The Roth Revolution: Pay Taxes Once and Never Again

By James Lange and Ed Slott

“Clearly explains the remarkable advantages of Roth IRAs and their role in estate planning.” —Burton G. Malkiel, author of A Random Walk Down Wall Street

A Roth IRA conversion requires paying taxes on the portion of your IRA or 401(k) that you convert, but then that money can grow income tax-free for the rest of your, your spouse’s, your children’s and grandchildren’s lives. The advantage of a tax-savvy long-term Roth IRA conversion is often measured in the millions.

The real eye-opener, however, is that Roth IRA conversions are great for older IRA owners, regardless of the benefits to future generations. The Roth Revolution addresses the following topics clearly and objectively:

*Whether, how much, and when to convert

*Costs and benefits of a Roth IRA conversion

*Advice for taxpayers in each income tax bracket

*The impact of future tax increases

*Synergy of delaying (or returning) Social Security and Roth IRA conversions

*Combining charitable gifts and Roth IRA conversions

*Tax-free conversions of after-tax dollars in IRAs and retirement plans

*Converting and re-characterizing strategies

You may be asking, “Who in their right mind would pay taxes before they have to?” The answer is James Lange, thousands of his readers and clients, all the top IRA experts—and, after reading The Roth Revolution, maybe you too.

• Language: English
• Publisher: Open Road Integrated Media
• Release date: Jan 11, 2011
• ISBN: 9781600378584

Book preview

Chapter One

Roth IRA Conversions and the Dream of Tax-Free Income for Generations

"If you don’t know where you are going, you will wind up somewhere else!"

— Yogi Berra

Main Topics

• The importance of measuring the value of your retirement plan in purchasing power, not in total dollars

• How to measure your IRAs purchasing power

• The advantages of the Roth IRAs—no required minimum distributions (RMDs) for you and your spouse

• Why Roth IRA conversions are not just for the young

Key Idea

The secret to understanding IRAs and Roth IRAs conversions is to measure your wealth in terms of purchasing power. Having $1 million in your IRA does not mean you can buy $1 million worth of goods and services.

—— $$$ ——

Albert Einstein said that the most powerful force in the universe was compound interest. Einstein also said the hardest thing in the world to understand was the income tax. If you combine understanding the best tax strategies with the power of long-term compound interest, you unleash a tremendous force that will dramatically increase wealth for you and your family.

Do you like the idea of a one-time tax payment and then you are done? After you make the conversion, your Roth IRA will grow tax-free for you, your spouse, your kids, and your grandkids. The Roth Revolution will help you understand the power of Roth IRAs, Roth 401(k)s, Roth 403(b)s and Roth IRA conversions. It will also help you determine if Roth IRA conversions are a good idea for you and your family. If they are a good idea for your family, then we will offer insight on how much to convert and when to convert.

A Quick Review of Traditional Tax Planning

Traditionally, tax planning has revolved around optimizing strategies to defer or delay paying your taxes. That is why most financial advisors, CPAs in particular, and other retirement-planning experts, including me, have traditionally recommended maximizing contributions to your IRAs, 401(k)s, 403(b)s, SEPs, and other types of traditional retirement plans while you are working. This strategy offers you a tax deduction when you make the retirement-plan contribution. The invested money grows tax deferred and eventually, either you and/or your heirs pay taxes on the distributions. Hence, the sub-title of my last book, Pay Taxes Later.

In the same spirit, after you retire, we recommended spending after-tax assets before your IRAs, 401(k)s, etc. The logic was, by deferring taxes on withdrawals from your retirement accounts, when you finally do take out money and owe taxes, your accounts would have accrued additional interest, dividends, accumulations and capital gains. Paying taxes later, or deferring taxes, is a bedrock principle of financial planning, leading to a secure retirement. Jane Bryant Quinn once quipped that my mantra was pay taxes later. But. . .there is a major exception to the general rule of pay taxes later. A more precise summary of my tax philosophy would be: "pay taxes later. . . except for a Roth."

After making hundreds of financial projections since 1998 when the Roth IRA law was established, it has become apparent to us that, in general, Roth IRAs, Roth 401 (k)s, Roth 403(b)s and Roth IRA conversions that create tax-free growth, usually result in more purchasing power for IRA owners and their families.

After making hundreds of financial projections since 1998 when the Roth IRA law was established, it has become apparent to us that, in general, Roth IRAs, Roth 401(k)s, Roth 403(b)s and Roth IRA conversions that create tax-free growth, usually result in more purchasing power for IRA owners and their families. And, recent changes in the tax laws offer superior opportunities for both retirees and workers in the Roth IRA or Roth 401(k) or Roth 403(b) environment. For many—if not most—readers, Roth IRA conversion and contribution opportunities have the potential to help your family realize the dream of tax-free income over three generations. The key to unlocking the tax-free dynasty treasure chest lies in Roth IRA conversions.

As I see it, there are some things you can’t control, such as how the market will do over time. There are, however, things you can control, which include getting the best tax planning available to you, and taking advantage of available opportunities. Now, more than ever, Roth IRA conversions represent one of those opportunities.

The Roth IRA Conversion Rationale

A traditional retirement plan, whether it’s an IRA, a 401(k) 403(b), KEOGH, SEP, or a 457, is funded with tax-deferred contributions from both you and/or your employer. Once you reach retirement, you will either need to take money out of the account to meet your living expenses and/or you will be required to begin withdrawing money from your IRAs and retirement plans when you reach age 70 and ½. In general, the distributions from your IRA and retirement plan are added to your existing income and you pay taxes on the total. You will have to pay income taxes on the withdrawals at your existing tax rate; or possibly a higher tax rate if the additional income pushes you into a higher tax bracket.

Through a Roth IRA conversion, you can convert a traditional plan, or a portion of a traditional plan, into a Roth IRA. When you make the conversion, you have to add the amount of the Roth IRA conversion to your income, and pay the taxes on the amount of additional income from the Roth IRA conversion. You are, in effect, paying income tax now. After paying the taxes upfront, you will have converted your traditional IRA, or a portion of your traditional IRA, to a Roth IRA. Why would anybody want to do that?

The reason you might be willing to pay income taxes now is because the growth on the original investment and all withdrawals by you and/or your family members, will be tax-free (after certain conditions are met). The less attractive alternative is doing nothing (the status quo) and paying taxes at future ordinary income tax rates on the traditional IRA withdrawals and taxes now and annually on investment income of the money that you would otherwise pay in taxes to make the Roth IRA conversion.

A further advantage of Roth IRAs is that, unlike with a traditional IRA, there are no required minimum distributions (RMD) for you or your spouse. With good planning, this will give you years of tax-free growth on the total investment. After you and your spouse die, it is likely that Roth IRA dollars will be part of your estate. At that point, your children and/or trusts for grandchildren will be required to withdraw money from the inherited Roth IRA. But those distributions will be