Lecture 29 Individual Retirement Arrangements

1. Lecture 29Individual Retirement Arrangements • History of IRAs • Traditional IRAs • Definition • Contributions • Rollovers • Withdrawals • Roth IRAs • Education IRAs

2. History of IRAs • When IRAs were first allowed, anyone could contribute up to $2000 to a deductible IRA • When this proved too popular (costing the Federal government too much in tax breaks) rules were changed to limit contributions of those with higher earnings if they were covered by an employer plan • Since then, rules have been revised to encourage other forms of savings besides retirement

3. Traditional IRAs • Allows individual to reduce taxable income and defer taxes on investment income • Contributions • Limited to lesser of: • $2,000 • Compensation for the year • Must be made by due date of tax return for year • Generally April 15 of following year • Cannot be made for any year on after you turn 70 1/2

4. Traditional IRAs -Deductible Contributions (1999) • If you are covered during any part of the year by an employer retirement plan, you get the full $2000 deduction only if: • your modified AGI is less than: • $31,000 for single individual • $51,000 for married filing jointly • there is no deduction if modified AGI exceeds: • $41,000 for single individual • $61,000 for married filing jointly • If you are not covered by an employer retirement plan, but your spouse is covered by one, you get the full $2,000 deduction only if: • your modified AGI is less than $150,000 • there is no deduction if modified AGI exceeds $160,000

5. Traditional IRAs -Deductible Contributions (1999) • Reduced IRA deductions • Calculate the difference between the “No Deduction” limit and your modified AGI • Multiply this difference by 20%. • If not a multiple of $10, round up to the next highest $10 • If less than $200, round up to $200

6. Traditional IRAs -Deductible Contributions (1999)Example • Jane starts work on 6/1/99 with a company that has a defined benefit pension plan with 5 year cliff vesting. For 1999, Jane has a modified AGI of $34,970. What is the maximum amount she could contribute to a traditional IRA? • Answer: • .20(41,000-34,970)=$1206 • Round to next highest $10: $1210

7. Traditional IRAs -Important Advice about Contributions • Do NOT make nondeductible contributions to your IRA or you will face very complicated tax regulations when you withdraw your funds • For any withdrawal, you need to determine the share of nondeductible contributions from all your IRAs as a percentage of the total value of all your IRAs. You will need to do this again each year that you make a withdrawal. • Don’t make this mistake!

8. Traditional IRAs -Rollovers • You can move assets from one IRA to another or move assets from a qualified retirement plan into an IRA • If you take possession of the assets, • A 20% withholding requirement applies • You must complete the rollover within 60 days or entire amount is considered a distribution

9. Traditional IRAs -Withdrawals • All withdrawals are subject to taxation • Unless an exception applies, any withdrawal prior to age 59 1/2 is subject to a 10 % penalty • Exceptions: • Unreimbursed medical expenses over 7.5% AGI • Medical insurance premiums after losing job • Disability • Death • Annuity payments • Qualified education expenses • Qualified first-homebuyer amounts

10. Traditional IRAs -Withdrawals - (cont.) • You must begin withdrawals by April 1 of the year following the calendar year you turn 70 1/2 • Minimum distribution requirements apply • 50% penalty on insufficient distributions

11. Roth IRAs • Contributions are not deductible • Distributions are tax free (generally) • Withdrawals do not have to begin at 70 1/2 • Contribution limit is $2000 if: • your modified AGI is less than: • $95,000 for single individual • $150,000 for married filing jointly • contributions are not allowed if modified AGI exceeds: • $110,000 for single individual • $160,000 for married filing jointly

12. Roth IRAReduced Contribution Calculation • Start with you modified AGI • Subtract • $95,000 is single • $150,000 if married filing jointly • Divide result by • $15,000 if single • $10,000 if married filing jointly • Multiply contribution limit by this quotient • Subtract this result from your contribution limit • Round up to nearest $10 (or $200)

13. Roth IRA - (cont.) • Converting from a traditional IRA to a Roth IRA • Allowed if modified AGI is less than $100,000 • Amount converted is taxable income • Amount converted is included in taxable income over 4 years • Why did Congress decide to offer Roth IRAs?

14. Education IRAs“An education IRA is not a retirement arrangement.” • Can be set up to pay the qualified higher education expenses of a child under 18 • Distributions are tax free if they do not exceed qualified higher education expenses • Contribution limit of $500 per year • Reduced contributions • Start with you modified AGI • Subtract • $95,000 is single • $150,000 if married filing jointly • Divide result by • $15,000 if single • $10,000 if married filing jointly • Multiply $500 by this quotient • Subtract this result from your contribution limit