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If my wife and I file taxes jointly and exceed the adjusted gross income limitations for contributing to a Roth IRA, and both have an employer sponsored plan, can my wife and I still:

Contribute $4000 annually to a traditional IRA each, NOT tax deductible.

Then roll over the entire traditional IRA to a Roth IRA in 2010, free of any tax expense.

I did not think of this strategy before, but it was suggested by the newsletter sent out by Vanguard this quarter for those who are not eligible to contribute to the Roth. Sounds like a savvy tax-free savings vehicle for those ineligible for the Roth currently.

Thanks for your advice.
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If my wife and I file taxes jointly and exceed the adjusted gross income limitations for contributing to a Roth IRA, and both have an employer sponsored plan, can my wife and I still:

Contribute $4000 annually to a traditional IRA each, NOT tax deductible.

Then roll over the entire traditional IRA to a Roth IRA in 2010, free of any tax expense.

I did not think of this strategy before, but it was suggested by the newsletter sent out by Vanguard this quarter for those who are not eligible to contribute to the Roth. Sounds like a savvy tax-free savings vehicle for those ineligible for the Roth currently.

Thanks for your advice.


1. Are you maxing out 401k's or other retirement devices? That's your first choice.

2. Do you estimate that you will be paying more, less or the same tax in retirement? Any answer but less and there again is no advantage.

3. You are aware that there are no immediate income tax benefits for doing this, and you need to keep careful records of which money in your IRA has already been taxed. You also MUST figure this sum into your IRA withdrawls -- there is no choosing taxed vs tax-deferred. In addition, I wouldn't bet the egg money that if taxes DO increase, as predicted, that HUGE Roth IRA loophole will still be there for us. Even if it is do you have the cash to pay taxes on your past IRA's plus this?

4. Were it me, unless I'd not been saving regularly in tax-deferred accounts, I wouldn't do it. I'd find a nice Vanguard tax-advantaged mutual fund and put the money there. You may have to pay some taxes on cap gains and distributions, but you'll also be able to use it without incurring taxes when you retire.

My opinion,

Hockeypop

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Contribute $4000 annually to a traditional IRA each, NOT tax deductible.

Then roll over the entire traditional IRA to a Roth IRA in 2010, free of any tax expense.

I did not think of this strategy before, but it was suggested by the newsletter sent out by Vanguard this quarter for those who are not eligible to contribute to the Roth. Sounds like a savvy tax-free savings vehicle for those ineligible for the Roth currently.


Yes it is possible, if the next 2 congresses and the new president don't change the law between now and then.

However, the pitfall of this strategy that many of the sound-bites miss is that if you have other traditional IRAs (including rollover IRAs), when you convert, your already taxed contributions are converted as a percentage of your total IRA balance.

For instance, say you have a rollover IRA that in 2010 is worth $185k, you have made $10k in non-deductible contributions to a traditional IRA and you have $5k in gains in the traditional IRA, for a total of $200k in IRAs. When you convert, the percentage of money that has already been taxed is $10k/($185k + $10k + $5k) or 5%, so you will be taxed on 95% of the conversion.

You will only convert over the entire non-deductible contribution amount if you convert all of your IRAs.

AJ
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You can do it, but there are two major potential trip ups:

1) The tax law may change before 2010.

2) Do you have any other Traditional IRA? Say, from a rollover form a 401k? If so, this becomes a not-so-good to poor idea.

The reason is that all IRAs are treated as one by the IRS. You may have been thinking that you'd make $14K of contributions over the next 3 years, maybe be worth $20K by 2010 and then you'd convert, paying tax on $6K of earnings.

However, lets say you have a rollover IRA from an old 401K worth $100K. Then the IRS looks at is as you having one IRA with $14K of basis (non-dedudctible contributions), and the other $6K+$100K (deductible contributions and earnings) are taxable.

So if you move $20K over, only $14K/$120K or 11.67% is tax free. Rather than the $14K/$20K = 70% that you were expecting.
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Nikonian: "If my wife and I file taxes jointly and exceed the adjusted gross income limitations for contributing to a Roth IRA, and both have an employer sponsored plan, can my wife and I still:

Contribute $4000 annually to a traditional IRA each, NOT tax deductible.

Then roll over the entire traditional IRA to a Roth IRA in 2010, free of any tax expense."


Two of the other posters have already covered this, but I wanted to emphasize more than either did, that it is not necessarily entirely free of tax expense. To the extent of the gains in teh IRA account, you will owe income taxes for the year of conversion.

And the preceding paragraph ignores the whole, what if you have other IRAs and need to prorate not taxed amount and that Congress chould change the law.

Regards, JAFO

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I do not have previously deducted contributions to a traditional IRA.

I had previously contributed a deductible $4000 into a SEP IRA several years ago that I qualified for for one year only (Is that part of the total IRA balance?).

The rest of my tax-shelted savings are in Roth IRAs, 403(b), and 401(k) (I assume these are not part of the total IRA balance).

We already contribute the maximum to our 401(k)s.

With regard to our expected income taxes, our tax rate is high now, and I expect it will be equally high in retirement.

One of the attraction for me, at least in theory, was to diversify my tax-deferred savings, because if all holds, the contributions and growth in the roth IRA will not be taxed ever again, whereas withdrawals from other retirement savings would be taxed at a high income tax rate (which might be exorbitantly high many years from now); long-term capital gains in taxable accounts years down the line might also be taxed at a significant rate. I am seeing how this added strategy would be a headache of paperwork (can I keep documentation for this for 30-50 years?), and very little benefit might result depending on the law for rolling over to a Roth IRA in 2010, much less the laws regarding tax free withdrawals from a Roth IRA 30+ years from now. Furthermore, the portion of my savings in the Roth IRA might be dwarfed by my other taxable and tax-deferred accounts that adding this strategy is inconsequential in the long run. I am seeing perhaps it is not for me, but for others, maybe.



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I had previously contributed a deductible $4000 into a SEP IRA several years ago that I qualified for for one year only (Is that part of the total IRA balance?).

Yes, it is part of the IRA balance - see Form 8606 ( http://www.irs.gov/pub/irs-pdf/f8606.pdf ) and the instructions for Form 8606 ( http://www.irs.gov/pub/irs-pdf/i8606.pdf ) for the conversion math and instructions. If you want to convert the entire non-deductible contribution, you will have to convert the entire SEP IRA as well as the non-deductible IRA. You will pay taxes at ordinary income rates on the entire amount of the SEP IRA and any gains in the non-deductible IRA.

The rest of my tax-shelted savings are in Roth IRAs, 403(b), and 401(k) (I assume these are not part of the total IRA balance).

As long as the 401(k) and 403(b) money is not rolled into an IRA between now and 2010, it won't affect a conversion. If you change jobs between now and 2010, you need to leave the money in the current accounts or roll it into an account at your new employer. If you roll it into a rollover IRA, you will run into the issue of having to convert the rollover IRA, too.

If you want to continue converting future non-deductible contributions after 2010 without converting this money, you will still need to keep all this money in employer accounts, rather than rolling it into an IRA.

I am seeing how this added strategy would be a headache of paperwork (can I keep documentation for this for 30-50 years?)

Once the money has been rolled into a Roth account, there isn't any additional paperwork that you would need to keep, beyond your tax returns showing that the conversion was included in the taxes figured for the year you converted. The Roth designation for the account is what will be needed.

very little benefit might result depending on the law for rolling over to a Roth IRA in 2010, much less the laws regarding tax free withdrawals from a Roth IRA 30+ years from now

There is always a risk of changes when Congress is involved, so you may not want to contribute to a non-deductible IRA until, say, your 2009 contribution in Jan 2010, when you can immediately convert. As far as the tax free withdrawals from a Roth - sure, that could change, but it is more likely that they would just stop people from contributing or converting to a Roth, rather than taxing Roth withdrawals. Of course, there is always the possibility of a consumption tax......

Furthermore, the portion of my savings in the Roth IRA might be dwarfed by my other taxable and tax-deferred accounts that adding this strategy is inconsequential in the long run. I am seeing perhaps it is not for me, but for others, maybe.

You could convert some portion of your 401(k)/403(b) accounts to Roth accounts when changing jobs. This would help you keep the tax-free vs. the tax-deferred vs. taxable accounts more in balance. Of course, it would also increase your current tax bill the year(s) you did the conversion(s).

All in all, would the future be better for you if you had a variety of tax treatments to choose from, and could tailor your withdrawals to tweak your tax bill? That is why it may be a good idea to convert some of your tax-deferred accounts, if the opportunity is available.

AJ
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In addition to AJ, Delta's (plus others) input, there are two other things you should consider. The big one is: Will your income level allow you to convert the IRA to a Roth in 2010? IIRC there are income limits for conversions.

One of the attraction for me, at least in theory, was to diversify my tax-deferred savings, because if all holds, the contributions and growth in the roth IRA will not be taxed ever again,...

Yes, a good strategy. Exempting all gains from taxes is quite an advantage, particularly given a long investing timeframe.

I am seeing how this added strategy would be a headache of paperwork (can I keep documentation for this for 30-50 years?),...

When you make non-deductible contributions to a TIRA, you file Form 8606 with your tax return each year. You will only have to do this until the year you convert to the Roth. Once you have the Roth there should be no 'extra' paperwork. Although I would personally hold onto a copy of all my tax returns 'forever', just in case.

Furthermore, the portion of my savings in the Roth IRA might be dwarfed by my other taxable and tax-deferred accounts that adding this strategy is inconsequential in the long run.

This might be true, but IMHO, it's still an advantage to have the option during retirement of choosing to withdraw dollars from accounts that are taxed at different rates. For example, if you wanted to purchase a new car with cash, it might be nice to use dollars from a Roth, so as to avoid getting bumped into the next higher tax bracket during that one year.

I am seeing perhaps it is not for me, but for others, maybe.

I contribute non-deductible to a TIRA because during retirement my Fed ordinary tax rate will/should be the same as my current Fed LTCG rate. In addition, NYS and NYC do not have special rates for capital gains, so I'm paying taxes on those taxable gains as if they were ordinary income at the local level.

With the TIRA, I don't have to worry about the tax effects of trading.

2old


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Will your income level allow you to convert the IRA to a Roth in 2010? IIRC there are income limits for conversions.

Under current tax law, the income restriction on Roth conversions is removed starting in 2010.

Of course, we have two more congressional elections and one presidential between now and then.

--Peter
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In addition to AJ, Delta's (plus others) input, there are two other things you should consider. The big one is: Will your income level allow you to convert the IRA to a Roth in 2010? IIRC there are income limits for conversions.

The current law lifts the income restrictions on Roth conversions starting in 2010, which is why there is so much talk about making non-deductible contributions to a traditional IRA if you are over the limit for making contributions to a Roth.
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I appreciate all of the advice and discussion.

I'm still undecided about proceeding with a nondeductible contribution to a traditional IRA for 2006 and will have to commit one way or the other in the next few weeks. If the law is changed, this approach would likely be a losing proposition for me, because I would be introducing income taxes on the withdrawals of all of the gains (as opposed to the long term capital gains tax if I keep these investable funds in a taxable account) if I can never convert it to a Roth IRA.

A lot of the uncertainty regarding the law would probably be reduced if I waited until April 2009 from which time, I could put in the contribution for 2008 and beyond. I would lose the opportunity for 2006 and 2007, however.

My understanding is that the opportunity to roll over an IRA into a Roth IRA in 2010 without any income limitation would be a one-time opportunity only, which is why I was getting enthusiastic about taking advantage as soon as possible with contributions to a traditional IRA; is that in fact the case?
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With the TIRA, I don't have to worry about the tax effects of trading.

There is a plus and minus to that. You don't pay tax on the gains but you can't write off the losses.

IF
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>> There is a plus and minus to that. You don't pay tax on the gains but you can't write off the losses. <<

Actually, it's worse than that. Long term capital gains are taxed as ordinary income rather than capped at long-term rates (currently 15% or less) when withdrawn. And, as you said, you can't write off the losses.

Which is why, other than the possibility of unrestricted Roth conversion in the future, I think a taxable account (where almost all the gains come from dividends and long-term cap gains under current tax law) is superior to a non-deductible TIRA.

#29
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My understanding is that the opportunity to roll over an IRA into a Roth IRA in 2010 without any income limitation would be a one-time opportunity only, which is why I was getting enthusiastic about taking advantage as soon as possible with contributions to a traditional IRA; is that in fact the case?

The only 'one-time opportunity' associated with the lifting of the income requirements for conversions in 2010 is that you will be given the opportunity to pay the taxes over 2 years, for conversions made in 2010 only. For 2011 and after, the taxes will be due and payable for the tax year the conversion was made. Until Congress decides to change the law again, the lifting of the income limits for conversions will be 'permanent'.

AJ
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Until Congress decides to change the law again, the lifting of the income limits for conversions will be 'permanent'.

I wonder if the financial industry helped write the law. Instead of just lifting the income limits on Roth IRA contributions, Congress put in place a two step process - contribute to TIRA and then convert to RIRA for people over the income limits. I can see my broker putting in a fee for paperwork to do the conversions.

IF
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Of course, we have two more congressional elections and one presidential between now and then.
----------------
I doubt that congress will put this cash cow back in the barn now or after 2010. All of that taxable income it will generate is too much to give up. Think about it.

MZ4
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I doubt that congress will put this cash cow back in the barn now or after 2010. All of that taxable income it will generate is too much to give up. Think about it.

I don't disagree with you. But then again, I'm loathe to count on Congress to do the logical thing.

--Peter
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I'm new here to TMF, and I've paid down my significant debts that in 2007, I decided to start my 401(k) with my company. This is the start of my 3rd year here. Wish I would've started when I got hired but oh well. Can't turn back the hands of time.

Based on my AGI (which is high), I am eligible for a Roth IRA contribution but partial. So that means that the balance (Roth + balance = $4k), will go to a Traditional. I'm at 10% contribution to my company 401k with them matching at 4%. I can go as high as 12% because my high AGI prevents me from matching at 20% for other employees.

In 2007 tax year I can tribute a little more to my Roth as they've increased the partial contribution salary max limit to $114k as opposed to $110k now.

My question is, for retirement purposes (I'm only 37yrs old), is it best to utilize, maximize all 3 instruments: 401k, Roth IRA, Traditional IRA? Or just 401k and Roth? It'll be a while before I break the AGI for a Roth.

Gio
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Based on my AGI (which is high), I am eligible for a Roth IRA contribution but partial. So that means that the balance (Roth + balance = $4k), will go to a Traditional. I'm at 10% contribution to my company 401k with them matching at 4%. I can go as high as 12% because my high AGI prevents me from matching at 20% for other employees.

First of all, the Roth contribution is based on Modified AGI, or MAGI. (See IRS Publication 590 for details on calculating MAGI http://www.irs.gov/pub/irs-pdf/p590.pdf ) The MAGI accounts for, among other things, your 401(k) contribution, so any additional money you add to your 401(k) will allow you a higher Roth contribution when you are in the partial contribution income range.

My question is, for retirement purposes (I'm only 37yrs old), is it best to utilize, maximize all 3 instruments: 401k, Roth IRA, Traditional IRA? Or just 401k and Roth? It'll be a while before I break the AGI for a Roth.

Definitely your 401(k) contribution to your 12% limit, since the extra 2% you put in will allow you to put more into the Roth, as well as decreasing your current taxes. Put as much as you can into the Roth. For the non-deductible IRA, this thread has a lot of the pros and cons, and you need to decide for yourself what is the best way to invest your money.

AJ
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First of all, the Roth contribution is based on Modified AGI, or MAGI. (See IRS Publication 590 for details on calculating MAGI http://www.irs.gov/pub/irs-pdf/p590.pdf ) The MAGI accounts for, among other things, your 401(k) contribution, so any additional money you add to your 401(k) will allow you a higher Roth contribution when you are in the partial contribution income range.


Yes I did look at the MAGI and that's assuming I contributed to any retirement account in 2006 (which I did not). I started in 2007. So only an AGI applies to me. So you are correct in your note as I did read the IRS 590 Publication.

Yes I think 12% I'll adjust to soon. I just upped it to 10% so for now that's fine.

I'll re-read the thread to read the pro's and con's of a non-deductible IRA (because I'm way over the limit for AGI for deductible contributions).

Thanks for the advice AJ.

Gio

P.S. - How do you get my comments in "italics"? I can't seem to do it in the browser on the boards?
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How do you get my comments in "italics"? I can't seem to do it in the browser on the boards?

For italics type <i> before what you want to italicize and type </i> after.

For bold type <b> before what you want to bold and type </b> after.

And of course, you can combine the two into <i><b>Bold Italics</b></i>.

And remember, the "preview reply" button is your friend to ensure that the formatting works.

AJ
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>Subject: Re: roth ira strategy for those who exceed max A
Author: aj485 | Date: 3/1/07 11:04 PM | Number: 56081


And remember, the "preview reply" button is your friend to ensure that the formatting works.


Ah hah!! The reply window accepts HTML! Got it AJ thanks.

Gio
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For the non-deductible IRA, this thread has a lot of the pros and cons, and you need to decide for yourself what is the best way to invest your money.

AJ


So basically (after reading this thread), I've come up with as follows:

regardless of where [T-IRA, or MMA] you're contributing, it's "after-tax" (i.e. out of your net pay).

So you either pay yearly capital gains tax on any earnings you make on your investment tool (i.e. MMA, CD, Mutual Fund, Stocks, Bonds) now in the present at current local income tax rates.....

or

pay later when you withdraw from your T-IRA and get taxed at a MUCH, MUCH HIGHER tax rate.

Now also you can contribute more to an MMA thus growing your money and your returns (but also have losses), where as a T-IRA is limited to $4k per year.

Just my thoughts.

Gio
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regardless of where [T-IRA, or MMA] you're contributing, it's "after-tax" (i.e. out of your net pay).

So you either pay yearly capital gains tax on any earnings you make on your investment tool (i.e. MMA, CD, Mutual Fund, Stocks, Bonds) now in the present at current local income tax rates.....



Not quite correct. Let's try it this way

Since the IRA is a retirement vehicle, the taxes on earnings or capital gains are deferred while the contributions are in the IRA. Those earnings and gains can continue growing and compounding until you attempt to withdraw them from the IRA. If the account grew from 4k -> 100K at retirement, you pay no taxes on the 96K gain. At that time, all withdrawals will be treated as income and you will pay taxes at the income tax rate.

vs.

A taxable account. If you hold a Mutual Fund or Stock-
For more than a year, the tax rate is 15% on the Capital Gain,
For less than a year, at least your income tax rate on Capital Gain. Most dividends are also taxed at 15%. So the idea here is try and hold onto stocks or mutual funds with capital gains, for at least a year. The Capital Gains will be taxed at 15%, most dividends paid will also be taxed at 15%. If you do have a LT Capital loss, you can use it to offset LT Capital Gains first, then ST Capital Gains, and if you still have Capital losses, it can be used to offset upto $3000 in income. With no income contribution limitations, you may see how this type of account can grow, even though you have a potential annual tax.


Hope that helps,
Hohum
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If the account grew from 4k -> 100K at retirement, you pay no taxes on the 96K gain.

This is referring to a R-IRA, not a T-IRA correct?


At that time, all withdrawals will be treated as income and you will pay taxes at the income tax rate.

As if I were still being employed. Makes sense


For more than a year, the tax rate is 15% on the Capital Gain,
For less than a year, at least your income tax rate on Capital Gain.


So based on my tax bracket, I'm currently being taxed at 28.5%. Is this my Capital Gain tax for less than a year?


If you do have a LT Capital loss, you can use it to offset LT Capital Gains first, then ST Capital Gains, and if you still have Capital losses, it can be used to offset upto $3000 in income. With no income contribution limitations, you may see how this type of account can grow, even though you have a potential annual tax.

When you say offset are you referring to deducting it on your taxes?

Gio
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...regardless of where [T-IRA, or MMA] you're contributing, it's "after-tax" (i.e. out of your net pay).

One thing to note is that there are really two different situations with a TIRA: the situation where you make a deductible contribution, and the situation where you make a non-deductible contribution. Only in the latter case are the funds "coming out of your net pay." In the case of deductible contributions, you get a tax deduction, so it's as if you never really made the money at all, You didn't receive it as net income. The funds went into your TIRA instead of into your pocket (bank account or whatever).

So you either pay yearly capital gains tax on any earnings you make on your investment tool (i.e. MMA, CD, Mutual Fund, Stocks, Bonds) now in the present at current local income tax rates.....

or

pay later when you withdraw from your T-IRA and get taxed at a MUCH, MUCH HIGHER tax rate.


In your first scenario, there are really two possibilities. If you sell some stock or receive some dividends (or otherwise get money into your pocket or get cash added to you account), you'll owe tax. (But if all your gain is what is called "unrealized," you won't owe anything because you haven't received anything (in your pocket, bank account or whatever).

In the second scenario you mention, I think the part you put in capital letters is way over-emphasized. When you do receive money ("take a distribution") from your TIRA in retirement (and the funds actually go into your pocket, bank account or whatever), you'll owe income tax at the "ordinary income" level. First, note in passing that this rate, and indeed any tax rate can change between now and the time you retire. For all anyone knows the whole income tax thing may be abolished by then and there'll be instead some "value-added tax" that everyone must pay. (Admittedly, the complete end of income tax is highly unrealistic, but it's also unrealistic to assume that tax laws now will be exactly the same as the tax laws when you retire.) Another, probably more important factor to consider is that your income (from the TIRA, any pension, etc.) is likely to be smaller than what your income is now. This alone might have you in a lower tax bracket. Also, be aware that if your current tax bracket is 28%, this doesn't mean that all of the dollars you make are taxed at that level, but only that the "last dollars" you make are taxed at that level. Other "earlier" dollars are taxed at lower levels. See http://www.moneychimp.com/features/tax_brackets.htm

But the most fundamental thing here is the distinction between taxable events and non-taxable events. Receiving money (e.g., receiving cash in your pocket or cash in your taxable account, maybe because dividends have been paid) is a taxable event. Just holding a stock for a long time and watching it appreciate in value year after year is not a taxable event (until you sell it and receive cash!). And whatever happens within a retirement vehicle such as a RIRA or TIRA is not a taxable event. Here, in the retirement account, there can be buying and selling and dividends received. None of this is a taxable event.

Hope this helps!

--SirTas
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If the account grew from 4k -> 100K at retirement, you pay no taxes on the 96K gain.

This is referring to a R-IRA, not a T-IRA correct?

Actually, it's true for either type of IRA, the difference between the two is described below (the Roth withdrawals will not be taxed)

At that time, all withdrawals will be treated as income and you will pay taxes at the income tax rate.

As if I were still being employed. Makes sense

Correct!


For more than a year, the tax rate is 15% on the Capital Gain,
For less than a year, at least your income tax rate on Capital Gain.


So based on my tax bracket, I'm currently being taxed at 28.5%. Is this my Capital Gain tax for less than a year?

If you have Capital gains for the year, Yes.


If you do have a LT Capital loss, you can use it to offset LT Capital Gains first, then ST Capital Gains, and if you still have Capital losses, it can be used to offset upto $3000 in income. With no income contribution limitations, you may see how this type of account can grow, even though you have a potential annual tax.

When you say offset are you referring to deducting it on your taxes?

By offset income, I mean you lower your taxable income, and thus lower your taxes. At your 28% marginal tax rate, you would reduce the taxes you have to pay by ~$840 if you had $3000 in Capital losses. The process works as follows. Schedule D helps you separate ST and LT, but it's final entry is the amount you transfer over to Form 1040 line 13. If you have a loss, that number is negative, and subtracts from your income. If your taxable income was 100K before this entry, it becomes 97K after the Capital loss, and you continue down the Tax form.


Remember, the intent is to lower your Taxable Income but at the same time taking advantage of, as many retirement funding vehicles as possible.


Hohum
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If my wife and I file taxes jointly and exceed the adjusted gross income limitations for contributing to a Roth IRA, and both have an employer sponsored plan, can my wife and I still:

Contribute $4000 annually to a traditional IRA each, NOT tax deductible.

Then roll over the entire traditional IRA to a Roth IRA in 2010, free of any tax expense.


Good idea. You can also save for retirement in regular accounts. More pots will give you more flexibility to manage your taxes when you retire.

Vickifool
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Remember, the intent is to lower your Taxable Income but at the same time taking advantage of, as many retirement funding vehicles as possible.

Sorry for taking long to reply. So many great message boards, I lose track. Yes I am now realizing this...to lower my taxable income, thus I raised my contributions to my 401(k) to 10%. Will up to to 12% later on (and thus reduce my income). It's funny how this is really all a game, but one where you win if you read the rules of Uncle Sam. :)

Gio
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