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
Thursday, December 31, 2009
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. (http://www.caltax.com/) 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 FindLaw.com. 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 TaxMama.com 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."
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. (http://www.caltax.com/) 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 FindLaw.com. 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 TaxMama.com 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.
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:
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.
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