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Today’s Note: Roth IRA Tricks

January 23, 2012

Today’s Note covers a Forbes.com article on a workaround for Roth IRA income limitations, which was written to help savvy investors find a more effective way to save for retirement. “The Serial Backdoor Roth, A Tax-Free Retirement Kitty,” by Ashlea Ebeling is targeted at investors who are at least moderately sophisticated, but the advice is particularly useful for young and middle class married couples.

The article starts by explaining its target audience:

If your income is too high, you can’t contribute directly to a Roth individual retirement account, but you can get one in a backdoor way. Step 1: Open a traditional IRA (in your case, it’s nondeductible). Step 2: Convert it to a Roth IRA. Is it worth it? “It’s a no-brainer if you have the cash to do it,” says Kevin Huston, an enrolled agent in Asheville, N.C. who has clients both young and old doing it to shore up their retirement savings. “It especially makes sense for people who are younger because they have all these years of tax-free growth,” he says.  [all italics are added by me, to show quotes from the article]

Ebeling also explains why the Roth is so advantageous:

Why go through the hoops of getting money into a Roth IRA? They are an amazing deal, especially for folks looking long-term and expecting higher tax rates in the future. With a Roth IRA you don’t ever have to take money out, and when you do start taking money out, it’s all income-tax-free, including the earnings. By contrast, with a traditional IRA, earnings grow tax-deferred, you have to start taking required mandatory distributions the year after you turn 70.5, and distributions count as income. A Roth can help keep your tax bite down in retirement.

The Roth conversion isn’t for everyone, and Ebeling gives us some guidance on this, too:

So when might it make sense to skip this whole exercise? Ronald Finkelstein, a CPA and lawyer with Marcum in Melville, N.Y., said he personally makes nondeductible IRA contributions each year and has considered doing a Roth conversion but passed because he has accumulated a large sum in a traditional IRA he opened 30 years ago when he had a newspaper route. Plus, he may retire to Florida, so paying the New York state tax bite wouldn’t make sense. “You have to do the calculations,” he warns.

This is a fairly complex article. And executing a strategy with a Roth rollover/conversion really should have the consultation of a professional behind it. But the article may point you in a direction you hadn’t thought about, or hadn’t considered recently. The article is well-written and comprehensive. I recommend a look.

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