Deciphering Roth IRAs

Ever since ROTH IRA’s were established in 1997, laws around them continue to confuse many investors. As year-end approaches, we are getting more questions from clients and their children regarding contribution and conversion laws, as well as distribution strategies. We decided to address these questions to help our clients make the most informed decisions. We are also available to provide counsel to our clients’ children.
What are ROTH IRAs? Unlike Traditional IRA’s, ROTH IRA contributions are funded with after-tax earnings. If you let your ROTH IRA grow for at least five years and reach the age of 59 ½ before withdrawals, under the current law, all withdrawals are tax-free for the rest of your life.
Who can contribute to a ROTH IRA? ROTH IRA’s are subject to the same limit as their traditional counterparts. In 2019, the maximum contribution made to an IRA or a ROTH IRA is $6,000, with a $1,000 catch up contribution if you are 50 or older. It is important to note that contributions to any of the above investment vehicles can only be made from earned income. Pensions and passive income, such as rental income, do not qualify.
Are there salary limits to ROTH IRA contributions? You can only make full ROTH IRA contributions if your annual salary is less than $122,000 as a single filer. Between $122,000 and 137,000, you can contribute by following a phase-out table. The same rules apply to married couples filing jointly, earning a salary range between $193,000 to $203,000.
What if I earn more than that? There is some good news. You can still contribute using a back-door contribution method. This involves setting up a traditional IRA, making an after-tax contribution to that IRA, and then converting the contribution to a ROTH IRA. This is a more complex strategy that has some limitations. Please call us if you or your children are interested in exploring that option.
What is a ROTH 401K? Some employers offer ROTH 401K’s alongside a traditional 401K. The same combined maximum contribution limits apply to those investment vehicles. Unlike ROTH IRA’s, there are no salary limitations. The choice boils down to paying taxes now or in retirement. If you are concerned about higher tax rates in retirement and are in a reasonably low tax bracket today, contributing some of your earned income to a ROTH 401K may make sense. We can help your family evaluate their options.
Should I convert my entire existing IRA to a ROTH for future savings? The answer is: That depends. If you are currently working or receiving multiple pensions, you are most likely in a high marginal tax bracket. Any money that you convert will be added to your ordinary income for that tax year and could push you into a higher tax bracket. If you are retired and/or in a low tax bracket, converting some of your assets may make sense to avoid large Required Minimum Distributions after 70 ½. Other considerations include your health, your view about future tax rates, and whether you can pay the conversion tax with non-IRA dollars. If you are interested in discussing these strategies, give us a call and we can evaluate your individual situation.
When should I take distributions from my ROTH IRA? That depends on your financial situation in retirement. Deciding factors include:
  • Your age at retirement
  • Supplemental income such and pension, annuity, and Social Security income
  • Your state of residence
  • The size of your tax deferred accounts
  • Legacy planning
Our expertise allows us to address all your questions and develop a strategy that will best fit your needs and the needs of your family. Give us a call!
Wishing you and your family a very Happy Thanksgiving,
Michael and Alexis McComb, CFP®