdrawals and taxes in coming decades, have concluded that it's worthwhile for many in this group to convert at least some of their IRA assets to a Roth—and pay the tax with funds inside the IRA.

"I have a case where my client is 60, and I was surprised to find that she comes out ahead whether she pays the tax with cash \[outside the IRA\] or the assets inside the IRA," says Deborah Linscott, a financial adviser in Dublin, Ohio.

Here's why: Even though individuals who convert and who decide to pay the tax bill with funds inside their IRA are lowering their overall IRA balance, their new Roth account eliminates the requirement to make taxable withdrawals after age 701/2. For some people, that means they can stay below the threshold at which much of their Social Security checks would be taxed. Others can avoid higher Medicare premiums (which are tied to income levels). And a few could wind up leaving larger legacies down the road, since inherited Roth IRAs aren't subject to income tax, either.

Bob Phillips, a 64-year-old retired engineer in suburban Cleveland, plans to covert his traditional IRA valued at $552,000 to a Roth. He has only about $8,000 in cash, so he plans to pay the tax from his IRA assets, which will reduce his retirement savings. But when Mr. Phillips turns 701/2, he won't have to make any taxable withdrawals, meaning the $35,000 in Social Security benefits that he and his wife receive annually shouldn't become taxable.

If the Phillipses can avoid losing about 20% of their Social Security to taxes, their Roth withdrawals—should they need them—will be smaller, as well. That, in turn, gives the Roth a better chance to grow with time, says Mark Tepper, the couple's investment adviser.

Mr. Tepper used 10,000 "Monte Carlo" simulations (designed to estimate the odds of reaching financial goals) and found that, without doing a Roth conversion, they have only a 50-50 chance of making their funds last across their life expectancies. With a Roth conversion, even using assets from the account itself to pay the tax, they have an 88% chance of not outliving their savings.

Some additional points to consider:

— Investors weighing Roth conversions may want to run their plans by a local accountant: At least one state, Wisconsin, didn't drop the $100,000 income limit, meaning unwitting residents over that limit face a penalty for Roth conversions.

— IRA owners with Medicare Part B who convert to a Roth may subject themselves for a year or two to higher premiums (which, again, are tied to income).

— Investors under age 59 1/2 who convert to a Roth would pay an early-withdrawal penalty on IRA assets used to pay tax.

— Using IRA assets to pay the tax man reduces the amount you could later "recharacterize": If the converted Roth assets fall in value, you are allowed to recharacterize the account as a traditional IRA and no longer owe the tax. "But if you take $100,000 out of your IRA and you only roll $80,000 into a Roth, you only have $80,000 to recharacterize, not the whole thing," says Ed Slott, an IRA consultant in Rockville Centre, N.Y.

By: Kelly Greene
Anne Tergesen contributed to this article

Market Watch: Estate Taxes

With estate tax set to end this year, retroactive lawmaking in 2010 is likely

It's OK to take good old gramps off life support now -- there will be an estate tax in 2010, even if current law has it expiring on Jan. 1.

Ever since the Economic Growth and Tax Relief Reconciliation Act of 2001 passed, there have been jokes flying around about killing off the wealthy in 2010 when, under that law, the estate tax is repealed for one year. But after nearly 10 years, the jokes are getting stale.

While the House recently passed a bill to reinstate the estate tax in 2010, this week the Senate rejected a measure to temporarily extend it. But the EGTRRA legislation will not be allowed to stand, says Larry Richman, chair of Chicago-based Neal, Gerber & Eisenberg's Private Wealth Services Practice Group.

Look for retroactive action

Richman is right. On Dec. 3, the House of Representatives voted to permanently extend the present 45% estate tax rate, and the $3.5 million, per person, exclusion from estate taxes. While everyone was expecting a one-year extension, no one was expecting any permanent legislation while Capitol Hill is embroiled in the health-care debate.

For a married couple, this means that up to $7 million worth of assets would be excluded from estate taxes. That excludes nearly 60% of all estates. Based on 2008 filings, 22,642 estates out of a total filed of 38,373 are under $3.5 million, according to IRS data.

This did not sit well with the Senate. Democrats and Republicans are at odds over the tax rate and the exclusion amount. Democrats in general are ready to approve the House version, while some Republicans prefer a lower tax rate of 35% and a higher exclusion of $5 million. The end result: The Senate did not pass an estate-tax extension.

Still, there is little doubt the Senate will tackle this in the beginning of 2010. Generally, when a law is passed, it becomes effective on the date of passage. However, this law will be an exception. In order to avoid a complete repeal of the estate tax in 2010, this law is expected to contain a provision making it retroactive to Jan. 1, 2010, according to Wayne Otchis, a certified public accountant in San Diego. Otchis spoke at a Spidell Publishing Inc. ( tax update seminar in Woodland Hills, Calif. on Wednesday.
The end of the estate tax?

What if Congress does nothing and estate taxes really are repealed?

As we all know, nothing is certain except death and taxes. There is a chance that the Senate will debate this issue to death and no action will be taken at all. What then?

Bruno Graziano, a senior writer and analyst in the estate planning group of CCH, a Wolters Kluwer business, explains the implications for estates originating in 2010. In other words, for folks who die in the coming year.

The good news is, if Congress doesn't act, there will be no federal estate taxes at all. Businesses, stocks, and other assets can be passed on to heirs without being hit with tax rates as high as 45%.

The bad news?

• There are still state estate taxes to consider.

• There will be only a limited step-up in basis. Under current federal estate tax laws, the assets of the deceased get a step-up in basis to the fair market value at date of death (or 6 months later). This eliminates capital gains taxes when heirs sell assets. In 2010, if the estate tax is repealed, the step-up in basis is limited to $1.3 million for the overall estate, plus $3 million for assets transferred to a surviving spouse.

• If Congress doesn't take any action at all, in 2011, the pre-EGTRRA levels return -- estate taxes on all estates over $1 million, with federal tax rates up to 55%.

What not to do this year

Since there is still confusion about the state of the estate tax, MarketWatch asked Graziano for some guidance on how to avoid foolish actions in 2009. He said:

• Don't believe that the estate tax is going away permanently -- all indications are that it will remain in some form after 2009. Even if Congress does nothing before year-end and allows the repeal to occur, they could reinstate the tax retroactively during 2010 or just wait for the EGTRRA sunset to occur and let the pre-2001 law come back in 2011.

• Don't abandon existing gifting plans for family and charity on the assumption that the estate tax is going away.

• Even without an estate tax, don't forget about estate planning. Other issues such as asset protection, dysfunctional family situations, disposition of retirements assets, and business succession issues can be just as important, if not more so, than the traditional transfer tax issues.

What can you do in the meantime?

Larry Richman suggests this may be a good time to do some last-minute planning to lock in the $3.5 million exclusion while it's still available. Since there are only a few days left this year, if you're really concerned, bully your way into your estate tax professional's office and start asking about Q-TIP trusts (qualified terminable interest property), generation-skipping trusts, reverse Q-TIP elections, and so forth. You can find some pretty useful information, as a starting point, in an "Introduction to Estate Planning" by attorney Robert L. Sommers. See the article on Also, see this useful page on the New York State Society of CPAs site, about EGTRRA.

Or you could have faith, and believe that the Senate will hammer out permanent estate tax legislation that will be retroactive to Jan. 1, 2010. Do you believe?

By: Eva Rosenberg.
She is the founder of and an enrolled agent licensed to represent taxpayers before the IRS. She is the author of the new e-book, "The 100% Home-Based Business Tax Solution."

Friday, December 4, 2009

Tax Benefits: Equity-Indexed Universal Life Insurance

The Tax Benefits of Equity-Indexed Universal Life Insurance

The main emphasis of having life insurance for individuals and their families is to help replace income that is lost, provide death benefits, and an overall protection of family members from the losses possibly resulting from the death of the insured individual. Equity-indexed life insurance offers many additional benefits by way of tax advantages, unique to that of life insurance.

When it comes to speaking about life insurance, there are two typical categories to be discussed. The first is term insurance. Term insurance provides what is known as "pure" insurance protection. This type pays beneficiaries a death benefit if the insured individual is to die during the policies term. On the contrary, if the insured individual lives, the policy will expire without any value at the end of the given term. In many cases, the individual can choose to renew the policy for an addition term. Usually, this decision will carry a higher premium.

The second category and type of life insurance policy is typically known as "permanent" or "cash value" life insurance. Included in these policies are whole life and universal life as well as others. A policy such as this is typically designed to provide the insured with long-term life insurance coverage, usually for the insured's entire life.

This option also features a flexible premium as well as the opportunity to accumulate cash value. This is available to the owner of the policy through policy loans and alternative options. These options reduce the death benefit.

The Advantages

Among financial products, life insurance holds a unique status. The tax benefits of life insurance are:

  • No current income tax on interest or other earnings credited to cash value. While the cash value accumulates, it is not subject to current taxation.
  • No income tax penalty if you choose to borrow cash value from the policy through loans. Typically, loans are seen and treated as debts, not as taxable distributions. With this option, it can give you practically unlimited access to cash value on the basis of tax advantage. In addition, the loans do not need to be rapid. Over time, after a sizable amount of cash value has accumulated, it can systematically be borrowed against to help supplement retirement income. In many cases, you may never pay even one cent of income tax on the gain.
  • *There are several cautions regarding policy loans: First, loans are charged interest and policy loans can reduce the overall value of the policy. Second, the cash value can be potentially subject to income taxes if/when there is a withdrawal from or surrender of the policy. The same situations applies if a certain ratio of death benefit to cash value is not maintained. Third, if the policy is a modified endowment contract, the loan may be taxable.
  • The policy holder's heirs pay no income tax on the proceeds. Beneficiaries will receive death benefits completely free of income taxation.
  • You can avoid potential estate taxes and probate costs on policy proceeds, as long as the beneficiary designations and policy ownership are arranged in accordance with current law. For instance, if you own your policy at the time of your death or make your estate the beneficiary, the policy proceeds will generally be included in your estate at death. This can increase the value of your estate, triggering estate taxes. This situation may be avoided, however, by placing ownership and naming beneficiaries outside your estate. If the policy is structured properly, proceeds will not be included in your estate. However, to avoid estate inclusion for existing policies, the policy must be transferred more than three years before your death. Consult your tax and legal advisors regarding your particular circumstances.

  • Equity-indexed universal life insurance is unique among typical financial products. It provides protection of death benefits as well as potential for attractive tax advantages. For more information these benefits listed as well as other benefits of cash value life insurance and details about the best way to arrange your policy beneficiary and ownership designations, consult your attorney and your advisor at Integrity Financial Corporation.

    Friday, November 20, 2009

    529 Plans: College Savings

    Estate Planning
    There are many features of 529 college savings plans that are quite attractive from the perspective of estate planning. First, there are no income limits (unlike education IRAs). Saying this, that means that most everyone qualifies to hold an account for a 529 plan. The benefits and good news continues...

    Tax Free Gifts
    Going further into the features of 529 plans is the ability to reduce estate tax bills for the wealthy by utilizing the $13,000 in tax-free gift contributions. In the case of married couples, $26,000 can be contributed for each beneficiary in a single year without the consequences of federal gift taxes.

    If you find yourself trying to get back to where you want to be, or to accelerate the reduction in the size of your estate, you are able to fund gifts (five years worth) by contributing up to $65,000 in the first year of a five-year period. This number is $130,000 for married couples. A contribution this size will go far in reducing your estate size and goes further in eliminating taxes on that estate.

    Controlling 529 Accounts
    The account holder always stays in control of the 529 plan's assets. Although the contributions are considered gifts, they are seen as outside the donor's estate, so the donor stays in control of that money - not the beneficiary.

    Under the Uniform Gifts to Minors Act and the Uniform Transfer to Minors Act (UGMA/UTMA) the control over the assets is taken by the beneficiary as soon as they turn 16, 18, 21, or 25, depending on the rules of the state. In Section 529 plans, the beneficiary does not have control over the money during the lifetime of the donor. The donor can choose to reclaim the money for themselves at any time for any reason.

    Despite all of the control over the account, it remains out of the taxable estate of the donor. These together are a few of the great benefits of a 529 plan. 529 plan.

    Tuesday, June 23, 2009

    Roth Conversions in 2010

    This is a well-written article by Kelly Greene with the Wall Street Journal Online. Our firm is a proponent of after-tax investments, as we believe that future taxes will be increased.

    By Kelly Greene
    New tax rules are about to give more people access to a Roth IRA, one of the best savings plans for later life. Here’s how the changes work—and how to get ready.

    Robert Woods has been “chomping at the bit,” he says, to open a Roth individual retirement account. Next year, the 54-year-old American Airlines pilot finally will get the chance.
    Starting Jan. 1, the income limits that have prevented many individuals, including Mr. Woods, from converting a traditional IRA or employer-sponsored retirement plan to a Roth will be eliminated. The change—one of the biggest and most important on the IRA landscape in years—will widen the entryway to one of the best deals in retirement planning. With a Roth IRA, virtually all income growth and withdrawals are tax-free.

    The new rules come at a time when many IRAs have plummeted in value, meaning the taxes on such conversions (and you do pay taxes when you convert) will likely be lower, as well. And with taxes at all levels expected to rise in coming years, the idea of an account that’s safe from tax increases appeals to many people heading into retirement.

    “It’s potentially quite a big deal,” says Joel Dickson, a principal with Vanguard Group in Valley Forge, Pa. “We’re getting a lot of questions, and investors certainly should be thinking about it.”
    Here’s a look at how the new rules work, how to take advantage of them—and the possible pitfalls.

    Nuts and Bolts
    At the moment, many people make too much money to use Roths. Individuals whose modified adjusted gross income for 2009 is $120,000 or more can’t contribute. For couples who file joint tax returns, the cutoff is $176,000.

    You aren’t allowed to convert traditional IRA assets to a Roth if your household’s modified adjusted gross income exceeds $100,000. A married person who files a separate tax return is prohibited from converting—no matter how much or how little he or she makes, says Ed Slott, an IRA consultant in Rockville Centre, N.Y.
    But while the income limits for funding a Roth will remain, the rules for conversions are about to change.

    As part of the Tax Increase Prevention and Reconciliation Act enacted in 2006, the federal government is eliminating permanently, starting Jan. 1, the $100,000 income limit for Roth conversions, as well as the restriction on spouses who file separate tax returns. That should make it easier for people with higher incomes to invest through Roth accounts. The changes also should enable more retirees—who rolled over their holdings from 401(k)s and other workplace savings plans into IRAs—to convert to Roths.

    Of course, there’s still the matter of taxes. When you convert assets from a traditional IRA or workplace plan to a Roth, you have to pay income tax on all pretax contributions and earnings included in the amount you convert.

    The law does provide some wiggle room, however: You can report the amount you convert in 2010 on your tax return for that year. Or, you can spread the amount converted equally across your 2011 and 2012 tax returns, paying any resulting tax in those years. For example, if you convert $50,000 next year and choose not to declare the conversion on your 2010 return, you must declare $25,000 on your tax return for 2011 and $25,000 on you return for 2012. The two-year option is a one-time offer for 2010 conversions.

    The fact that Uncle Sam is allowing you to stretch out your tax bill could help people who convert keep their nest eggs intact. Financial planners uniformly say it makes no sense to convert to a Roth unless you can pay the taxes from a source other than your IRA. If you need to tap your IRA for the tax money, you’re defeating, in part, the purpose of the conversion: to maximize the long-term value of the Roth.

    One other note: If you are age 70½ or older and taking required minimum distributions from a traditional IRA or workplace plan, you can’t convert that required withdrawal to a Roth. However, after you take your required minimum distribution for the year, you can convert remaining traditional IRA assets to a Roth. For 2009, Congress has waived required withdrawals in an attempt to help retirees rebuild savings. But required withdrawals resume in 2010.
    So, if you’re over the income limits for contributing to a Roth, what’s the simplest way to fund one when the conversion rules change? If you haven’t already done so, open a traditional IRA (which has no income limits), contribute the maximum amount allowable ($6,000 in 2009 for individuals age 50 and older), and convert the assets to a Roth next year.

    John Blanchard, a 41-year-old executive recruiter in Des Moines, Iowa, has “maxed out” IRA contributions for himself and his wife since 2006 in anticipation of the 2010 rule change. He plans to convert about $34,000 in holdings next year. “If they would let me do more, I would do more,” he says. “This planning is purely for retirement.”

    You could continue this strategy each year after that—opening a traditional IRA and converting it to a Roth. In fact, you would have to use this approach if your income exceeds the limits for making Roth contributions.

    But how do you do this—over a number of years—without winding up with multiple Roth accounts? Mr. Slott recommends holding two Roths. When you first convert the assets, put them in your “new” Roth. That way, if that holding suffers a loss in the first year, you can recharacterize it as a traditional IRA so you don’t have to pay tax on value that no longer exists. (More on that below.) If the account increases in value before that deadline expires, you could then transfer the assets to your “old” Roth—after the time to recharacterize expires. Each year, you could repeat those two steps.

    Why It’s a Good Idea…
    Why convert? Roth IRAs have several big advantages over traditional IRAs:
    For the most part, withdrawals are tax-free, as long as you meet rules for minimum holding periods. Specifically, you have to hold a Roth IRA for five years and be at least age 59½ for withdrawals to be tax-free. Early withdrawals are subject to penalties.

    There are no required distributions. With traditional IRAs, you must begin tapping your account after reaching age 70½. In doing so, you increase your taxable income starting in your 70s.
    Your heirs don’t owe income tax on withdrawals. That can be a big deal for middle-aged beneficiaries earning big paychecks. One caveat: Roth beneficiaries do have to take distributions across their life expectancies, and Roth assets are still included in an estate’s value.

    The fact that anyone who inherits a Roth could make withdrawals with no income tax has led some older adults to consider Roth conversions as an alternative to life insurance. Jonathan Mazur, a financial planner in Dallas, already has suggested that strategy to Shayne Keller, a 55-year-old semi-retired telecommunications consultant. Mr. Keller’s heart disease has made it tough for him to get life insurance. Instead, he’s now planning to convert a traditional IRA worth about $300,000 to a Roth, and then name his two grandchildren as the Roth’s beneficiaries.
    Another big advantage: A Roth IRA provides what many financial planners refer to as tax diversification.

    “In the future, when you’re going to be taking assets out of your account, you don’t know what your personal situation is going to be, and you don’t know what tax rates are going to be,” says Sean Cunniff, a research director in the brokerage and wealth-management service at TowerGroupin Needham, Mass. “So, if you already have a taxable account, like a brokerage account or mutual funds, and you have a tax-deferred account like a 401(k) or traditional IRA, adding a tax-free account gives you the most flexibility” to keep taxes low in retirement.
    …And Why It’s Not as Easy as It Looks

    The trickiest part of paying the tax for a Roth conversion involves the IRS’s pro-rata rule. In short, you can’t cherry-pick which assets you wish to convert.
    Let’s say you have a rollover IRA (from an employer’s 401(k) plan) with a balance of $200,000, and an IRA with $50,000. The latter contains $40,000 in nondeductible contributions made over a number of years. As much as you might wish, you can’t convert the $40,000 alone—tax-free—to a Roth IRA.

    Rather, you have to follow the pro-rata rule. The IRS says you must first add the balance in all your IRAs—in this case, $250,000. Then you divide nondeductible contributions by that balance: $40,000 divided by $250,000. This gives you the percentage—16%, in our example—of any conversion that’s tax-free. So, let’s say you want to convert $30,000 of your two IRAs to a Roth. The amount of the conversion that would be tax-free would be $4,800 ($30,000 x 0.16).
    “If you’re thinking about doing a Roth conversion, leave your 401(k) alone” rather than rolling it into an IRA beforehand to keep your share of nondeductible contributions higher in the calculation above, says John Carl, president of the Retirement Learning Center LLC in New York, which works with investment advisers. And if you’ve already rolled over your 401(k) into a traditional IRA, you may want to roll it back—a move that many employer plans allow, he adds.

    Perhaps the toughest part of all this is “gathering the data”—showing which of your past IRA contributions were deductible and nondeductible, says Kevin Heyman, a certified financial planner in Newport News, Va. “You have to keep one heck of a record to know which IRAs were nondeductible over the years.”

    It’s involved, but possible, to reconstruct your after-tax basis in a traditional IRA, and it makes sense to do it now so you can weigh whether to convert to a Roth in 2010, says Mr. Slott, the IRA consultant.

    First stop: tax returns you still have. You’re supposed to keep a running record of nondeductible IRA contributions on IRS Form 8606 and file it with your tax return. If you haven’t done so, you can either buy back your old tax returns from the IRS, using Form 4506, or you can order a free transcript of everything that’s reported about you to the IRS, using Form 4506-T. Included in your transcript is information from IRS Form 5498, which reports contributions you made to an IRA. Other resources are year-end statements from your IRA custodian.

    As mentioned above, you should be able to pay any tax involved from a source other than the IRA itself to make the conversion worthwhile. Some retirees already are setting up piggy banks for that purpose. “I’m putting my savings plan together so we have money to pay for the tax,” says Marjorie Hagen, 60, a retired postmaster in Minneapolis. She and her husband plan to convert at least $150,000 in IRA assets next year to give them “more control and flexibility,” she says.

    An IRA withdrawal made simply to pay taxes on a Roth conversion could be a particularly bad move for battered investments because you’d be locking in losses. And if you’re under age 59½, you would get dinged with a 10% penalty for withdrawing IRA assets at the time of the conversion. The silver lining, of course, is that those battered investments probably would be taxed at relatively low value, meaning any tax you have to pay should be relatively low, as well.
    Indeed, tax rates—what you’re paying now and what you might pay in the future—invariably complicate decisions about whether to convert. Linda Duessel, a market strategist at Federated Investors Inc., an investment-management firm in Pittsburgh, points out that the income tax you pay on a Roth conversion while you’re working would be at your top rate, since it’s added to your regular income. But in retirement, when IRA distributions presumably would help take the place of a paycheck, you’d be paying tax at your “effective” rate, or the total tax you pay divided by your taxable income.

    If you expect your income to be lower in retirement—and tax rates to stay about where they are—then a Roth conversion might not make sense. The upshot: Whether you convert or not basically depends on what you expect to happen with your income in retirement, compared with your income while working, and whether you’re more comfortable paying taxes sooner at current rates or betting on lower taxes later.
    Strategies to Consider

    What’s the best way to take advantage of the rule change? First, keep in mind that you don’t have to convert your entire IRA next year. You can do it piecemeal, as you can afford it, over a number of years. A Roth conversion “isn’t an all-or-nothing option,” says TowerGroup’s Mr. Cunniff. If you hold traditional IRAs made up largely of pretax contributions, such as a 401(k) rollover, your tax bill could be steep. One way to mitigate the tax-bill pain is to get your accountant to help you figure out how much you could convert within your current tax bracket each year without bumping yourself into a higher one.

    It’s also a good idea to put converted holdings in a new account, rather than an existing Roth. Here’s why: If the value of your converted assets falls further—after you have paid taxes on their value—you can change your mind, “recharacterize” the account as a traditional IRA, and, in turn, no longer owe the tax. Later on, you could reconvert the assets to a Roth again. (See IRS Publication 590 for the timing details.) This dilutes the tax benefit if you’ve combined those converted assets with other Roth holdings that have appreciated in value.

    In fact, you might consider opening a separate Roth for each type of investment you make with the converted money. That way, you could “cherry-pick the losers,” recharacterizing investments that perform poorly, suggests Mr. Slott. Let’s say you made two types of investments—one that doubled in value and another that lost everything. If those investments were in the same Roth, the account value would appear unchanged. But if they were in separate accounts, you could recharacterize the one that suffered—and allow the one doing well to continue appreciating in value as a Roth.

    Some owners of IRAs that hold variable annuities with depressed account values are planning to convert those investments to Roth IRAs as well. The current value of the underlying investments in their variable annuities has fallen below their income benefit or death benefit. In that situation, if you convert to a Roth, you’d pay tax on the lower account value—and potentially get a higher benefit in the future tax-free.

    Still, if you have a variable annuity and you’re considering a Roth conversion, make sure you value the account according to the latest IRS rules, Mr. Slott cautions. The IRS cracked down on annuity holders using “artificially deflated” variable-annuity values in Roth conversions a few years ago to lower their taxes, he says. “The IRS ruled that you have to get the actual fair-market value of the account from the insurance company and use that number.”

    What You Should Do Now
    There are a few ways to get ready for next year. Again, as noted above, if you have money to invest, consider funding an IRA before Dec. 31. That way, you can convert those assets to a Roth as soon as Jan. 2.

    Also locate and organize your paperwork for any nondeductible IRA contributions you’ve made in the past. By taking that step, you should be able to come up with an estimate of how much of your potential conversion would be taxable. If you expect your 2010 income to be similar to this year’s, you can look up the tax brackets at to get a ballpark idea of the taxes involved.

    Next comes the tough part: Identifying ways to pay those taxes with money outside of your IRA.
    To think through all the moving parts, it may help to consult a financial planner or accountant who has extensive experience working with retirees relying on IRAs. The tax rules governing IRAs are intricate, nonintuitive, and arcane. One misstep can unwind a tax-deferred nest egg in a way you might not have intended.

    For example, if you’re already taking regular, so-called 72(t) retirement payments, which allow IRA holders to make “substantially equal” withdrawals penalty-free before age 59½, converting that IRA to a Roth is even trickier, Mr. Slott says. The new Roth can contain no other Roth IRA assets, and the 72(t) payments must be continued from the Roth—but no 72(t) payments from the traditional IRA can be converted to the Roth. And if you have company stock in your 401(k), you might wind up with a lower tax bill if you withdraw the stock from the account before doing an IRA rollover and Roth conversion, he adds.

    Seek out online tools to help you devise your conversion strategy as well. One resource is Mr. Slott’s Web site,, which has a discussion forum where consumers can post questions about Roth IRA conversions and get answers from investment advisers who specialize in IRA distribution work.

    At least one free, interactive calculator has been developed to help people think through the decision. Convergent Retirement Plan Solutions LLC, a retirement-services consulting firm in Brainerd, Minn., released a Roth Conversion Optimizer calculator in May for investment advisers with Archimedes Systems Inc., a Waltham, Mass., maker of financial-planning software. A consumer version of the calculator is available at

    “For the vast majority of middle America, the question is, ‘What’s the best portion of my IRA to put into a Roth?”’ says Ben Norquist, president of Convergent.

    The calculator takes several factors into account, including your income needs from retirement assets, future tax rates and the portion of your assets you convert to a Roth. Then, it crunches those variables to show you, using a simple bar graph, the impact of a Roth conversion on your future assets.

    One caveat: With any calculator that lets you adjust the future tax rate, as this one does, it’s easy to manipulate the answer if you’re predisposed to doing a conversion now—or avoiding it because you don’t want to pay the resulting tax bill, Mr. Slott says.

    Still, the calculator does help you pin down the answer to the big question you should answer for yourself this year, Mr. Norquist says: “If I can take a portion of my assets and shift them over to a Roth, am I going to sleep better knowing they can’t be touched by future tax increases?” If your answer is “yes,” it’s time to start digging out records and number-crunching.

    Located in Bellevue, Washington, Integrity Financial Corporation is a Registered Investment Advisor and consulting practice founded in 2004. Kristofer Gray and Julie Gray leveraged their substantial backgrounds in financial services to create an organization focused on an exceptional client experience. As a boutique consulting practice, we distinguish ourselves by tailoring solutions to the unique needs of our clients. Integrity Financial Corporation welcomes the opportunity to serve you, and we look forward to a long and rewarding relationship with you.

    Integrity Financial Corporation empowers you to build a financial legacy and successfully pass it on to future generations and charitable causes. Our clients can expect to receive personalized service and expertise built on a foundation of trust. Visit our website at

    Thursday, June 18, 2009

    Best Social Network?

    What social network have you found to work best? Take our poll here -

    Integrity Financial Corporation helps business owners evaluate and make smart financial planning decisions on behalf of their business. Please visit our website at and take advantage of a free intial 401k consultation.

    Tuesday, May 19, 2009

    TIPS - A Tactical Inflation Hedge for the U.S. Investor

    In analyzing the potential inflationary effects of the TARP bailouts, it is important to understand the basics of TIPS. As a Legacy Advisor, we thought the article was important, as our firm has been introducing the concept and strategy of TIPS to many of our clients. The following content was written by Robert Huebscher:

    If you are among those who believe inflation will be the price we pay for expansionary monetary policies and expanding Federal deficits, then Treasury Inflation Protected Securities (TIPS) today present a compelling opportunity.

    Even if you number among those who forecast deflation, TIPS are likely to outperform many other asset classes.

    As BU finance professor Zvi Bodie noted in a recent article, TIPS are unquestionably the safest inflation hedge for a US dollar-based investor and are arguably the safest investment in the market today – period. All other traditional inflation hedges – equities, gold, commodities, and real estate – may work as a hedge but will introduce other risk factors. TIPS, on the other hand, are a pure inflation hedge.

    TIPS are not riskless, and investors need to understand the market dynamics that drive their performance.

    TIPS were introduced in the US markets in 1997, although similarly structured securities have been available in non-US markets prior to that. When TIPS are issued, they are redeemable at par with a fixed coupon rate and maturity date. Each month the principal value is adjusted up or down depending on the inflation rate (the government uses the broad-based CPI-U figure with a three-month lag). Coupons are paid semi-annually and are determined by multiplying the coupon rate at issue times the adjusted principal value.

    Although the principal value of TIPS can go below par over the life of the bond, their principal value at maturity is guaranteed to be at least par. Because they are protected at par, TIPS a good bet to outperform equities and commodities in a prolonged deflationary environment.
    Taxable income from TIPS comes from coupon payments and the adjustment for an increase in principal value (in an inflationary environment). The latter creates a “phantom tax” and the belief that TIPS are tax-disadvantaged, since TIPS owners must pay tax on principal value increases, even though they receive no cash payments from these increases until the bond matures. Principal payments at maturity are not taxable.

    TIPS issuance has grown steadily over the last decade, but still comprises a relatively small portion of Treasury issuance – $14 billion in the second quarter of 2009, compared to $327.5 billion of nominal bonds. Initially, TIPS were purchased primarily by pension plans and asset managers whose goal was fund liabilities indexed to inflation, and the TIPS market was relatively illiquid. That problem has disappeared, as TIPS are now broadly owned in retail and institutional portfolios.