The Great Roth Ira Conversion Farce
It seems I cannot pick up a financial publication these days without reading a story about the special 2010 exemption that lets Ira owners convert to Roth Iras regardless of their wage level. In the past to convert an Ira to a Roth Ira, you needed to have an adjusted gross wage of less than 0,000 for married filing joint taxpayers.
The Great Roth Ira Conversion Farce
Even our clients have been swept up in this government farce. Let me tell you why I think this is just an additional one government money grab.
1. Tax Rates Are Likely To Go Up In 2011 And 2012
The special 2010 exemption allows Ira holders to convert to a Roth Ira in 2010 and then spread their taxes payments evenly into 2011 and 2012. Although this sounds good on the surface, its likely rates will he much higher in 2011 and 2012 as the administration allows the Bush tax cuts to expire and weaves in a new series of stealth taxes into the tax code. So will you positively perceive any savings in the end versus waiting?
2. Accelerating Roth Conversion Taxes Payments into 2010
So you say ok, I will accelerate my tax payments and make them in the year of conversion (2010). That may sound like a smart move, but this conversion wage could push you into a new, higher rate tax bracket. This obviously would not solve anything.
3. Market Declines & Global Meltdowns
Here is an additional one scenario, let's say the Market declines post your conversion. Not only will you have paid tax on a greater asset value than necessary, you now significantly less in the way of investible assets. I know there are methods of reversing the conversion, but this seems like a pain to me. The real issue for me is one of maintaining my net worth.
It's not enough it was ravaged by the 2007-2008 bear market, by declining income, and lower property values, but now you want me to pay tax to an over-arching government and supplementary reduce my net worth. No way!
4. Congress Changes The Rules
Don't say you never thought about this? Let's say you do your conversion and then Congress decides they need more wage and they must tax all Iras. This is entirely possible and in fact has already been mentioned by Nancy Pelosi. How can they do this when you have already paid a tax on these assets? Simple, they tax the assets as they are removed from the Ira, but allow you deduct the taxes you already paid as an itemized deduction. Never mind that this may not benefit you at this point in time. This is essentially how the wage in Respect of a Decedent (Ird) tax works in the estate tax code right now.
5. Government Instability
We continue to hear story after story about the destruction to our U.S. Dollar being done by our countries excess deficit spending. What happens if at some point there is a real devaluation of our dollar and prices spiral higher? I can tell you when the purchasing power of your dollar is now half of what it used to be, you will need more dollars. It is not beyond the realm of reason that you may need to invade Ira funds in a crunch. If you have already paid Uncle Sam you will have fewer dollars to invade. I know a tax would be due, but I am talking survival here in the event of an additional one global meltdown.
6. Never Pay Until You Must
This is my rule in life. Never pay until you must. In business you hold onto your payables as long as possible and you effort to accelerate you receivable collections. As an individual, you do the same thing. Just as a normal rule, I want to hold onto this cash as long as possible before I hand it to Big Brother.
Who among us knows the future? I for one would rather have more net worth than less.
7. You Will Retire Some Day
Whether you want to admit it or not, you will retire some day. At that time, no matter either tax rates are higher or lower, you will likely earn a lot less money. This is the time you generally reduce your expenses and draw anything you need to plug the cash flow gap from savings. I can tell you your efficient tax rate will probably drop. So even if you defer and tax rates are higher, there is still a good opportunity you will pay less tax dollars in seclusion than today when you are probably still earning wages at your maximum earning capacity.
8. Estate Taxes May Be Due
So what! You will be gone and the best estate plan in the world has you dying broke. Just tell me when you will pass and I will help you die broke too.
If you do have some remaining assets in your Ira, this will be included in your estate and you may owe estate tax. As I mentioned earlier though, your kids will get an itemized deduction for the estate taxes paid by the estate on the Ira. They will owe tax on any distributions from the Iras, but their tax brackets may be lower anyways. It has become harder and harder to earn the same living our parents achieved.
In conclusion, I do perceive there could be some benefits in converting to a Roth Ira, especially for the ultra wealthy. However, I believe for the mean Joe, like you and I, the unknowns far outweigh the benefit of converting in 2010.
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