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Thanks to a change in the new tax law enacted in May—the Tax Increase Prevention and Reconciliation Act (TIPRA)—Roth IRAs (individual retirement accounts) are expected to open up to some high-income individuals who have been closed out before.
Background: If you earn compensation during the year, you may contribute up to $4,000 to a Roth IRA (less any regular IRA contributions) for 2006. An extra $1,000 contribution is allowed if you are age 50 or older. There is no current income tax on the buildup of earnings within the Roth IRA.
However, you cannot take advantage of a Roth IRA if your modified adjusted gross income (AGI) exceeds a certain level. The maximum allowable contribution for joint filers is phased out for a modified AGI between $150,000 and $160,000 ($95,000 and $110,000 for single filers). Furthermore, pre-age 59½ withdrawals (other than qualified distributions) are subject to the 10% tax penalty.
For this purpose, a qualified distribution is a distribution from a Roth IRA in existence at least five years that is made
*After age 59½,
*Upon death or disability, or
*To pay for first-time home-buyer expenses (up to a lifetime limit of $10,000).
If distributions do not meet these requirements (i.e., they are nonqualified), the funds are treated as being withdrawn as follows: contributions first, any amount converted from a regular IRA second and earnings third.
Fortunately, you can choose to “convert” a traditional IRA to a Roth IRA to secure the future benefits of tax-free distributions. (Of course, you must pay the resulting tax on the conversion.) However, the tax law limits this option to individuals who have an AGI of $100,000 or less.
New law impact: Effective for the 2010 tax year, TIPRA removes the $100,000 cap for Roth IRA conversions. For conversions taking place in 2010, you may elect to spread the resulting tax liability ratably over the following two years. In the meantime, you might decide to build up your traditional IRA in anticipation of the time you'll be able to convert it.
To be sure, there are other factors to consider as part of a Roth IRA conversion. Consult with your professional advisers as to whether this move makes sense for you.
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