Putting client wealth into one of Uncle Sam's best deals ever

By Don Wilkinson

DFW & Associates


What a year! You fought to steer your clients clear of the potholes of Madoff madness, the equities elevator (ups and downs), home foreclosures, job layoffs and a stimulus for everybody, it seems, but your clients.

Not only that, if you haven't done so already you may be fighting to protect your client's biggest check he or she will probably ever receive: their final lump sum retirement pension.

Your clients have worked long and hard to build wealth in their retirement savings and they want to be double sure that you, as their advisor, preserve those assets if they change jobs or retire. At this stage of their lives, your clients should not have to lose a large portion of their wealth to excessive taxation.

You should covey to your clients that Uncle Sam is not their friend. The Uncle is prepared to do taxable damage to your clients' pension plans unless you show them how to follow concrete steps. Your challenge as advisor is to turn Uncle Sam from a pension-grabbing tax collector into a benefactor of high proportions. If your clients' take your advice, preserving their wealth will be the best deal they will ever receive from the Uncle.

As you know, the IRS at the time of withdrawal and other weak moments, is poised to grab 70percent, 80 percent, or maybe as much of 90 percent of your clients' retirement funds!

There's a better way of managing retirement money for a lot of your clients than the traditional IRA. It does not mean the traditional IRA is chopped liver. In fact, as an advisor, you should know that it's the one of the best tax-saving and wealth-building vehicles for savers our government has ever put together to help individuals fund their retirement.

However, the Roth IRA instituted in l998 by Congress and introduced by a fellow named Roth (U.S. Senator William V. Roth Jr. of Delaware) is tweaked slightly differently than the traditional IRA. It may be best for you to advise your client that the Roth IRA is a better way to go with his or her wealth, in most cases.

As you know, a Roth IRA is an individual retirement plan that bears many similarities to the traditional IRA. The big difference in a Roth is that the contributions are never tax deductible, and qualified distributions are tax-free. In short, a Roth is a tax-free account; no taxes are paid on your earnings, the interest, and dividends -- ever. With a Roth, your client pays his or her taxes up front as the money goes in, not at the other end as they take it out. Of course, there's no free lunch, as certain requirements have to be met for your client to qualify for a Roth.

Still, in effect, in 2009, your client could deposit $5,000 in a Roth and a $1,000 "catch up" contribution for individuals age 50 or over. Contribution caps have been increasing since 2002. 2010 is the beginning of inflation indexing, so your client's maximum contribution will increase in $500 increments yearly in the foreseeable future.

Also, as you are probably aware, for tax years after 2009, all taxpayers can make Roth IRA conversions regardless of income level.. Once your client's adjusted gross income reaches $105,000 if he or she is single, or $155,000 if married, the amount your client can contribute decreases, reaching zero for those with an AGI of $120,000 (single) or $176,000 (married). To let you know, the "phase out" range is how much your IRA deduction decreases as you approach maximum AGI.

Your client will love this. Another benefit of the Roth IRA is that there are no required minimum distributions imposed on the owner. The owner does not have to take money out of the IRA unless he needs it. His or her Roth can compound undisturbed and be left to the next generation, if desired. Beneficiaries, however, are required to take minimum distributions based on their life expectancies.

Most political observers expect taxes to increase, and the President and the majority in Congress have advocated higher taxes on at least some taxpayers. If your client makes the Roth IRA conversion in 2010, he or she will be given the option to pay all the taxes on the conversion in 2010, or average the taxes owed on the conversion over two years, i.e., in 2011 and 2012. However, it is important to be aware that 2010 is the last year for the current low income tax rates. Current law provides for an increase in tax rates in 2011; therefore, if you were to choose to average your client's tax payments over the two-year period in 2011 and 2012, he or she might be hit with higher tax rates. Advise your clients to get their Roth now before taxes increase in 2011.

Have your client look upon a Roth as a savings account. He or she can pull out contributions anytime they wish. That's a huge difference from the traditional IRA and 401(k) counterparts. Some things to keep in mind, however: It applies to the money your client puts in, not earning or interest. For those withdraws, you have to be subject to IRS Qualified Distribution Rule. Also, watch losses. Putting $5,000 in and losing a portion of its value will prevent your client from pulling out the whole, $5,000 later.

It's a win-win situation. If your client converts to a Roth and then decides he or she wants to go back to a traditional IRA, you can do what's called an IRA recharacterization. Also, unless certain criteria are met, Roth IRA owners must be 59 ½ or older and have held the IRS for five years before tax-free withdrawals are permitted. On these types of things, the advisor can steer the client in the right direction to avoid potholes on the Roth conversion.

A Roth is a really good deal for the Gen X and Gen Y group. It gives them years and years to accumulate tax- free earnings. Actually, anyone under 50 should get into a Roth as their primary retirement vehicle. For boomer-plus people, and probably the majority of your client base, a Roth will be good for them too, based on their planning needs. Remember, most aging clients have long-lasting genes. With the longevity bonus, most boomers will receive -- they will have maybe 20 years more of living give or take to build upon their nest egg. And don't forget about those grandchildren your client could leave his or her legacy to. That's your clue to present an estate-planning package to your client.

When all the facts are in, advising your client to put his or her wealth into a Roth IRA is the best advice you can give, because it's the best investment vehicle Uncle Sam has ever brought to the table.

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