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September 18, 2009

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My situation is identical to FMF's, with the exception of the SEP.
Question I'm hoping someone here can answer:
I have money in a nondeductible IRA. Am I correct that in 2010 I can convert this money to a Roth IRA? As I understand things, no taxes would be owed on this (NONdeductible IRA), and then I could enjoy what I perceive to be benefits of the Roth compared to the normal IRA (e.g. I would not be forced to take mandatory withdrawals and could withdraw the contributions penalty free if I desired). If this is true, isn't this a bit of a loop-hole with the new conversion rules? I can put money, every year, into a non-deductible IRA, then convert it to a Roth IRA. This sounds great to me, but I'm wondering if I've misunderstood something. Thanks.

I just started a Roth IRA this year and will max it out for the first year. I don't have any 401K or retirement plan through work. Am I fine for now with just my Roth? I am in early 20's.

Craig --

If I were you, I'd go through the process of setting your retirement number and seeing if you're saving enough (which I'm guessing you aren't.) Time is the most important factor in determining investment performance (see this for perspective: http://www.freemoneyfinance.com/2009/06/which-variable-impacts-your-investment-return-the-most.html ) and right now you have it. Don't let it pass by without taking action.

If you need help on determining your retirement number, see this post:

http://consumerist.com/5356746/

Meredith: If your situation is identical to FMF's then you make too much money to convert to a Roth. The option would be index funds and government bonds (perhaps I-bonds, maybe not the best idea right now due to low yield, but that can change) in a taxable account. Index funds if not sold will generate very little taxable income (only on the dividends) and I-bonds will also generate no taxable income until redeemed. This gives you much of the flexibility available in a Roth as you make the decision when to sell assets that generate a tax bill.

Meredith,

Yes, in 2010 the income limits on conversions to the Roth go away completely and you can make conversions regardless of your income level. This means all existing traditional IRAs (deductible and non-deductible) can be converted to a Roth. Any gains on your non-deductible IRA will be taxable but the original contributions would not be.

As far as making future contributions and then converting those to a Roth I am don't think there is any reason that would not be allowed.

It might seem kind of silly to disallow contributions directly to a Roth but allow this back door method of doing it but that comes about as a result of having two separate laws that created this strange situation and no one really caring to remove the strange "double hop" restriction as a way of contributing to a Roth.

Anyone who wants to do a Roth and doesn't qualify should be currently contributing the max they can to non deductible IRAs and preparing to convert in 2010.

Thank you for the responses! This could work out well.

Apex:

So, if the income restrictions go away in 2010 for conversions, what happens after that? Are there income restrictions for adding to the Roth once it's converted?

rwh,

All Roth restrictions continue unchanged. So yes, whatever restrictions are there today still persist for the Roth.

The reason for this strange set of circumstances is that the bill which was signed in 2006 attempted to explicitly remove the income restriction on conversions but did not remove the restrictions on Roth conributions. Of note is that it did alter Roth contribution restrictions by indexing the limits to inflation. That is why those are going up now. But it didn't remove them.

So once you convert you cannot contribute more if you exceed the income limits. However, there is no reason you should not be able to simply open another traditional, contribute to it, and then convert it. The results will be the same as if you made the contribution directly, but you can't do it directly because the old Roth restrictions are still in the law.

Someone should have noticed the odd contradictory set of circumstances this creates but as we have recently learned, these bills are complicated and many Congressman have admitted, they don't actually have time to READ them, let alone think about complicated contradictory elements created by bills from different eras.

Hi - No Roth IRA??? - Here's the loophole...

Strategy - Contribute to a NON-DEDUCTIBLE IRA in 2009 and in 2010...I would make my '09 & '10 contributions in Jan or Feb 2010 (as long as '09 contribution is made before 4/15/10)and then convert the NON-DEDUCTIBLE IRA to a Roth IRA in 2010. Reason: Income limit of $100K is eliminated on Roth IRA conversions in 2010. Earnings in the non-deductible IRA are taxed upon conversion to the Roth so contribute and then convert soon after to keep the tax bill down. There you go...$20K in a Roth (Husband & Spouse - $24K if 50 & above) within the next 5-6 months. Best part - You can continue to follow this same strategy after 2010. Let's add ROTH IRA (in the making) to your list.

BTW - Congrats on the high AGI.

Bye.

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