Many aren’t aware of the new rule allowing conversion to a Roth IRA from a traditional IRA. — regardless of either your income tax filing status or your income. Income? Yeah, those makin’ over $100,000 annually used to be restricted from creating Roths. That rule has now been eliminated for good. It became effective the first of the year. You’ll be happy to learn it also allows you to spread the conversion’s tax hit over three years — AND — you’ll be able to skip 2010 totally. This makes it possible to split the tax between 2011 and 2012. This tax split is only available this year. As you might imagine, this bundle of carrots offered to taxpayers has generated a buncha IRA owners to dive into the conversion pool.
Here’re a few other facts you should know about converting to a Roth IRA
Before continuing, don’t feel like you’re rowing the boat alone if some of these rules are, um, about as clear as mud. Understand that under 59.5 years old us usually not cool, with an exception or two when it comes to withdrawals. Also, since one of the new contributors is wicked smart when it comes to the ins and outs of self-directed Plans, you’ll always have someone on which to lean. It’s very analogous to tax deferred exchanges. Most think they’re very complex, but after doin’ 2-300 or so…
First, not only has the restriction on how much you can make at work been axed permanently, but you can be without a job — income isn’t a requirement. You can be retired and do this.
Second, and this impacts whole bunches of folk, you can convert as many IRAs into as many Roths as your heart desires. That’s actually a strategy some should follow, especially if different plans have different portfolio makeups. Think about it. If you’ve already converted, then one of your newly converted Roths loses value, (and this is AFTER you’ve already earned a tax bill) it’s great to know conversions can be ‘undone’. It’s actually called a recharacterization. It’ll be as if it never happened — up ’till October 15th of the year after the conversion — no tax or penalty. So if all of your conversions are to just one Roth IRA, you can’t pick and choose. Make sense? It’s also OK to combine multiple Roths into one, if it makes life easier, based upon your particular circumstances.
Remember, when in doubt, have a Plan, and do things on Purpose.
Third, know the rules for withdrawing funds from your newly converted Roth. Violating those rules tends to make one poorer — not just in taxes, but penalties too. A withdrawal taken from the new Roth before 59.5 years old won’t generate taxes under certain conditions, but will trigger a penalty of 10% — IF — it takes place before the conversion is five years old. (Conversions have their own five year waiting period.) ‘Course, if yer older than 59.5 there’s no penalty. See what I mean about clear as mud?
A common mistake is confusing withdrawals of contributions with withdrawals of the earnings of those contributions, when under 59.5. It’s the ‘ordering’ imposed on converted Roths.
Contributed amounts THEN Converted amounts THEN Earnings. That’s the order considered when you take money out, to determine if or how much tax and/or penalty you owe. In any case, if there are taxes owed, and you’re under the magic age, the 10% penalty will also be applied.
BawldGuy Takeaway: Know the rules of the road when it comes to converting your vanilla IRA to a Roth IRA. Ya don’t hafta be a rocket scientist. Just follow the dang rules. The main thing? The pros to which we’ll refer you, do this every day, all day. They’re consummate pros.
BawldGuy Axiom: It’s not the answers to the questions you have that hurt you, as much as it is the answers to the questions you simply didn’t know to ask. OR — Ya don’t know what ya don’t know.
Next, we’ll be diving much more deeply into self-directed IRAs — and their investments into real estate. There’s all kind of things to understand. But the main thing is: It works, and is a stellar way to recoup recent Wall Street losses.
You can contact me at 619 889-7100. Have a good one.