What to do?

[Guest ucat4]

Ill make this as short and to the point as possible.

My wife and I DO want to start contributing to a Roth IRA and our current circumstances are as follows:

-I currently have a traditional IRA through Idex which is a "rollover" from a previous employers 401K plan. I have not contributed to it for years and all money in the plan is from pretax dollars. I have a decent amount of money in it but not a whole lot...less than $30,000

-I am currently enrolled in my employers 401K plan (recently enrolled).

-My wife currently has a Roth IRA that she wants out of. The balance is small....less than $2000

Questions:

1. Should I roll my current traditional IRA into a Roth? No, I dont think I would need to "dip" into it to pay any taxes on the rollover. Would the taxes be around 30%? I have read up on the subject a little and kept reading about if my contributions made to the IRA were deductable and how this would affect my decision??

2. Maybe we should just start a new Roth from scratch? Is it ok for me to have an existing IRA, a 401K through my employer AND a Roth IRA? Or, should we start the new Roth in my wifes name?

Any guidance on this matter is greatly appreciated!

Thank you!

[John G]

The Roth conversion question is very complex - you need to provide a ton of additional info about income, taxes, resident state, ages, estimated future earnings. It is not slam dunk to say yes, there are many scenarios where it is about a break even event. Basically, a conversion works best for folks who for some reason have a single year of low income but expect there incomes (and tax rates) to go much higher in the future. You may also want to convert if you currently live in a state with zero income taxes but expect to move to a state with income taxes. Sometimes a partial Roth conversion gets you lots of benefits without causing too much pain. You should ask your accountant or tax advisor about this option... you can also find more info here by searching "conversion".

Question: What is your wife considering doing with her Roth? I don't understand "wants out".

In general, if you meet the income qualifications for a Roth and have the extra cash to fund it - you normally want to max out both of yours. You can transfer (ideally direct custodian to custodian) various IRA and Roth accounts to clean up the clutter. Any long term investment program offered by an employer that has a matching component is a good idea if the investment choices are reasonable. There can be problems if the employer forces you to buy company stock or limits your investment choices.

[Guest mjb]

You need to review IRS pubulication 590, P 57 available at www.IRS.gov to determine if you meet the requirements for conversion. You need to consider whether the payment of taxes would be a worthwhile investment since you will give up future investment earnings on the tax paid as well as the tax paid on the conversion. In other words for each $1000 in taxes paid you lose another $1000 in investment earnings over 10 years at a 7% rate of return on the taxes paid so that the total reduction in your net worth is $2000. After 20 yrs the reduction increases to $4000 and $8000 after 30 years. If you will be in the same tax bracket in retirement that you are in now there is 0 income tax benefit in a Roth conversion.

[John G]

MJB - good summary. When Roth conversions first became available, lots of people thought that the math always tilted towards converting. In the case where tax rates are equal now and in the future, it's a draw.

Adding to the difficulty of making a choice is trying to predict tax rates in the future. Go back 10 years and tell me everyone knew that long term capital gains and dividends could be taxed at 15%. Not me. At that point, I had assumed that because of my gain in income, inflation potentially shifting folks to higher brackets, and the urge of governments to spend more would all drive my marginal tax bracket higher. For the moment, the opposite has happened.

Sure, there are times when conversion makes a lot of sense.... in low income years, when their is a employment gap, before you income pushes you past the conversion threshold, or after you retire and you can create a low income year. But, even with these examples, you are still making a lot of guesses about the future.

Because a Roth conversion involves so many factors, it is wise to as your accountant or tax advisor to give you a second opinion about the "math".

[Guest ucat4]

Thanks John G and mjb for your input. I think at this point I'll probably just leave my traditional IRA where it is and start a new Roth IRA.

What about the other question.....Is it ok for me to have an existing IRA, a 401K through my employer AND a Roth IRA?

Thanks again.

[John G]

IRAs or Roths from prior years have no impact on what you do this year or next. Yes, you can have a Roth and a 401k.

You can also have multiple Roths or Roths and Regular IRAs in one year. But, the combination must not exceed the max contribution allowed and you must still qualify for each piece.

Why does your wife "want out"? Is she disallusioned about a specific investment? That part is still left confusing. Normally, you don't kill a Roth if you have a bad investment but instead try to repositon the remaining assets in something better.

Also, you can combine IRAs or combine Roths using a direct custodian to custodian transfer. This cleans up clutter and can reduce your annual fees.

[Guest ucat4]

Thanks for all of your insight John. She wants to kill her current Roth because it hasn't made any profits literally "nothing"! It is through 5/3, not to slam 5/3 or anything. Maybe she can just roll it over to another Roth or something.

[John G]

Sounds like the problem is choosing investments. I have no idea what 5/3 is. Is this some kind of mutual fund or do you mean 5th Third Bank?

Both of you need to understand that stocks don't just glide up hill all the time. Some stocks, some mutual funds do poorly. Last years losers, while painful, can sometimes be next years great idea. Gold and energy for example have been leaping higher this year. You would not want to have been in them for most of the past 10 years.

Hopefully you "tuition" in the school of hard knocks helps you make better decisions in the future. Your goal is to learn more each year and from each decision. We all make bad choices - but over a very long period of time the bad decisions are usually trampled by the cummulative good choices. Why? Because capitalism works, it rewards folks who improve products and take risks.... and the stock market reflects the growth and progress.

And.... frankly, the general market has been pretty ugly for most of the past 5 years. There have not been many outstanding mutual funds with double digit anualized returns over 5 years.

[Guest ucat4]

John G, you sure do know your stuff. The Roth that my wife is in is actually Fifth Third, the bank.

Thank you for all of your advice.