To Roth Or Not to Roth

Brian T. Whitlock CPA, JD, LLM

ICPAS – Central ChapterJanuary 19, 2010

Roth IRA Benefits

• Income tax free growth

• Income tax free distributions after age 59 ½

• No Required Minimum Distributions for owner

• Beneficiaries of ROTH account can stretch benefits tax free over their lifetimes

Roth IRA Qualified Distribution Restrictions

Earnings are taxed or subject to 10% penalty if Withdrawn within 5 years of conversion– Death is not an exception to 5 year rule

• After 5th year penalty free withdrawals permitted: – After age 59 ½

– Following death or disability

– Unreimbursed medical exp over 7.5% of AGI

– Medical insurance premium after job loss

– Qualified Higher Ed for self, spouse, kids or GC

– 1st time homebuyers up to $10,000 lifetime limit

Roth IRA Distribution Ordering Rules

Order of Withdrawals

• Annual Contributions first (tax-free)

• Conversion contributions next (tax-free but subject to early withdrawal penalty)

• Earnings on account (tax-free provided five year rule and exceptions apply)

Prior to December 31, 2009, existing IRA could be converted to ROTH only if Modified AGI was below $100,000.

Beginning January 1, 2010, the $100,000 Modified AGI ceiling will be Permanently Repealed.

ROTH IRA Conversion Rule

Election to convert in 2010.

No taxable income in 2010, just measure the FMV of the plan assets.

• One Half of FMV is Ordinary income in 2011.

• One Half of FMV is Ordinary income in 2012

How the Election Works

Taxpayer can change election by reconverting back to a regular IRA prior to the extended due date for filing 2010 Form 1040 - October 15, 2011.

Why reconvert?

– If income tax rates rise to an untenable level

– If the value of the account falls, reconvert

Taxpayer can re-elect 30 days after reconversion 2010, just measure the FMV of the plan assets.

Reconversion Options

• Owner of Regular IRA

• Spousal Roll over IRAs

• Owners of Qualified Plan assets and both Spouse and Non-Spouse beneficiary of Qualified Plans Assets

Who Can Convert?

• NOT Everyone

• Clients that have significant basis in non-deductible IRAs

• Clients can afford to let the funds grow for more than 10 years

• Elderly Clients with taxable estates that want to leave their accounts to children/grandchildren

Who Should Convert?

Elderly Client - Taxable Estate

Description Life Time After Death

FMV of IRA $ 5,000,000 $ 5,000,000

Other Assets 10,000,000 10,000,000

Life Conversion Tax (1,500,000) 0

Taxable Estate $ 13,500,000 $ 15,000,000

Fed & IL Estate Tax (5,000,000)

(5,750,000)

Income Tax on IRD (962,500)

Net to Heirs 8,500,000 8,287,500

Savings $ 212,500

Do not Convert, if

• You need the funds short-term • You are over 65 and you need for retirement• Charity is named as the beneficiary of your IRA• You HATE to pay any tax early • You cannot pay the tax on the conversion from

funds outside of the IRA• You believe you will earn less than 3% and be in

a marginally lower (>6%) income tax bracket• You believe you will be in significantly lower tax

brackets in the future (Breakeven is a 11% decline in tax rates).

Multiple IRA Accounts create flexible options:

• Leave taxable IRA to charity

• Convert multiple IRA accounts

• Invest accounts differently

• Reconvert accounts that decrease in value

Create Flexibility for Clients

• After Retirement but before 70 ½ convert a portion each year to utilize low brackets

• Take advantage of business losses

• Take advantage of NOLs

• Take advantage of Charitable Deduction carryovers

• Offset conversion income with charitable contribution deductions

Roth Planning Ideas

• WATCH OUT FOR UBIT –– Unrelated Business Income Tax impacts IRAs and ROTH

IRAs– UBI in Partnerships which hold a trade or business– UBI in debt financed real estate– UBI in hedge funds and leveraged investments

• Inherited IRAs and Inherited ROTH IRAs are subject to claims of creditor – use Conduit Trusts

• Regular and Roth IRA are not permitted S Corporation Shareholders– Taproot v. Commissioner (2009)

Traps and Final Warnings

Questions and Comments

BK Blog:http://blog.untaxinglyyours.comTwitter @TaxGems

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