Roth IRA

 

The Taxpayer Relief Act of 1997 created a new type of IRA called a Roth IRA named after Senator William V Roth Jr.  Senator Roth was Chairman of the Senate Finance Committee at that time.

Designed like the Traditional IRA for long term retirement savings the Roth has several different features.

  • Contributions to the Roth IRA are made with after-tax money and are never tax deductible.  Since contributions are made with after tax dollars, your distributions will be completely tax-free, provided you are at lest 59 1/2 and your account has been open at least 5 years.
  • Minimum distribution rules don't apply, You won"t have to withdraw money at age 70 1/2.  Your account can continue to grow.
  • Contributions can come out of the Roth IRA at any time.  Those contributions could be used for other goals including college planning.  This is a big advantage- you will be able to withdraw your Roth IRA contributions.

Eligibility 

There is no age limit to the Roth IRA.  You can contribute to the Roth IRA if you have earned income and, unlike the Traditional IRA after age 70 1/2. 

Your eligibility to contribute to the Roth IRA is also determined by your Adjusted Gross Income (AGI) and your tax filing status:

Here are the guidelines for 2007: 

Single Filer: AGI up to $99,000 to qualify for a full contribution; $99,000-$114,000 to be eligible for a partial contribution.

Joint Filer:  AGI up to $156,000 to qualify for a full contribution; $156,000-$166,000 to be eligible for a partial contribution.

Here are the guidelines for 2008: 

Modified AGI limit for Roth IRA contributions increased. For 2008, your Roth IRA contribution limit is reduced (phased out) in the following situations.

  • Your filing status is married filing jointly or qualifying widow(er) and your modified AGI is at least $159,000. You cannot make a Roth IRA contribution if your modified AGI is $169,000 or more.

  • Your filing status is single, head of household, or married filing separately and you did not live with your spouse at any time in 2008 and your modified AGI is at least $101,000. You cannot make a Roth IRA contribution if your modified AGI is $116,000 or more.

  • Your filing status is married filing separately, you lived with your spouse at any time during the year, and your modified AGI is more than -0-. You cannot make a Roth IRA contribution if your modified AGI is $10,000 or more.

Contribution LImits

Your maximum annual contribution for 2008 is $5,000 or 100% of compensation, whichever is less.

Individuals who are age 50 or older can contribute an additional $1,000 per year.  This is known as a Catch-Up contribution.

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Contribution Limits

Traditional IRA and Roth IRA

Tax Year Under Age 50 Above Age 50
2005$4,000$4,500
2006$4,000$5,000
2007$4,000$5,000
2008$5,000$6,000

Converting An IRA Into A Roth

 

Many people who have a Traditional or Rollover IRA may benefit by converting their accounts into a Roth IRA.   The term "conversion" means taking  a portion or all of your money from your existing IRA and moving these assets into a Roth IRA. 

Here's the advantage.

Distributions from the Roth will be tax-free at retirement while investors who take distributions from the Rollover IRA or a deductible IRA will eventually pay taxes.  Remember you'll be taxed at ordinary income tax rates on normal IRA distributions and you will be required to take money out at 70 1/2.  So, investors with a large portion of their retirement nest egg inside of the Roth would avoid taxes.  

Be aware, the conversion is a taxable event  and their are some restrictions.  Your modified adjusted gross income must be under $100k in the year of the conversion. 

The $100,000 limit, however, will disappear in 2010. At that point, anyone can convert a traditional IRA to a Roth -- regardless of their income.

Also, be aware if you have several IRA accounts (deductible or non-deductible), the IRS has a "pro-rata" rule that says you must add all the balances of each IRA.  Then divide the non-deductible contributions by the balance.  This gives you the percentage of any conversion that's tax-free.