Roth IRAs offer outstanding retirement and estate planning opportunities to virtually everyone that qualifies.

In most cases we recommend that you make a $4,000 Roth IRA contribution for yourself and (if applicable) a $4,000 contribution for your spouse for 2006.  If either you or your spouse is over age 50, these amounts are increased to $5,000.  To qualify for the maximum contribution, married taxpayers filing a joint return must have a combined Adjusted Gross Income (AGI) of less than $150,000 and you must have earned income of an amount at least equal to the contribution amount.  For singles, you must have an AGI of less than $95,000 and an earned income of an amount at least equal to the contribution amount.  If you are wealthy and have qualifying children or grandchildren (i.e. the children are earning a minimum of $4,000), please consider gifting them $4,000 each.  Then, have them purchase a Roth IRA for themselves. 

Why is a Roth IRA Better than a Regular IRA?

Roth IRAs, with limited exceptions, grow income-tax free and they are not subject to the minimum distribution rules requiring withdrawals at age 70 ½.  Regular IRAs only defer tax payment on income and capital gains and they have minimum distribution requirements.  The disadvantage of the Roth IRA is that you do not receive a tax deduction when you make a contribution.  In effect, Congress is taxing the seed not the harvest.

In general, the only times the Roth is less favorable than the traditional IRA is in the event that your income tax bracket would be lower at the time of the withdrawal than at the time of the contribution or if the value of the account decreases.  Even with lower tax brackets in retirement, the Roth IRA can be a better choice unless a short investment period is anticipated. 

Roth IRA Conversion

If your AGI is less than $100,000, married or single, please give serious consideration to converting at least a portion of your current regular IRA or, in many cases, your retirement plan (via a traditional IRA) to a Roth IRA.  Some IRA owners could benefit the most by converting their entire IRA to a Roth IRA.  For most clients that qualify, we frequently recommend a partial conversion.  Making the conversion does require paying taxes on the converted amount to the extent it produces taxable income.  But, even taking that tax payment into account, the conversion provides a dramatic increase in long-term benefits.

 You might ask, “What about the loss of earning power on the money I will be spending in taxes?”  Our analysis takes that loss into account.  The benefits measured in total purchasing power of the tax-free compounding of the Roth IRA typically exceed the lost income and principle from the taxes triggered by the conversion.

Available from our website is our peer-reviewed article,IRAs After the TRA '97-What Hath Congress Roth?.  This article presents a case, Example 4, in which a 55 year old person converts $100,000 from a regular IRA to a Roth IRA.  It quantitatively demonstrates that the conversion will generate approximately $94,000 of additional purchasing power available by age 75.  We invite you to work through our numbers until you are completely convinced that our calculations are correct.

One drawback is that income triggered by making the Roth IRA conversion may be taxed at a higher income tax rate.  The additional income from the conversion will be added to your existing income and it will likely increase your tax bracket.  You might end up paying 28%, 31% or more tax on the conversion to save taxes at 29%.  Your future tax rate is not always known.  Also additional income from the conversion may cause more of your social security income to be taxable.

There are, however, many times when paying income tax at the higher rate will be the wisest choice, particularly if it is a long-term investment.  Additionally, there are problems when the only money available to pay the taxes is in the IRA itself.  While we are enthusiastic in many cases, we are still quite cautious about our recommendations for significant conversions. 

Estate Planning for IRA Owners

Making a significant Roth IRA conversion is often great for both you and your heirs.  Assuming your heirs make the proper election, they will continue to enjoy many years of tax-free growth after you die.  In addition, your estate is likely to enjoy an inheritance tax savings, and additional savings if there is an estate tax liability, as a result of your Roth IRA conversion. 

Please keep in mind that the disposition of your IRAs, Roth IRAs and retirement plans are controlled by your beneficiary designations, not your will or living trust.  Therefore, married IRA owners and retirement plan participants with a significant amount of total assets should consider whether they need sophisticated IRA and retirement plan beneficiary designations, as well as sophisticated wills or living trusts.  An integrated tax-savvy approach including wills, trusts and retirement plan beneficiary designations will dramatically increase the amount of the funds retained by the family at the expense of the IRA. 

Where to Go From Here

I recommend that all IRA owners review the table of contents in the article Retirement Planning for IRA Owners and 401(k) Plan Participants and read the appropriate sections.  For those who qualify or could plan to qualify for a significant Roth IRA conversion, I highly recommend that you review the table of contents and read the appropriate sections in IRAs After the TRA'97- What Hath Congress Roth? (adapted from an article appearing in the May 1998 issue of the The Tax Advisor, copyright 1998 by the American Institute of Certified Public Accountants, Inc.)

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