It’s A Good Time To Consider A Roth IRA!
Friend Henry M. sent an article about Roth IRAs. This is the time of the year to review things and make necessary decisions.
The article asks the right questions while stressing consulting a fiduciary advisor, with tools and encouraging readers to find one. It’s a cleverly worded referral service earning fees from advisors.
Most financial advisors earn ongoing fees for managing your money; possibly creating a conflict of interest in guiding your choices.
Moving money to a Roth IRA should always be discussed with a qualified financial advisor – who has no ulterior motive in guiding you to the right decision.
Each choice should be made independently.
Is a Roth IRA right for you? There are many tax considerations; your CPA and tax advisor would be a good place to start with your questions.
How will you fund it? Will you use cash, transfer assets from another IRA, or move money from a company-sponsored 401k account into a self-directed Roth?
Who will manage the investments? Those who had company-sponsored plans will likely find themselves responsible for managing the assets, with greater flexibility in investment choices.
Today’s concern – is a Roth right for you?
While I’m sharing personal experiences, before making any decisions, I’d echo the sentiment about consulting with both a licensed, competent tax and financial advisor.
If you decide to open a Roth, get it done before April 14, 2024. Why?
A major advantage of a Roth IRA is there is no tax when you withdraw money – after a five-year waiting period. Investopedia explains:
“One of the much-touted boons of the Roth individual retirement account (IRA) is your ability—at least, relative to other retirement accounts—to withdraw funds from it when you wish and at the rate you wish.
…. True, direct contributions to a Roth can be withdrawn anytime, without tears (or taxes). Withdrawals of other sorts of funds, however, are more restricted: Access to them is subject to a waiting period, known as the five-year rule.
…. Failure to follow the five-year rule can result in paying income taxes on earnings withdrawals and a 10% penalty.
…. Roth IRAs are funded with after-tax contributions (meaning that you get no tax deduction for making them at the time), which is why no tax is due on the money when you withdraw it.
…. At age 59½, you can withdraw both contributions and earnings with no penalty, provided that your Roth IRA has been open for at least five tax years.
Start Date of 5-Year Rule
‘Tax years,’ with regard to five-year rules, means that the clock starts ticking on Jan. 1 of the tax year when the first contribution was made. Typically, you can make an IRA contribution by April 15 or the tax filing deadline of the next year, and it can count for the prior tax year.”
If you open up a Roth before April 15, 2024 your five-year waiting period begins January 1, 2023. Technically, the waiting period is a little less than four years.
Investopedia discusses the 401k and IRA basics/differences:
“The traditional individual retirement account (IRA) and 401(k) provide the benefit of tax-deferred savings for retirement. Depending on your tax situation, you may also be able to receive a tax deduction for the amount you contribute to a 401(k) and IRA each tax year.”
The government allows you to deduct contributions (up to certain limits which change annually) to your retirement plan. That money is invested, and taxed at your current tax rate when you withdraw it. You lose the benefit of lower tax rates for capital gains or dividends. The government encourages saving but gets its cut when you take your money out.
A Roth IRA is different. Contributions are not tax deductible, and withdrawals are not taxable.
You can also roll over money from your traditional IRA or 401k (paying the taxes when you take it out) into a Roth IRA. Your trade-off with the government is you don’t get a tax deduction when you contribute, and your withdrawal, including investment earnings, is not taxed.
With the click of a mouse, we moved the stocks, bonds and other investments from one account to another. Other than paying the necessary taxes, nothing changed. Their specialists helped us understand the process, making sure we complied with the law.
We continued with non-deductible Roth contributions as we had earned income. We didn’t need help from a money manager until I sent a portion overseas; where we currently use an offshore money manager.
The BIG question no one asks….
Most articles about Roth IRAs discuss the process, rules, regulations, limitations, etc. They can use all the fancy graphs, charts, and formulas they want; however, the real concern is not a math problem. All the projections are based on current data, anticipating things like inflation and investment returns in the future – while ignoring the important question –
Do you trust the government?
The government is your business partner with a 401k and traditional IRA and can change the rules at any time. Some politicians are on record supporting legislation to require 401k and IRAs invest a certain portion in government bonds, limiting investor’s choices, while making it more difficult to stay ahead of inflation.
If you roll over money from your current plan, you will pay taxes at the current tax rates. With government deficit spending going through the stratosphere, are you willing to bet the government will not raise tax rates in the future?
IRA or 401k withdrawals, coupled with your current income may put you into a higher tax bracket.
The more you make in a traditional retirement plan, the more you’ll pay in taxes, at ordinary income tax rates, when you withdraw your money. With a Roth, your money appreciates and can be withdrawn tax-free after the waiting period.
I’m a staunch believer that you should dump your business partner now. Bite the current tax bullet, and let your money grow tax-free – one less thing to have to worry about!
I’ve been asked about the government changing the Roth IRA rules. I queried two very experienced financial consultants. Both felt the political class doesn’t want the citizens storming the palace; more than likely they would grandfather in older Roths. If you see an unreasonable government rule is about to pass, if you are beyond the five-year rule, you can always withdraw your money before it happens.
Here are some personal experiences….
Start your Roth now. While you may not want to roll over your traditional IRA or 401k – open a Roth account, even for a small amount. A stock broker can show you how.
Why now? The five-year clock begins ticking on January 1 of the tax year you open your account. You can add contributions and roll over later, but you’ve already started your five-year window.
If possible, pay the taxes for your rollover out of current funds. For most people, this is hard to do. A friend sold his business and had a large 401k at the time. He took some of the proceeds from the business sale to pay the taxes for his 401k distribution, rolling the entire amount from his 401k into his Roth. Now his entire balance is earning money tax-free for the rest of his life.
Roll over your money slowly. I was still working when we decided to roll over our retirement accounts into a Roth. A lump sum rollover, coupled with current earnings, would have moved us to a much higher tax bracket. To save taxes, we completed the process over a few years.
What to roll over first. The taxable amount for rollover investments is current market value. Today, many people have longer-term, low-interest-rate bonds that would currently sell below par. Also, many preferred stocks are selling below par value, paying double-digit returns. Both will be redeemed at par value.
If you hold these investments, the appreciation from current market value would not be taxed in a Roth.
As an aside, if you have a self-directed IRA, you might want to buy some solid preferred stocks before you roll over your funds.
Don’t overlook Medicare. Medicare Advantage explains your income affects your Medicare premiums also:
“Medicare Part B and Part D require higher income earners to pay higher premiums for their plan. If you have Part B and/or Part D benefits (which are optional), your premiums will be based in part on your reported income level from two years prior.”
Withdrawals from a 401k and IRA are included in your personal income in calculating Medicare premiums.
Government spending is past the point of no return, no one knows for sure what a desperate government will do. Owning a Roth IRA offers one more level of protection.
A little help goes a long way!
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On The Lighter Side
I hope everyone enjoyed a Happy Thanksgiving. Jo and I went to our favorite cowboy restaurant, Harold’s Cave Creek Corral. Cave Creek, AZ is a unique place, you still occasionally see a cowboy ride into town on horseback.
Jo had traditional turkey, while I was able to enjoy a prime rib. I have much to be thankful for, a few years ago, recovering from tongue cancer, I was unable to swallow well enough to even try it. I’ve also noticed that my taste buds are slowly returning.
Our weekend was full of friends and football. I was pleased to see Northwestern beat Illinois, for a 7-win season. They are bowl-eligible. Should they end up in AZ, I’d love to be able to go see them.
I got a kick out of Erma Bombeck’s quote: “Thanksgiving dinners take eighteen hours to prepare. They are consumed in twelve minutes. Half-times take twelve minutes. This is not coincidence.”
I really didn’t watch much football Thursday, but watched a lot of college football Friday and Saturday.
Quote of the Week:
“There will always be someone who can’t see your worth.
Don’t let it be you.”
— Randy Cassingham
Jo sent along some “Facebook Wisdom.” Sage advice, sometimes difficult….
- Don’t lend money to your family. Give it – or decline!
- Never shake a hand while sitting down.
- Never eat the last piece of something you didn’t buy.
- Don’t throw anyone under the bus to impress someone.
- Never insult the cooking when you are the guest.
- Don’t use the urinal next to an occupied one.
- Don’t take out your phone during a conversation.
- Never take credit for work you didn’t do.
- Listen, nod, and most of all make eye contact.
- Never let emotions overpower you.
- Never kick a man when he is already down.
And my favorite:
- Never make fun of anyone in front of their children.
Until next time…
“Economic independence is the foundation of the only sort of freedom worth a damn.” – H. L. Mencken
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