A Government Bailout - You Decide

By Mark Folgmann

This year there has been an awful lot of hype over converting all or part of your pre-tax IRA to a tax- free Roth. Due to the unique tax rules in place this year, if you convert all or part of your regular IRA to a Roth IRA you will have the option of paying your tax based on this year’s income or spreading the tax over two years based on your 2011 and 2012 income. Clearly this provides for specialized tax planning based on your individual circumstances and may present you an opportunity to benefit from the tax code. The typical $100,000 income ceiling for conversions is also lifted this year which allows for an individual or family to convert part or all of their IRA. In all honesty, we have selectively been converting regular IRAs to Roth IRAs for clients over the last five years. We typically capitalize on low income years to convert assets so we end up paying very little tax on the conversion. We also proactively plan income streams to control our tax bracket by distributing income from various asset locations to reduce our overall tax obligations. Usually within the first ten years of retirement we have numerous opportunities to control our tax burden. However, this becomes a little more difficult after a client reaches the age of required minimum distributions from their retirement plans. Overall I’m a believer of strategic planning which would allow for the reduction of taxes for both you and your family. It is my personal belief that you have far more control over how much you will pay in taxes and when you will pay these than you think. We have multiple clients that have very high six and even seven figure portfolios that have a 10% or less effective tax rate.
This massive marketing campaign by the financial service industry makes me wonder who really benefits from this great opportunity. First of all, we know the financial service industry will benefit tremendously. They make money when transactions are completed and as long as we believe this is in our best interest, they will continue promoting change. Second is the government who appears to be the biggest winner. It continues to pile up large deficits and is now promoting the collection of taxes in advance. Doesn’t it seem a little strange to you that the whole benefit of funding an IRA was a tax deduction while we were still working and compounded deferral of all the money that would have been paid in taxes? Why did that change? Not only does the government receive large amounts of prepaid taxes but they promote it as if they are doing us a favor. Remember, I am in support of tax planning but most people will not know in advance if they will be better off by converting and paying taxes now or deferring and paying taxes later in life. Far too many things change and the calculations require so many assumptions that the end result becomes an unknown. My personal belief is that most investors will not end up better off converting their IRA to a Roth. Make sure you check with your tax advisor prior to completing any conversions. Ultimately you get to be the judge on who benefits from this once in a lifetime opportunity. My money says the investor will finish third.