5 Good Times to Convert to a Roth IRA

If you’ve been planning ahead for retirement, you probably have an IRA (or a 401(k) that will eventually be rolled over to an IRA). You probably know that you received a tax deduction when you contributed to that IRA. You probably also know that when you start taking money out of that IRA you will owe income taxes.

But did you know you can convert that IRA to a Roth IRA?

Roth IRAs grow tax-free, and withdrawals are tax-free as long as they are qualified. Once you hit retirement, your Roth IRA account will be your most valuable money because of that tax-free structure.

When you convert a traditional IRA to a Roth, you’ll have to pay some income taxes upfront: Any pretax amount you convert must be included in your taxable income for the year of the conversion. But don’t let this deter you from converting when there are real advantages to doing so. Here are five times to consider converting:

1. When you are in a low tax bracket

I have a client who retired recently, and we have strategically decided to delay starting his Social Security benefits. He will have no income other than interest and dividends in 2016. Since he is married, we expect to be able to convert around $20,000 of his IRA to a Roth IRA, and he will not owe any taxes because personal exemptions and the standard deduction will reduce his taxable income to zero. This is the proverbial tax grand slam in that he received a tax deduction for his IRA contributions, the proceeds grew tax-deferred, and he ultimately avoided paying any federal and state taxes at conversion!

2. When you don’t need the money and plan to leave it to your kids

If you’ve done an adequate job of saving and it’s extremely unlikely you will need all of your savings for retirement, consider a Roth conversion as a gift to your kids. This makes even more sense if your kids (or grandkids) are in a higher tax bracket than you are. You pay the taxes now, and the kids inherit an account that is completely tax-free and continues to grow tax-free over the rest of their lives.

3. When your investments are temporarily low

In the 2007-2009 recession, the stock market dropped nearly 50% — but it made up the losses within five years. Smart investors who recognized that they have a long time horizon took advantage of that temporary decline. Imagine that your IRA started at $100,000, then dropped to $50,000, and you converted to a Roth IRA at that point, paying income taxes on $50,000. A few years later, the $50,000 in the converted Roth IRA was once again worth $100,000, but now is completely tax-free. You avoided paying income taxes on $50,000!

4. When you believe tax rates will go up

I’m not in the business of guessing where tax rates will go. Some people think, based on who gets elected and who controls Congress, that federal tax rates might go up at some point. If you think that’s true, then converting to a Roth IRA and paying taxes now, rather than higher rates later, might make sense.

5. When you want to reduce the value of your estate for tax purposes

This is a more remote scenario, since the vast majority of estates are exempt from estate tax. But for those with a large enough estate, it may make sense to convert to a Roth IRA during your lifetime. Converting means that you will reduce the value of your estate because you are paying taxes now instead of later. A smaller estate means a lower estate tax bill. Remember that with a traditional IRA, some of that money already “belongs” to the government because it will be paid in taxes upon withdrawal, but all of the money in your IRA will included when calculating the value of your estate. In effect, with a traditional IRA you could be paying estate taxes on the government’s money. Paying taxes on taxes is usually a bad thing.

Learn more about me at www.sbvfinancial.com 

This article was originally published on NerdWallet.com
http://www.nerdwallet.com/blog/finance/advisorvoices/5-good-times-convert-roth-ira/ 

How I Made My Credit Card Company Fund My Roth IRA

Saving is hard.  It feels like we are depriving ourselves from the fun things we work hard for.  For this reason, any tip or trick we can use to help us save or just make saving less painful becomes very useful.  Here is one of my tricks:

First, I have the Citi® Double Cash* credit card that pays me 1% cash back on all purchases and another 1% cash back as I pay off those purchases.  This essentially equates to 2% cash back.  Let’s say in an average month I charge $3,000 worth of bills and purchases then immediately pay off the credit card at the end of the month to avoid any interest charges.  This should provide me with $60/month in cash back rewards for a total of $720/year.

Second, I have a higher interest checking account and Roth IRA at Charles Schwab & Co®*.  Every month I receive my cash back reward I transfer it to my high interest checking account.  From there, I immediately transfer the money to my Roth IRA.  Roth IRAs are funded with after-tax dollars, grow tax-free and any future withdrawals are tax-free as long as you follow the rules (which are easy to follow if you only use this money for retirement as intended).

The result of this strategy over 30 years if the investments earn 7% annually will be $68,012!  Not bad considering all the funding for this account came from cash back rewards paid by the credit card company. 

I would advise against this strategy if you are not disciplined enough to pay off your credit card each month.  At 12% or higher annual interest rate, it doesn’t take much for an ongoing credit card balance to charge more interest than you are receiving in cash back rewards.

*This is not an endorsement of the Citi® Double Cash credit card.  Search around for the best credit card based on your needs, or simply don’t use a credit card and stick to a budget to avoid potential interest charges. This also is not an endorsement of Charles Schwab & Co.®

Steven Elwell, CFP®, May 6, 2015
www.sbvfinancial.com
selwell@sbvfinancial.com

No April Fool’s Joke Here – NY Residents Receive a $1,062,500 Gift on April 1st

In 2014 New York passed a budget that finally addressed an estate tax that was driving people out of state.  The new legislation gradually increases the amount that escapes death taxes.  Here is the breakdown:

Before April 1, 2014                                       $1,000,000

April 1, 2014 – March 31, 2015                      $2,062,500

April 1, 2015 – March 31, 2016                      $3,125,000

April 1, 2016 – March 31, 2017                      $4,187,500

April 1, 2017 – December 31, 2018                $5,250,000

January 1, 2019 and beyond                           Matches the Federal exemption

As of April 1^st, 2015, if your estate is less than $3,125,000 it will not owe taxes to New York.  The Federal estate tax exemption is currently $5,430,000 per person. 

You may think this means there is no need for estate planning anymore, but you couldn’t be more wrong.  Good old New York will tax your entire estate if it’s 105% or more of the exemption amount.  This means if you are anywhere near the limit you had better do some planning!  The limit isn’t as difficult to get to as it seems when you factor in all the assets in your name plus the value of any life insurance you own on yourself.

I recently saw an example of how proper planning could have made a huge difference.  A client’s husband died with over $2 million in assets and left it all to his wife, which means no estate taxes were owed due to the spousal exemption. Unfortunately, now the wife has almost $4 million in her name alone, meaning if she passes away today the entire $4 million will be taxed by New York. This would result in hundreds of thousands of dollars of avoidable estate taxes!

As always, make sure you regularly review your situation as laws and limits continue to change.  A few hours spent each year could save you big money!

Learn more at www.sbvfinancial.com 

Buffalo Named 13th Worst City for Retirees (I Disagree)

WalletHub recently studied 150 cities in America to determine which are the worst for retirees.  In compiling the list, they looked at 25 factors across five categories including affordability, quality of life, health care, jobs and activities.  So how did Buffalo fair so poorly?

As it turns out, they doubled the weight of weather under the quality of life ranking.  Same old, same old – everyone outside of Buffalo assumes it snows two feet a day October-May.  Yes we get a lot of snow, yes it is cold and windy, but it’s not Antarctica.  And the study missed one very important finding when looking at affordability and weather.  Many retirees can afford to head south for the winter because the cost of housing is so low here.  I have clients that leave at the end of December and don’t come back until May!

Buffalo has so many other great things that appeal to retirees:

• Amazing arts & theatre scene, including outdoor performances of Shakespeare
• Emerging waterfront destination
• Two major sports teams, lacrosse and AAA baseball
• Excellent fishing both on the lake and in local streams
•  Many public and private golf courses at reasonable rates
• Fantastic dining at reasonable prices (named top 10 cities for food by National Geographic)
• Expanding craft beer and craft spirits scene
• Close driving proximity to Toronto, Niagara Falls and Pittsburgh
• Short, direct flights to Chicago, Boston and NYC

Buffalo is an excellent choice for retirees to call home. Don’t let a simplistic list deter you from enjoying all that this city offers.

2015's Must Read Predictions for Retirement Investors

Now is the time of the year market pundits make their predictions with convincing arguments about why XYZ stock will soar or why ABC asset class will crash. I find these predictions to be useless.  The pundits end up either being wrong or lucky.  Nobody can accurately predict the markets in the short-term on a consistent basis and if they could they’d be so rich it would be a waste of time to tell anyone how they did it.  In light of that, here are predictions for 2015 that will actually be useful and insightful:

1) Stock and bond markets will fluctuate.  Undoubtedly, there will be a short-term period in 2015 where the market will drop and it will make you feel sick to your stomach.  There also will be a period where stocks go on a strong push upward and you feel great.  Don’t let either of these events distract you from your long-term goals.  Having to deal with these fluctuations is the reason investors who stick it out earn higher returns than cash.

2) Those who panic will have lower returns than those who don’t.  Often, when the stock market drops, investors get nervous and sell to avoid any further declines.  This strategy sounds reasonable except that usually around the time they sell the market turns around.  Even if the market doesn’t immediately recover, these same investors fail to get back in when the rebound happens and miss out on the eventual recovery and beyond.  Realize that selling out in a panic just replaces one stressful decision (should I sell??) with another (should I buy back in??).

3) Your neighbor, co-worker, or in-law will tell you something useless about investing.  There is a lot of noise out there that can cause you to lose focus on your goals and strategy.  It’s inevitable that someone at some point will tell you about the genius move they made buying some stock or how they predicted the last market correction.  Don’t get lost in this, it means nothing to you and your situation.  Remember, people enjoy talking about their successes, but not their failures.  For every genius move made there are probably ten foolish moves.

4) Those who regularly saved 15% or more of their income will be in good shape for retirement.  The statistics on how unprepared people are for retirement are alarming.  One way to improve your retirement prospects and build a reasonable nest egg is to start saving 15% of your gross income as soon as you can and for the rest of your career.  The earlier you start, the better off you will be.  

5 New Year’s Resolutions for the Almost Retired

The start of a new year is always a good time to check in on your finances.  Here are five resolutions to help you get on track if you’re thinking about retiring soon.

1) Think about what you want to do in retirement.  Do you want to travel the world? Do you want to turn a hobby into a small business? In my experience, the happiest retirees are the ones who had a clear picture about what they wanted to do once they retired.  Spend some time thinking about what you want to do when you have the time to do whatever you want.

2) Finally create a budget.  To successfully transition into retirement you need to know what you spend now and how that might change in retirement.  If you plan to travel more extensively in retirement you must accountant for that.  The same goes if you pay off your mortgage and are only responsible for taxes and insurance in the future.  Consider using an automated service like Mint.com or Quicken® to help determine your yearly expenses. Knowing your budget helps you determine if you are financially ready for retirement.

3) Review your potential income sources in retirement.  Go to www.ssa.gov to register for a username and password to review your Social Security benefits.  Pull any pension estimates from your current or past employers.  Add in any income you may earn from part-time work in retirement. Determine the value of your nest egg by adding together all your retirement and investment accounts.  If your savings totals 20-25 times the size of your current income you are probably in good shape.

4) Max out your 401k/403b/IRA contributions.  As you approach retirement it is likely you are at your highest earning years and once you retire you will fall to a lower tax bracket.  Now is an ideal time to max out contributions to retirement accounts to avoid paying taxes today and instead pay taxes in retirement at a potentially lower rate.  For 2015, those over age 50 can contribute up to $24,000/year to a 401k and/or up to $6,500/year to an IRA if they qualify.

5) Talk to a professional.  While you may have a good handle on your financial readiness, it may still be worthwhile to check in with a CERTIFIED FINANCIAL PLANNER™ professional.  Often a professional can identify holes in your financial plan that you weren’t aware of such as: 

·         Determining the most tax efficient withdrawal strategies after you retire which could save you thousands in taxes. 

·         Identifying potential risks in your portfolio that could jeopardize your retirement.

·         Determine the optimal strategy for claiming Social Security (very important for married couples!) 

A professional can help you answer many if not all of the questions you need to answer as you transition into retirement.

4 Ways to Reduce Your 2014 Taxes

Few things are as painful as filing your tax return in the spring and realizing you owe the government even more money.  Fortunately, the 2014 tax year is not over yet and there are some ways you can potentially reduce your tax bill.  Here are some ideas to lessen the tax bite:

1.  Make a traditional IRA contribution.  You can make a traditional IRA contribution all the way up to April 15^th 2015 and still have it count for the 2014 tax year. Those under age 50 can contribute up to $5,500/year and if you’re over age 50 you can contribute an additional $1,000/year for a total of $6,500/year.  The contribution will be tax deductible as long as your AGI (adjusted gross income) is below the limit. 

Here is a nice recap of the 2014 AGI limits*:  http://www.schwab.com/public/schwab/investing/retirement_and_planning/understanding_iras/traditional_ira/contribution_limits

Example: You make a $5,500 traditional IRA contribution and you fall in the 25% Federal tax bracket.

$5,500 X .25 = $1,375 in tax savings

The tax savings may be even greater since a deductible traditional IRA contribution will reduce your AGI, which may potentially affect other tax credits and deductions.  Also, this example doesn’t even include the potential state income tax savings.  I once advised a couple to make full traditional IRA contributions and they reduced their tax bill by over $3,800!

*Source: Charles Schwab & Co.

2.  Make a donation to charity.  If you itemize your deductions, you can claim donations to a qualified charity as a tax write off.  You can donate cash, used goods, clothing and your car. 

For those in high tax brackets with investments in a taxable brokerage account you can even donate shares of mutual funds/stocks and avoid paying taxes on the capital gains!  This can be substantially better than giving cash in many instances. 

If you aren’t sure which charity you want to give money to or when you want to donate but would like the tax deduction immediately you could set up a Donor Advised Fund (DAF).  This helps separate the time of the tax deduction from the time of the gift.

Make sure to keep receipts, records and appraisals so you can prove the donations if the IRS ever audits you.

3.  Capitalize on any tax losses you have.  If you bought a stock or mutual fund through a taxable brokerage account and the value of the investment has declined it may be worthwhile selling the security to be able to write off the loss.  The loss will offset any other capital gains you have potentially saving you 15% or more.  If you don’t have any gains to offset, up to $3,000/year can be used to offset ordinary income which can yield even higher tax savings.

Example: You buy XYZ stock for $10,000 and it declines to $6,000.  You sell it for a $4,000 loss.  You have $2,000 of capital gains from other stock transactions and you are in the 25% Federal tax bracket.

$4,000 loss offsets the $2,000 gain.  The remaining $2,000 of losses offset your ordinary income.  Tax savings:

$2,000 of offset capital gains x .15 (long-term capital gains tax rate) = $300  

$2,000 of offset ordinary income x .25 (Federal tax rate) = $500  

$800 in taxes saved/avoided.

If you still think the stock is worth owning you can simply buy it back as long as you wait 30 days to avoid the wash sale rules.  Here is a nice recap of the wash sale rules*:

http://www.investopedia.com/terms/w/washsalerule.asp

*Source: Investopedia

Best of all, if you have substantial capital losses over and above offsetting $3,000 of ordinary income, the losses carry forward to future tax years so they aren’t wasted.

4.  Make a contribution to a 529 plan for your child.  Many states offer a tax break for contributions to a college savings 529 plan.  A 529 plan allows contributions to grow tax-deferred and if the money is used towards qualified college expenses there are no taxes owed on the earnings.  In New York a married couple can deduct up to $10,000/year of 529 contributions which may save them approximately $650 in state taxes.  This type of account is a great way to save for your child’s college costs. 

This website provides a great recap of which states allow tax breaks for contributions*:

http://www.savingforcollege.com/529_plan_details/ 

*Source: Savingforcollege.com