Continuing Education for CPAs

Transcription

1 UFS Roth Conversion: The Golden Opportunity Continuing Presented By: Date: L [ex[0313]all states][dc]

2 2 Metropolitan Life Insurance Company, New York, NY New England Financial is the service mark for New England Life Insurance Company and related companies, 501 Boylston Street, Boston, MA MetLife companies. MetLife Insurance Company is registered with the National Association of State Boards of Accountancy (NASBA), as a sponsor of continuing professional education on the National Registry of CPE Sponsors. State Boards of accountancy have final authority on the acceptance of individual courses for CPE credit.

3 Objectives 1. To discuss how a Roth IRA works 2. To discuss the advantages-disadvantages of converting a Traditional IRA to a Roth IRA* 3. To help identify the factors you should consider when deciding whether or not to do a Roth IRA conversion *This opportunity may not be right for everyone. The cost of paying taxes now may outweigh the benefit of income taxfree qualified distributions in the future. The taxable amount being converted is generally taxed as ordinary income in the year distributed or treated as distributed from your non-roth IRA or qualified retirement plan. For conversions involving annuity contracts, the taxable amount may be more than you would otherwise expect because it may be based on more than just your account value. The state income tax treatment of your conversion and subsequent distributions may vary depending on your state of residence. This tax information is provided for informational purposes only, and should not be construed as legal or tax advice. MetLife, its agents or representatives do not provide legal or tax advice. Before converting consult an independent tax advisor regarding your specific legal or tax situation. Continuing 3

4 4 What is a Roth IRA? A form of Individual Retirement Account or Annuity (IRA) created by the Taxpayer Relief Act of 1997 In the form of an annuity or an investment account Must be owned by an individual Provides for distributions to the owner and designated beneficiaries created by regular contributions to the Roth IRA or by conversion of a traditional IRA into a Roth IRA

5 5 How a Roth IRA works Contributions Contributions limited to $5,000 if under age 50 Contributions limited to $6,000 if age 50 or over Contributions become limited and then eliminated as the modified adjusted gross income (MAGI) increases Contributions are not tax deductible

6 6 How a Roth IRA works Growth Roth IRA account values grow tax-deferred The account does not pay tax on growth Roth IRA owners can buy and sell positions within the account without recognizing tax Investment fees and surrender charges still apply

7 7 How a Roth IRA works Distributions Qualifying distributions are not taxable to the owner Qualifying Distributions are not taxable to the beneficiary No distributions are required during the owner s life After the owner s death, the required minimum distribution (RMD) must be made to the beneficiary each year

8 8 Traditional IRA vs. Roth IRA Traditional IRA Roth IRA Contributions tax deductible* non deductible Growth Tax deferred Tax deferred RMD (owner) required none Distributions taxable* Potentially tax-free** 10% Penalty may apply may apply RMD (beneficiary) required required * Assumes no after-tax contributions to the Traditional IRA. ** Assumes Roth distributions satisfy 5-tax-year holding period and other requirements (e.g., after owner s age 59 ½).

9 9 Who can use a Roth IRA? Individuals with modified adjusted gross income (MAGI) below certain thresholds are eligible to contribute to a Roth IRA Roth contributions may be limited if the individual will also make contributions to a Traditional IRA in the same year. Individuals (in 2010 and later) may convert a Traditional IRA (or eligible rollover distribution amount from certain employer provided qualified retirement plans) to a Roth IRA without regard to MAGI limits.

10 What is a Conversion? A conversion is an election to change a Traditional IRA to a Roth IRA. Conversions cause recognition (usually in the year of distribution or deemed distribution) of the pre-tax contributions and tax deferred gain in the taxpayer s Traditional IRAs. For conversions involving annuity contracts, the taxable amount may be based on the fair market value of the contract, which may be more than the account value and may result in the taxable amount being more than you would otherwise expect. Traditional IRAs can have deductible or after-tax contributions Taxpayers (up to age 70 ½) will be able to first contribute to a nondeductible Traditional IRA and then immediately convert to a Roth IRA. Continuing 10

11 Conversion Sources Traditional IRA SEP IRA SIMPLE IRA (but there are certain limitations for SIMPLE IRAs) An eligible rollover distribution from the following non-roth eligible retirement plans: 401(a) qualified plan (e.g., 401(k) or profit sharing plan), 403(a) annuity plan, 403(b) tax sheltered annuity, or eligible governmental 457(b) plan. Note: in addition to converting non-roth assets to a Roth IRA, an eligible rollover distribution from a designated Roth account (Roth 401(k) or Roth 403(b)) may be rolled over to a Roth IRA. Continuing 11

12 Conversion Sources for Roth 401(k) and Roth 403(b) As a result of the Small Business Jobs Act of 2010 (SBJA), certain non- Roth amounts within qualified plans 401(k) and 403(b) can be converted to designated Roth (after-tax) amounts. Beginning in 2010, some employer sponsored plans that already allow for annual contributions to designated Roth accounts can offer participants the opportunity to convert non-roth amounts within the plan to a designated Roth Account maintained under the plan, provided the non-roth amount is an eligible rollover distribution and is distributable under the plan. Effective after December 31, 2010, the Small Business Jobs Act allows governmental 457(b) plans to permit participants to make designated Roth contributions and also allows participants in such plans to convert non-roth account balances within the plan to a designated Roth account maintained under the plan, provided the non-roth amount is an eligible rollover distribution and is distributable under the plan. Continuing 12

13 13 Conversion Disadvantages Creates income tax obligation for the year of conversion Possibility of lower marginal income tax rates in the future when Traditional IRA distributions will be taxed Bunching of income in a single year (of conversion) instead of spreading income tax over many Traditional IRA distributions Increased AGI may affect Social Security Benefit taxation State law creditor protection may not be the same for Roth as for Traditional IRA

14 14 Conversion Advantages Possibility of higher marginal income tax rates in the future when Traditional IRA distributions will be taxed Depressed values of existing IRA balances may reduce the taxable gain that otherwise would have been due. No required distributions from Roth IRA during owner s life Possibility that future legislative action will disallow Roth IRA conversions and contributions

15 15 Example: Converting a Traditional IRA Taxpayer owns a $100,000 Traditional IRA account composed of : $10,000 of nondeductible contributions $70,000 of deductible contributions, and $20,000 of earnings. In 2012, the Taxpayer notifies the IRA custodian (e.g., brokerage firm) to change the account to a Roth IRA. Taxpayer will receive a 1099-R statement from the custodian showing $90,000 of income includible in year In April 2013, Taxpayer pays additional federal income tax of $31,500, based on Taxpayer s marginal tax rate of 35% multiplied by the $90,000 of conversion income.

16 16 Other Conversion Considerations Taxpayers may re-characterize (i.e., undo) conversions The re-characterization must generally be made by the due date of the taxpayer s return, plus extensions. Only one conversion and re-characterization of an amount is permitted during a year.

17 17 No MAGI Limits In 2010 and following, there no longer are any Modified Adjusted Gross Income (MAGI) limits restricting some taxpayers from converting Traditional IRAs to Roth IRAs. However, MAGI limits on regular contributions have not been eliminated.

18 18 No MAGI Limits -- Example In 2009, John, who files as single, has an MAGI of $178,000. He owns a traditional IRA worth $50,000. John cannot convert the IRA to a Roth in 2009 because his MAGI exceeds $100,000. In 2012, John will again have a MAGI of $178,000. However, John may convert his traditional IRA to a Roth IRA in 2012 because the $100,000 limit no longer applies. In 2012, John still cannot contribute to the Roth IRA directly his income still exceeds the allowable threshold.

19 19 To Convert or Not to Convert? Weigh the advantages and disadvantages of converting a Traditional IRA to a Roth IRA in Consider both quantitative factors (such as tax rates) and qualitative factors which cannot be incorporated into the software (such as the impact of the conversion on financial aid).

20 20 To Convert or Not to Convert? Three Most Important Factors: (i) the portion of the account which consists of after-tax contributions, (ii) the income tax bracket at conversion and when distributions are ultimately taken, and (iii) whether the tax is paid from the IRA itself or from outside sources.

21 21 Three Most Important Factors The portion of the traditional IRA account that consists of after-tax contributions. Where there have been significant after-tax contributions to a Traditional IRA, changing to a Roth IRA will be more attractive since a significant portion of the conversion will not generate taxable income. In contrast, where none of the Traditional IRA represents after-tax contributions the full value converted will be treated as taxable income.

22 22 Three Most Important Factors The income tax bracket at conversion and when distributions are ultimately taken Conversion will be advantageous when the IRA owner expects to be in higher tax bracket at retirement than at the time of conversion. Where tax brackets are expected to be lower in retirement, conversion will not be advantageous since the income tax will be payable while the IRA owner is in the higher brackets.

23 23 Three Most Important Factors Whether the tax is paid from the IRA itself or from outside sources. If the owner must immediately take a distribution from the Roth IRA to pay the conversion income taxes, less of the Roth will be available for tax deferred compounding with the potential for tax-free qualified distributions. If the owner has another source from which to pay the conversion income taxes, then conversion can, in effect, permit more funds to grow tax advantaged.

24 To Convert or Not to Convert? Other Factors Favoring Conversion: The owner will not need the IRA funds during retirement The owner expects that his or her estate will be subject to federal estate taxes The owner would like to create tax diversification to retain some control over future tax brackets The owner may be able to reduce their (other) taxable income in the year of conversion The conversion will not trigger tax on social security benefits No state income taxes on the conversion Risk that ability to convert will be eliminated by a future law. Continuing 24

25 To Convert or Not to Convert? Other Factors Against Conversion: The owner is under age 59½ and must use the IRA or Roth distributions to pay the tax on conversion. The owner needs to sell capital gain assets to pay the income taxes due upon conversion. The conversion will trigger a tax on social security benefits. The owner expects no state income tax in retirement. The owner lives in a state providing less creditor protection to Roth IRAs than to Traditional IRAs Fees and surrender charges are incurred upon conversion Continuing 25

26 26 Conclusion Tax-free qualified distributions with no required distributions during the Roth IRA owner s life make the Roth IRA a valuable investment vehicle. All taxpayers, regardless of income, can take advantage of this conversion opportunity. Many factors will influence each taxpayer s decision to convert or not to convert. Consider both quantitative and qualitative factors when making the decision.

27 Circular 230 Notice and Disclosure: Pursuant to IRS Circular 230, MetLife is providing you with the following notification: The information contained in this document is not intended to and cannot be used by anyone to avoid IRS penalties. This document supports the promotion and marketing of financial products. Clients should seek advice based on their particular circumstances from an independent tax advisor. MetLife, its agents, and representatives may not give legal or tax advice. Any discussion of taxes herein or related to this document is for general information purposes only and does not purport to be complete or cover every situation. Tax law is subject to interpretation and legislative change. Tax results and the appropriateness of any product for any specific taxpayer may vary depending on the facts and circumstances. You should consult with and rely on your own independent legal and tax advisers regarding your particular set of facts and circumstances. Continuing 27

28 28 Thank You Thank You Metropolitan Life Insurance Company (MLIC), 200 Park Avenue, New York, NY Securities products are offered through MetLife Securities Inc (MSI), (member FINRA/SIPC) Avenue of the Americas, New York, NY MLIC and MSI are MetLife companies MetLife, Inc. PEANUTS 2012 Peanuts World Wide

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