IRAs

Planning for Retirement? Don’t Overlook an IRA

Nearly 50 million American households own an individual retirement account (IRA).1 While the IRA has evolved into a popular retirement savings vehicle — with more than $4 trillion in total assets — it is often an overlooked component of most investors’ financial planning strategies. In fact, over the past two years, only 15% of households that were eligible to contribute to an IRA did so. 1
Have you forgotten your IRA? Should an IRA be part of your overall investment plan?

Appealing IRA Benefits
Whether you are an active account holder or just considering opening an IRA, there are many appealing benefits to this retirement savings vehicle.

  •  Tax deferral: Traditional IRAs allow your investment earnings to grow tax deferred until withdrawn, typically at retirement. For 2011, the maximum contribution is $5,000, but for those aged 50 and over, the limit is $6,000. The limits are the same for a Roth IRA, but to be eligible to fully contribute, an investor must have a 2011 modified adjusted gross income of less than $107,000 for singles and $169,000 for married couples filing jointly. Singles earning up to $122,000 and couples earning up to $179,000 are eligible for partial contributions.
  • Deductibility: If you are a single taxpayer who doesn’t participate in an employer-sponsored plan and you earn less than $56,000 in 2011, you can deduct your contributions to a traditional IRA off your income taxes. Couples earning under $90,000 are also eligible for a full deduction. Partial deduction limits also apply, up to $66,000 for singles and $110,000 for couples. Note that Roth IRA contributions are not deductible.
  • Investment flexibility: IRAs typically give investors access to a wider range of investment options than workplace-sponsored plans such as a 401(k). Depending on the financial institution you use to open your account, you can invest in a broad array of mutual funds, ETFs, individual stocks and bonds, CDs, annuities, even commodities and real estate.
  •  Convertibility: Traditional IRA holders can convert to a Roth IRA to enjoy some of the additional benefits listed below. But before you decide make a switch, be sure to investigate the tax consequences of such a move.

Additional Roth IRA Benefits

  • Qualified tax-free withdrawals: Since Roth IRAs are funded with after-tax dollars, your withdrawals are tax free, as long as you have held the account for at least five years and are over age 59 1/2.
  • No RMDs: Unlike traditional IRAs, Roth IRAs are not subject to required minimum distributions (RMDs) once the account holder reaches age 70 1/2.

1Source: Investment Company Institute, The Role of IRAs in U.S. Households’ Saving for Retirement, December 2010 (http://www.ici.org/pdf/fm-v19n8.pdf).
IRA account owners should consider the tax ramifications and other restrictions in regards to executing a Conversion from a Traditional IRA to a Roth IRA. The converted amount is generally subject to current year income taxation.Member FINRA SIPC.

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Roth IRAs — Powerful Planning Tools for All Generations

If the current income restrictions associated with Roth IRAs prevent you from using one for your own planning purposes, consider taking steps to ensure that your children or other younger family members establish and fund a Roth IRA of their own. Roth IRAs offer ample tax benefits for retirement — particularly for younger investors. Yet perhaps the more long lasting benefit of the Roth IRA can be realized when it is used as a wealth transfer mechanism.

Roth IRAs for Minors
One of the main contributors to successful retirement planning is time — the more of it you have, the better the result. For this reason alone, setting up a Roth IRA for a child can be one of your best long-term planning strategies. When investment compounding has upwards of 50 years to run its course, even a relatively modest savings rate can produce substantial wealth.

There is no minimum age requirement for opening a Roth IRA, and many IRA providers will accept accounts for minors. In most cases, the only real issue is whether the child has taxable earned income. Fortunately there is no requirement that the same “earned income” is the money that funds the IRA. If your child earned income from a summer or part-time job, but then spent it, there is no restriction on using money provided by parents to establish and fund the IRA account.

You can contribute up to $5,000 to a Roth IRA in 2009 as long as your child earned at least that much. However, contributions cannot exceed your child’s income for the year. Contributions to a Roth IRA are not tax deductible, but earnings are never taxed provided your child meets the distribution

requirements — chief among them waiting until at least 59 ½ before tapping the account.1 While he or she probably cannot imagine ever being that old, there are other ways to put Roth IRA savings to good use prior to age 59 ½, such as the purchase of a first home.

Wealth Transfer with a Roth IRA

As effective a retirement planning tool as a Roth IRA can be, its greatest strength may be its potential as a wealth transfer instrument. Unlike traditional IRAs, minimum distributions are not required from Roth IRAs once the owner reaches age 70 ½. Therefore, a child theoretically could have held a Roth IRA his or her entire life never having tapped into it and then pass it on to his or her beneficiaries upon death. At this point the account would fall under the same minimum withdrawal rules that pertain to traditional IRAs. However, beneficiaries may choose to string out those withdrawals over many years, continuing to earn tax-free income on the remaining account balance.

The hidden value of the Roth IRA is its exceptional growth potential. If heirs decide to spend or withdraw Roth IRA assets immediately upon inheritance, the Roth’s strategic value as a wealth transfer tool is lost. If however, they choose to let the Roth IRA continue to grow and only withdraw what is required by law each year, the true power of the Roth IRA can be realized.

1Distributions from a Roth IRA may be tax free if you are at least 59 ½ years old and have owned the Roth IRA for at least five years; your withdrawal of up to $10,000 (lifetime limit) is applied to a first-time home purchase; or you die or become permanently disabled.

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Transferring Wealth with a Stretch IRA

Want a way to flex some retirement planning muscle? Then consider a “stretch” (inherited) IRA. Not only can this strategy preserve wealth for future generations, it also has the potential to keep assets growing in a tax-deferred account for years to come. Here’s the inside scoop, based on one hypothetical family situation.

One Scenario
Imagine that George has accumulated $50,000 in a traditional IRA. His wife, Amy, should be well cared for through a $500,000 life insurance policy, his work pension plan, as well as several pieces of real estate and investment accounts they have transferred to a trust. Although Amy is also the beneficiary of his IRA, he wonders if it might be better to leave the IRA to their 25-year-old son Robert.

George meets with his financial consultant and finds out that in 2002, the IRS finalized rules simplifying the process of taking required minimum distributions — that’s the minimum amount that you must withdraw each year from tax-deferred retirement accounts after you reach age 70 1/2. The new rules extend the IRS’s life expectancy table, reducing the amount that must be withdrawn each year and making it much easier to “stretch” IRA assets to future generations.

Weighing the Benefits
George discovers that a non-spousal beneficiary of an IRA can receive distributions based on his or her own life expectancy. That means if Robert is the beneficiary of the IRA, the distributions could be stretched out over his entire lifetime.

Alternatively, Bob could name both his wife and son as primary beneficiaries. If Amy decided she didn’t need the income from the IRA, she could then allow Robert to become sole beneficiary of the account. Yet another possibility: George could bequeath the IRA to his one-year-old granddaughter Heather, allowing her to take advantage of tax deferral by taking distributions over a potentially even longer period of time.

“This is complicated,” says George to his financial consultant. “We want to be sure we haven’t overlooked anything and that we’re making the best move for us and our family. At the same time, this appears to be a tremendous opportunity to pass on wealth to future generations.”

Have you determined how your retirement accounts fit into your overall estate plan? Consider discussing this topic with your financial advisor.

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