RMR Wealth Management Blog

Millionaires Are Doing Roth Conversions Before The Fiscal Cliff Hits, Should You Too? - posted by Brian Mayer, RMR Wealth Magement, LLC

RMR Wealth Management - Thursday, December 20, 2012
(article orignally written by Ashlea Ebeling, Forbes Staff) 

 

Millionaires Are Doing Roth Conversions Before The Fiscal Cliff Hits, Should You Too?

With tax hikes around the corner, one of the year-end tax moves in millionaires’ playbooks is converting a traditional individual retirement account into a Roth IRA. It’s a way to fight upcoming tax hikes, whether or not we fall off the fiscal cliff. It could make your retirement a lot richer–whether you’re a millionaire or just have an IRA in the five figures.

 

Here’s a millionaire example, courtesy of Robert Keebler, a CPA in Green Bay, Wisc. and a Roth cheerleader. A 65-year-old farmer client in the 35% federal bracket (the top rate today) put North Dakota farmland in his IRA and hit oil, literally. He just got the land appraised for $1 million, and is converting the IRA to a Roth, paying the give-or-take $350,000 income tax hit out of other assets. “It’s a brilliant strategy,” Keebler gushes. “By doing this, he preserves his 35% income tax rate, and all future distributions will be income tax free.”

 

That’s the beauty of a Roth. If you anticipate higher taxes, you can lock in today’s rates. If the farmer had done the conversion before he struck oil, it really would have paid off because you pay income tax on the value of the IRA assets when you convert.

 

2012 Roth Ira conversions are on the list of potential tax strategies of more people than any year except perhaps in 2010, says CPA and lawyer Robert Carlson in his latest Retirement Watch newsletter. Before 2010, you could only do a Roth conversion if your income was $100,000 or less. When that income limit was lifted Jan. 1, 2010, there was a flood of Roth conversions.

 

Now folks are hustling again to do them by year-end in anticipation of looming tax hikes expected on Jan. 1. For high-income taxpayers (just how high is still being hashed out), the 35% rate could jump to 39.6%. Capital gains and dividends rates may go up too. Also, a new 3.8% surtax on investment income and a new 0.9% surtax on wages and self-employment income are scheduled to kick in for singles earning $200,000 plus and married couples earning $250,000 plus.

 

Need a rundown on conversion basics? A traditional IRA is usually funded with earned income that hasn’t yet been taxed. Investments grow tax deferred, and withdrawals are taxed at ordinary income rates. A Roth is funded only with after-tax dollars, but any withdrawals made after five years and past age 59 ½ are tax free.

 

That’s the beauty of a Roth. If you anticipate higher taxes, you can lock in today’s rates. If the farmer had done the conversion before he struck oil, it really would have paid off because you pay income tax on the value of the IRA assets when you convert.


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