Traditional or Roth IRA? Making the Right Choice for You!

Transcription

1 Traditional or Roth IRA? Making the Right Choice for You! A Guide to Individual Retirement Accounts We ve selected some commonly asked questions from over 200 submitted after the IRA Basics webinar. Although this information can help you better understand general retirement investing principles, you should consult your own financial advisor for information about your specific situation. Table of Contents Contribution Rules... 2 Conversion... 3 Eligibility... 4 IRA Basics... 5 IRAs & Company Sponsored Retirement Plans... 6 Opening an IRA... 7 Taxes & Penalties... 8 Tools & Archive... 9 Withdrawals... 9

2 CONTRIBUTION RULES Can you contribute to an IRA after 70 1 /2? At age 50 years or older How much can you contribute to your Roth/Traditional IRA? How much can you contribute to your Roth/Traditional IRA? Is there an earned income limitation for opening a traditional IRA and Roth IRA? (Individual and Married) Are joint IRA accounts limited in the same manner as an individual when contributing to an IRA? Do the IRA conversion rules apply for 2011 into 2012? To be eligible to contribute to a traditional IRA, you must be under age 70½ at the end of the tax year and you or your spouse, if you file a joint return must have earned income, such as wages, salaries, commissions, tips, bonuses, or income from self-employment. If you or your spouse participates in a qualified retirement plan such as a 401(k) plan at any time during the year, then you can contribute to an IRA but your contributions may not be fully deductible. Additionally, a non-working spouse can contribute to an IRA as long as there is a working spouse with earned income. To be eligible to contribute to a Roth IRA you must have earned income and meet the Adjusted Gross Income requirements. There is no age restriction. Check with a tax advisor concerning your personal situation. If you are 50 years of age or older before the end of 2011: The maximum contribution that can be made to a traditional or Roth IRA is the smaller of $6,000 or the amount of your taxable compensation for This limit can be split between a traditional IRA and a Roth IRA, but the combined limit is $6,000. The maximum deductible contribution to a traditional IRA and the maximum contribution to a Roth IRA may be reduced depending on your modified adjusted gross income. If you are under 50 years of age at the end of 2011: The maximum contribution that can be made to a traditional or Roth IRA is the smaller of $5,000 or the amount of your taxable compensation for This limit can be split between a traditional IRA and a Roth IRA but the combined limit is $5,000.The maximum deductible contribution to a traditional IRA and the maximum contribution to a Roth IRA may be reduced depending on your modified adjusted gross income. Those 50 and above (by December 31, 2011) may make an additional maximum $1,000 catch up contribution. Yes, there is an earned income requirement which is dependent on your marital status and tax filing status. You cannot contribute more than your (or your spouse's) earned income. There are then limitations related to your modified adjusted gross income (magi) - for a Roth IRA, the maximum contribution is phased out for magi of $107,000 - $120,000 for Single Taxpayers; $169,000 - $179,000 for Married filing jointly. There is no income limit for contributing to an IRA, but if you, or your spouse are participants in an employer plan, all or part of the contribution may not be deductible, depending on your magi. An IRA is an Individual Retirement Account and can only be held in one person s name. Special rules for 2010 conversions from traditional IRAs to Roth IRAs. If in 2010 you transferred a traditional IRA into a Roth IRA, any amount you must include in income as a result of the transfer was generally permitted to be included in equal amounts over a 2-year period, beginning in This means you include one half of the amount in income in 2011 and the other half in income in You must file Form 8606 to report a conversion from a traditional IRA to a Roth IRA. Beginning in 2010 the AGI restrictions for eligibility have been lifted. 2 Back to Table of Contents

3 Conversion What kind of employer retirement plans permit me to transfer money into a traditional or Roth IRA and when can I do so? What is the process to convert a 401(k) to an IRA/Roth IRA? Can I convert a SEP-IRA into a Roth IRA (of course, paying taxes during the conversion)? If I make non-deductible contributions to a traditional IRA, when I convert it to a ROTH IRA, will I be taxed again? I have a rollover IRA (Traditional) and I would like to change it to a Roth IRA. What are the repercussions/ penalties? What are the requirements for transferring from a Traditional to a Roth IRA? To transfer money over from an employer plan to a Roth or traditional IRA, you must have first ended your relationship with the employer, either by leaving the company or retiring. If the plan permits in-service withdrawals, generally after reaching age 59½, you may be able to transfer funds to an IRA or Roth IRA without terminating employment. To transfer money from an employer plan to a Roth or traditional IRA, you must have first ended your relationship with the employer, either by leaving the company or retiring. If the plan permits in-service withdrawals, generally after reaching age 59½, you may be able to transfer funds to an IRA or Roth IRA without terminating employment. Yes. The first step is to request a "conversion" for your SEP-IRA. You will either be sent a form by your provider or possibly be directed to a website with downloadable forms. Either way, a Prudential Retirement Counselor can help. Call PRU-2100, or visit the Prudential Retirement Education & Planning website at You will not be taxed on your contributions. You will, however, owe taxes on any untaxed assets transferred to the Roth IRA. You can keep track of taxed vs. untaxed IRA assets by annually completing IRS Form If the contributions (and earnings) in your traditional IRA have never been taxed, you will owe income taxes on them when transferred to a Roth IRA. There is no longer a limit for those making more than $100,000 a year, or married couples who filed separate returns, from transferring assets to a Roth. You can reinvest all or part of the assets in a traditional IRA into a Roth IRA. If properly transferred (within 60 days), the 10% penalty on early distributions will not apply. For more information, see IRS Publication 590, "Converting From Any Traditional IRA Into a Roth IRA." Source: IRS Pub Back to Table of Contents

4 Conversion I have a 401(k) with my current employer and an IRA with another company. Can I move my IRA to my current employer's plan? If you change employers and have a 401(k), can you transfer the 401(k) money into your new plan? What type of retirement plans can convert to a Roth IRA? I have never heard anything on 401(k) plans having Roth contributions. How is that done? Can I transfer my cash balance plan benefit into an IRA? Check with your benefits office or Human Resources Department to see if your plan allows IRA money to be moved into your 401(k). Any nondeductible contributions you made to your IRA would not be eligible to be moved into your 401(k). Yes. You can transfer those assets into another qualified retirement plan, such as your Prudential Retirement account. By consolidating your assets, you ll simplify your retirement planning because all of your reporting will be on one statement. In addition, it might cost you less since you ll potentially avoid additional account fees and you can take advantage of the other plan offerings. To initiative a transfer, contact Prudential at PRU-2100 and say consolidate. The same as can be transferred into a traditional IRA. However the same rules apply. That is, you must have ended your relationship with the employer or be eligible for an in-service withdrawal from your employer's plan. Also, any previously untaxed assets will be subject to current income taxes if transferred to a Roth IRA. A growing number of employer plans offer "Roth 401(k)" features. They work similarly to a Roth IRA. That is, contributions are not tax deductible. But earnings (and contributions) can be withdrawn at retirement federal tax free (provided you follow the rules). Yes, provided you are switching jobs or retiring. Some pension plans do allow for in-service distributions so be sure to check with your benefits office or Human Resources Department. ELIGIBILITY How do I find out if I am eligible for a Roth IRA if I already have retirement account at work? Can you discuss the requirements to apply for a traditional IRA if I already have retirement plan at work? To be eligible to contribute to a Roth IRA, you or your spouse, if you file your taxes jointly must have earned income, such as wages, salaries, commissions, tips, bonuses, or income from self-employment. In addition, you must meet certain income and tax filing requirements. If you work, but your spouse is not employed, he or she may establish his or her own Roth IRA, subject to IRS guidelines. Participation in a retirement plan at work does not impact your eligibility to contribute to a Roth IRA. To learn more, consult a tax advisor, speak with a Prudential Retirement Counselor at PRU-2100 or visit the Prudential Retirement Education & Planning website at 4 Back to Table of Contents

5 ELIGIBILTY Can I have a pension & IRAs (traditional or Roth) Can you have both a traditional and Roth IRA? Can I have more than one IRA account? What are non-working spouse provisions? Can contributions be made after 591/2 years? Is there an age limit to contributing? Yes, you may have both a pension and additional retirement accounts, such as an IRA (traditional or Roth). Depending on your circumstances, the money that you contribute to a traditional IRA may be fully or partially tax deductible. To learn more about traditional and Roth IRAs, be sure to visit the Prudential Retirement Education & Planning website, at or contact your tax advisor. Yes. However annual contribution limits are combined for all of your IRAs. Even though you establish more than one account, for tax purposes, all of your IRAs are aggregated, which means they are treated as one account. If you work, but your spouse is not employed, he or she may establish his or her own IRA, subject to IRS guidelines: The most that can be contributed for the year to your IRA is the smaller of the following two amounts: 1. $5,000 ($6,000 if you are age 50 or older) or 2. The total compensation includible in the gross income of both you and your spouse for the year, reduced by the following two amounts: a) Your spouse s IRA contribution for the year to a traditional IRA. or b) Any contributions for the year to a Roth IRA on behalf of your spouse. This means that the total combined contributions that can be made for the year to your IRA and your spouse s IRA can be as much as $10,000 ($11,000 if only one of you is age 50 or older or $12,000 if both of you are age 50 or older). In traditional IRAs, you are not permitted to make any contribution once you reach the age of 70½. There is no age limit for Roth IRAs. In both cases, however, you need to have earned income in order to contribute. IRA BASICS Do I get to direct how my money is invested in my IRA? Generally, yes. For example, if you open a U.S. growth stock mutual fund for your IRA, contributions will be invested in domestic growth companies. Similarly, an international mutual fund will invest your contributions overseas. As for the specific companies you re investing in, that is decided by the fund managers. An IRA s specific investment options depend on the type of IRA you open and where. 5 Back to Table of Contents

6 IRA BASICS What's the difference between a Traditional IRA and a Roth IRA? I am over age 591/2. My employer s plan does not have a Roth option. Can I withdraw money now to convert it to a Roth IRA? What can you say about transferring your 401(k) into a Roth IRA before the end of this year? What is the difference between a Roth IRA and a Roth 401(k)? Is a SEP-IRA a Roth or Traditional IRA? A traditional IRA, or Individual Retirement Account, is a savings plan that offers tax advantages that are similar to your workplace-sponsored retirement plan. A Roth IRA is also a retirement savings plan, but with different tax treatment and guidelines. The greatest difference between the two types of IRAs is that with a traditional IRA, you make potentially tax-deferred contributions and pay taxes on your withdrawals. With a Roth IRA, you pay taxes on your contributions before you make them, and withdrawals are federal income tax free, as long as you meet certain IRS requirements. To learn more, consult a tax advisor, or speak with a Prudential Retirement Counselor by calling PRU-2100 or visit the Prudential Retirement Education & Planning website, at There are income and tax filing requirements to qualify for a Roth IRA. Starting in 2010, the Tax Increase Prevention and Reconciliation Act of 2005 (TIPRA) enabled more individuals to transfer to Roth IRAs by: 1) removing the Adjusted Gross Income limits and marital status limits on these transfers; and 2) enabling individuals to pay the income taxes on these transactions over two tax years 2011 and For transfers after 2010, income taxes are due in the year of the transfer. Individuals can also transfer in-service withdrawals if they qualify under plan rules. Most plans offer 59½ withdrawals, so even if the person is still active they may be eligible for a Roth transfer. There are some limitations to keep in mind: With respect to employer match money you have in a workplace-sponsored plan, you can transfer 401(k) money to a Roth IRA only if you are no longer working for that plan s sponsoring organization (i.e., you left the employer or were terminated) AND you pay current income taxes on the transferred amount. (Because Roth IRA contributions are after-tax, you need to pay taxes on the amount prior to transferring money to the Roth IRA.) To learn more, consult a tax advisor, speak with a Prudential Retirement Counselor by calling PRU-2100 or visit the Prudential Retirement Education & Planning website at Conceptually they re similar. That is, contributions are not tax deductible. But earnings (and contributions) can be withdrawn at retirement tax free (provided you follow the rules). One of the main differences between a Roth IRA and a Roth 401(k) is that a Roth IRA has income limits that determine eligibility to contribute. There are no income limits for a Roth 401(k). Distribution rules are also different. For example, Roth IRAs do not have a RMD requirement at age 70½ and allow you to distribute your contributions at any time without tax or penalty. A simplified employee pension (SEP) is a written arrangement that allows your employer to make deductible contributions to a traditional IRA (a SEP-IRA) set up for you to receive such contributions. Generally, distributions from SEP-IRAs are subject to the withdrawal and tax rules that apply to traditional IRAs. IRAs & Company Sponsored Retirement Plans Is my company 401(k) considered a traditional IRA? Can I do a mix of a traditional and a Roth IRA? Does company match apply when Roth is part of the 401(k) plan? Actually, they re quite different. A 401(k) is an employer sponsored retirement plan. An IRA is something you can open on your own, it is not connected to your employer sponsored retirement plan and is funded with contributions you make. Employer plans generally have higher annual contribution limits; IRAs generally have more investment options to choose from. Certainly. You just have to adhere to the annual contribution limits. This means that combined, the amount you contribute each year does not exceed the annual limit. You would establish two accounts - one for a traditional IRA and one for a Roth IRA. It applies in the sense that you still qualify for one. However, employer matches typically accumulate in a separate account that is taxed as ordinary income at withdrawal. 6 Back to Table of Contents

7 IRAs & Company Sponsored Retirement Plans Employer sponsored Roth 401(k) vs. regular 401(k)s: In what circumstances is one better than the other? That depends on your situation now and your financial situation as you think it may be in retirement. Many people prefer to take the tax advantage today and opt to pay taxes later, in retirement, when they feel they may be in a lower tax bracket. These, of course, are the folks who tend to favor the traditional 401(k) plan with its tax-deductible (now) contributions. Others prefer to pay taxes on their contributions today so their withdrawals (including their account s investment earnings) will be tax free, as long as certain guidelines are met. That being said, many people prefer to fund both so they have what is referred to as tax diversification. You should look at your current financial picture, consider your options and seek professional advice, if needed. Opening an IRA After setting up a Traditional or Roth IRA account with a financial institution, do I need to go back to my employer to set up the contributions? Are there fees for opening and managing IRAs like load funds? Is there a minimum amount to start either IRA? Do you make one contribution or put them in monthly? Must an account be opened by 12/31 the previous year even though contribution isn t due until 4/15 the year after? How do you set up a Roth IRA? No. Contributions to an IRA are made on your own. That is, not through an employer s payroll deduction. So you do not need to circle back to the employer at all but you must remember to make the contributions before the tax filing deadline. Yes. Some IRAs, indeed, include investments that charge up front fees or loads. And there may also be annual administrative fees. And, depending on where you go to open your IRA, there could also be commissions. Most IRAs have an initial minimum contribution requirement, although in some cases it can be quite nominal. Likewise, many IRAs allow you to contribute at will, either monthly, annually, even weekly. However, no matter how often you contribute, you must adhere to the annual contribution limit ($5,000, or $6,000 for those 50 and older). You can open an IRA up until tax filing day. In other words, you could open a 2011 IRA as late as April 17, And indeed, on that day you could contribute a maximum $5,000 for 2011, and another $5,000 for Setting up a Roth IRA is easy and essentially no different than setting up a traditional IRA. And Prudential Retirement Counselors can help you with either. To speak with a Prudential Retirement Counselor, call PRU-2100 or visit the Prudential Retirement Education & Planning website at 7 Back to Table of Contents

8 TAXES & PENALTIES What are the requirements for my IRA contribution to be tax deductable? Is the 10% penalty on both Traditional & Roth IRAs before 591/2? How is the 10% penalty applied, only on the withdrawn amount or on the entire account balance? Can you transfer your 401(k) into a Roth or a traditional IRA without paying taxes? This is more complex than it might seem. For starters, Roth IRA contributions are not tax deductible. But withdrawals may come out federal income tax free. Traditional IRA contributions may be tax deductible. But that depends on such things as your Modified Adjusted Gross Income, filing status (married or single) and whether you (or a spouse) is an active participant in an employer sponsored retirement plan. For specifics, it s best to consult a trusted tax attorney or financial advisor. Yes. But it only affects the taxable portion of the withdrawals. For example, it would not be applied to a Roth contribution. If you converted funds to a Roth IRA and take a withdrawal from the conversion amount within 5 years, you would owe a tax penalty on that even though it s not currently subject to income tax. There are ways to remove money without the 10% penalty, but the rules are complex. Consult a trusted tax attorney or financial advisor for specifics. It s applied only to assets withdrawn before you ve reached age 59½. Yes and no. Generally you can transfer assets to a traditional IRA without a tax liability. But transferring 401(k) assets to a Roth IRA will typically require that you pay income taxes. What are the tax advantages to having an IRA along with your 401(k)? I have a traditional IRA for which I have not taken a deduction. My expectation is that I will not have to pay taxes when I withdraw the funds? Is this correct? Although it s important that you consult your own tax advisor for specific information, generally employer sponsored retirement plans, such as a 401(k), provide an immediate tax incentive because contributions are generally subtracted from your taxable annual income. Roth contributions are not tax deductible, but earnings can be withdrawn federal income tax free if certain requirements are met. (Some employers are beginning to offer Roth contributions within traditional retirement plans, by the way.) Which is better? That depends on a number of factors, including your investment time frame and whether your employer s plan provides for an employee match. The difference is typically control over investments and withdrawals (typically better with an IRA) vs. investment costs and fiduciary considerations (typically better with a 401(k) plan). For more help deciding, visit for IRA calculators. If you ve already paid taxes on the contributions, you shouldn t have to pay taxes again when you withdraw those contributions. But you will likely owe taxes on any traditional IRA earnings you withdraw. How do you know which dollar is which? You can track that by annually filing Form 8606 with your income taxes. 8 Back to Table of Contents

9 TOOLS & ARCHIVE Will slides be available after the webinar? Can you to me? Can you show an example of starting at the age of 30 what you would end up with when you retire? How can I get a list of upcoming seminars for 2011? What does it cost to talk to a Prudential Retirement Counselor? We do not have a copy of the text/script from the webinar available, but you can view the entire webinar again or download a Podcast at Visit for calculators that can help give you a better understanding of your individual financial situation. Visit for a complete list of webinar events for You can register now and we will send you a reminder 24 hours in advance. You can also download our archived webinars, see past webinar Q&A and access additional tools, articles, calculators, and online courses. Prudential Retirement Counselors are available at no cost. WITHDRAWALS How much do you have to take out of your traditional IRA at age 701/2? The amount is based on a couple of things, including your age, marital status, who your beneficiary is, and how large your IRA is. It s a percentage based on IRS longevity tables. For more specific information, please see IRS Publication 590 or consult a tax advisor. Is there any situation where you don t have to take the mandatory withdrawal at age 701/2? What will happen to the traditional IRA when the individual dies? Are the factors that you listed for penalty-free withdrawals for only traditional IRA or for Roth IRAs too? Roth IRAs have no such requirement, while the owner is alive. You are also not required to start taking withdrawals from your employer plan if you are still actively employed by that employer, assuming you do not own more than 5% of the company. Assuming you ve named a beneficiary, any remaining assets will go to your heirs. In fact, inherited IRAs are some of the largest assets left to beneficiaries. Generally they re for both IRAs (withdrawals from traditional IRAs and earnings from Roth IRAs) and include: - Paying college expenses for you or a family member. - Paying medical expenses greater than 7.5% of your adjusted gross income. - Paying for a first-time home purchase (up to $10,000 lifetime limit). - Paying for the costs of a sudden disability. Also, you can generally take back one contribution made to a traditional IRA without tax or penalty provided you do so before the tax filing deadline of that year and do not deduct the contribution from your taxes. 9 Back to Table of Contents

10 Many of you asked plan specific questions, please contact your benefits or Human Resources office or speak with a Prudential Retirement Counselor by calling PRU Still have questions? Call PRU-2100 to speak with a Prudential Retirement Counselor. This material has been provided for informational purposes only and should not be considered investment advice or a product recommendation. All investing involves various risks, such as fixed income (interest rate), default, small cap, international and sector including the possible loss of principal. Prudential is not responsible for the information contained in the external website(s) and makes no representations about information contained therein. The sites are provided to you for informational purposes only. Prudential is not a tax or legal advisor and encourages you to consult your individual legal or tax advisor with any specific questions. Retirement products and services are provided by Prudential Retirement Insurance and Annuity Company, Hartford, CT, or its affiliates. Securities products and services are offered through Prudential Investment Management Services LLC (PIMS), Three Gateway Center, 14th Floor, Newark, NJ PIMS is a Prudential Financial company. Retirement Counselors are registered representatives of PIMS. Prudential Retirement is a Prudential Financial business. Prudential, the Prudential logo and the Rock symbol are service marks of Prudential Financial, Inc. and its related entities, registered in many jurisdictions worldwide. RSL Published 06/ Back to Table of Contents