Saturday, May 20, 2006

The New tax laws present a golden opportunity for high income earners - Roth Conversions of non-deductible IRAs

As soon as I heard that the new tax laws would remove income restrictions on conversion of IRAs to Roth IRAs, my ears perked up. I wondered, would it extend to non-deductible IRA contributions as well?

Historically, I've been fortunate (in a way) to earn more than the ROTH cut off limit, hence unable to contribute to a Roth IRA. With the 401ks of my various employers or businesses, I haven't been able to make a tax deductible IRA contribution either. For a while, I thought, I was left out of the Roth benefits.

This weekend the Wall St. Journal had a very interesting article discussing the conversion of non-deductible IRA contributions / roll-over into Roth IRAs. The article can be found here.

For the last two years I have been making non-deductible IRA contributions. This means I've already paid tax on the money but future gains would be tax deferred. The article discusses how these contributions can be converted / rolled-over into Roth accounts.

The article does highlight the possibility that legislators might pull back the opportunity for high income families before 2010, but if we make it there, it will be a golden opportunity, as there would be minimal taxes on 2-3 years of growth and we would have 2 years to pay the taxes after conversion. I love the idea that I might have some money that could be withdrawn tax free in the future (with caveats as to when per ROTH rules).

I'm still trying to decide if I would want to participate in a ROTH 401k (if it's available). I have a certain skepticism that future congresses might not maintain the tax deferred nature of ROTHs, but if I can, I'd prefer to balance contributions into each type of account to cover my bases.

Ultimately, the new law means that a high income family could contribute $8k per year from 2006 - 2010 and then rollover the balance into a ROTH IRA. $40,000 of future untaxed growth is a nice thing!

If you have the extra cash, you might want to consider this option. Plus the investment would enjoy the regular protections that IRA deposits have (some protection from creditors and tax deferred growth).

Have a wonderful weekend.

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