RCL Capital Management

A Certified Financial Advisor serving investors in greater Pittsburgh, Pennsylvania – Wexford, Cranberry, Marshall, Bradford Woods, Pine, Richland, McCandless, Ross – and beyond since 1997.

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IRA Contributions to the Max

It has always been a great idea to maximize the amount of money that you contribute to your IRA. However, there has been a recent change to income tax law that makes it even more beneficial for an investor to contribute to an IRA — and the sooner the better.

The Tax Increase Prevention and Reconciliation Act which was signed into law on May 17, 2006, allows an investor to convert their traditional IRAs to Roth IRAs beginning in 2010 without considering the current income and filing status regulations.  Currently many people are not eligible to convert their IRA to a Roth IRA because their income levels exceed IRS stipulated amounts.  Another benefit of the Act is that a person will not owe any income tax on the conversion in 2010 and will be able to spread the payment of that tax over two years payable in 2011 and 2012.  This provision essentially provides an interest free loan that can be used to fund a tax-free savings account.  Under current law, a person must pay the full amount of income tax on the value converted in the year of conversion. 

This law does not impact the income limitations for contributions to a Roth IRA.  Those limits will remain in place.  However, they can easily be sidestepped by making a nondeductible contribution to a traditional IRA (for which there are not any income limitations) and then doing a conversion to a Roth IRA in the same year.

The potential strategy is to maximize contributions to IRAs and company retirement plans, with the intention to covert these amounts to Roth IRAs in 2010, and the tax will not be paid until 2011 and 2012.  A person who plans to make such a conversion now has five years (2007 - 2011) to save the funds required to pay the income tax on the conversion. 

There are additional benefits of having a larger percentage of retirement assets within a Roth IRA.  A Roth IRA does not have required minimum distributions which allow the assets to grow tax-free forever.  Most experts expect income tax rates to rise in future years to cover unfunded obligations such as social security and Medicare.  As these rates continue to increase, the value of tax-free Roth IRAs will go through the roof.