If you are interested in diversifying the tax character of your retirement savings, you can create tax-free retirement income through a Roth IRA. Positioning your savings for tax-free distributions can add up to a significant benefit in a self-directed Roth IRA in which you have the freedom to invest in real estate, private equities, gold and precious metals and other alternative investments. Here are five things you may not know about Roth IRAs:
1. There is no 70½ age limit for making Roth IRA contributions. You can continue to fund your Roth IRA well into your retirement years so long as you have sufficient earned income to support each year’s contribution. There is, however, an income limit. Individuals with income above a certain level are prohibited from making Roth IRA contributions.
2. Although you cannot take a tax deduction for contributing to a Roth IRA, the amounts you contribute will never again be taxed. Also, you can withdraw just your Roth contributions tax-free at any time.
3. The earnings on your Roth IRA investments grow tax-deferred and will be tax-free if you have a qualified distribution. For a qualified distribution, two requirements must be met. You must satisfy a five-year waiting period and the distribution must be taken after you reach age 59½, die, become disabled or make a first-time home purchase. The five-year period begins on January 1 of the year for which your first Roth IRA contribution was made. If your Roth IRA distribution is not qualified, any investment earnings included in the distribution will be taxable to you.
4. You may convert your existing pre-tax savings in a Traditional, SEP or SIMPLE IRA or employer-sponsored retirement plan to a Roth IRA and enjoy tax-free growth of all future investment earnings. The pre-tax amount converted will be taxable to you in the year of conversion. But if you anticipate a significant appreciation in the value of your investments, you may want to pay the tax on your lower account balance now. Similarly, if you are currently in a lower tax bracket, you may want to pay the tax at today’s tax rates to hedge against higher tax rates in the future. You can spread your conversion over multiple years to manage the taxation impact.
5. Roth IRAs are not subject to the age 70½ required minimum distribution (RMD) rules that apply to Traditional IRAs. This feature makes Roth IRAs popular in retirement income and estate planning strategies. You can allow your self-directed Roth IRA assets to grow without having to draw down the balance when you reach age 70½. After your death, your beneficiaries will take tax-free distributions from the Roth IRA, so long as the five-year waiting period for a qualified distribution has been met.
Before you establish and fund a Roth IRA, or convert retirement savings to a Roth IRA, it’s important to talk to your financial advisor or tax professional to make sure you understand all the tax consequences and evaluate the potential benefits. They may also help you create a strategy to minimize taxes, for example by conducting a series of conversions over a number of years to avoid a large tax impact in one year. Please give us a call 866-928-9394 with any questions.