Self-Directed IRA and Traditional Retirement Savings for Your Children

Self-Directed IRARecent studies show that a large percentage of Americans feel they need to work past age 70 to be able to continue covering their living expenses. This underscores the need for individuals to improve their Self-Directed IRA and retirement-saving habits…for many this means starting to save at an early age. You can help your children by encouraging them to begin funding their retirement accounts as soon as they start earning eligible income. Consider the following when funding retirement accounts for your children.

The Child Must Have Earned Income

The required income rules that apply to adults also apply to children. A contribution cannot be made to a child’s IRA unless that child receives eligible income of at least the dollar amount of the contribution made for the year. For this purpose, eligible income includes wages, salary, and commission.

Eligibility Rules Apply

A child is subject to the same eligibility rules that apply to adults. This includes:

  1. The child’s contribution to IRAs for the year cannot exceed a total of $6,500 or 100% of eligible income, whichever is less.
  2. The child must have income within the limits for funding a Roth IRA, which means a Roth IRA contribution cannot be made for that child if his or her modified adjusted gross income (MAGI) exceeds:
  • $129,000 if single
  • $191,000 if married, and
  • $10,000 if married, filing separately
  1. If the child received benefits or contribution under an employer sponsored retirement plan, he or she might be considered an active participant and would be able to claim a tax deduction for traditional IRA contributions only if his or her MAGI does not exceed:
  • $70,000 if single
  • $116,000 if married filing jointly, or
  • $10,000 if married, filing separately

If the child is not an active participant but is married to someone who is, the MAGI limit is $191,000,

Most children will not have this issue of high income. But for those who might, it is important to pay attention to these limits to prevent tax filing and/or contribution errors.

You Can Pay Your Child a Salary – But Be Careful

If you own and operate your own business, you can pay your child a salary so that he or she is eligible to contribute to an IRA. Of course, such salaries must be done on a legitimate basis and be able to pass any IRS scrutiny. For instance, if you pay your child for providing administrative services such as filing and answering the telephone, that child must be of age to do so and you must have payroll records that satisfy statutory requirements.

Availability May Be Limited

Not all financial institution allow IRAs to be opened on behalf of children and, for those that do, the parent or legal guardian is usually required to be the authorized signatory on the IRA until the child reaches the age of majority as defined by the state of domicile. If you are the authorized signatory, you would be responsible for approving transactions such as distributions and investments. Once the child reaches the age of majority, then he or she would become eligible to be the authorized signatory on the account.

It Adds Up

Helping your child to start saving at an early age not only encourages good savings habit, it could lead to significant retirement savings. Consider that a savings of $1,000 per year for 40 years at a 4% return per year would amount to about $100,000. If the account is a Roth IRA, the entire accumulated savings would be tax-free when the child reaches age 59 ½, or sooner if it has been at least five years since the first Roth IRA was funded and he or she is withdrawing up to $10,000 for a first-time home purchase, he or she is disabled, or if the amount is being withdrawn by a beneficiary in the event of his or her death.

Professionals Can Help

Professionals can help you discover practical solutions for your child’s saving and retirement planning needs. It is never too early to start saving, but when you do, you want to start with the right type of account.

 

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Schedule Your Required Minimum Distributions (RMDs) Early

Required Minimum DistributionIf you are at least age 70½ this year, you must take required minimum distributions (RMD) from any Traditional IRA, SEP IRA, SIMPLE IRA, and Self-Directed IRA that you own. You may also need to take RMDs from any IRA or other retirement account that you inherited, and from amounts you hold under an employer-sponsored retirement plan. While your RMD for the year must generally be withdrawn by the end of the year, scheduling it in advance can help to make sure you meet the deadline by which it must be withdrawn.

Your Required Minimum Distribution (RMD) Deadline 

Generally, your first RMD must be taken by your required beginning date (RBD), which is April 1 of the year that follows the year in which you reach age 70½. This means that if you reach age 70½ in 2013, your first RMD must be taken by April 1, 2014. All other RMDs must be taken by December 31 of the year to which the RMD applies. As such, if 2013 is not your fist year for RMDs, or if you need to take an RMD from an inherited IRA, that amount must be distributed by December 31, 2013.

Note: If you have funds in an account under an employer plan, such as a 401(k), 403(b), governmental 457(b), or pension plan, and you are still working for the company which offers the plan, you may be allowed to delay starting your RMD past age 70½, until after you retire. Check with the plan administrator to determine the RMD rules that apply to the plan.

If you miss your RMD deadline, the RMD amount not withdrawn by the deadline is subject to an IRS assessed excess accumulation penalty of 50 percent. For instance, if your RMD for the year is $10,000 and you took only $2,000 by the deadline, you will owe the IRS a penalty of $4,000 on the $8,000 which was not taken by the deadline.

Calculating Your Required Minimum Distribution (RMD)

Your 2013 RMD amount is determined by dividing your December 31, 2012 fair market value (FMV) by your life-expectancy factor which is obtained from IRS provided Life expectancy tables. Your FMV must be adjusted by adding any outstanding rollovers, outstanding recharacterizations and outstanding transfers.

  • Outstanding rollovers are distributions taken from an IRA during one year and rolled-over to the same or another IRA during the following year.  For instance, a distribution taken in December of one year, and rolled over in January or February of the following year. These rollovers are required to be completed within 60-days of receipt.
  • An outstanding recharacterization is a Roth conversion that is recharacterized in the year that follows the year in which the conversion was done. For example: A conversion that is done in 2012 and recharacterized in 2013 is an outstanding recharacterization for your December 21, 2012 FMV.  Recharacterizations are required to be completed by your tax filing deadline, including extensions. If you file your tax return by the due date, you receive an automatic six-month extension, bringing the deadline to October 15 if you file on a calendar year.
  • An outstanding transfer occurs when assets are being transferred between two IRAs and the assets leave the delivering IRA in one year and are credited to the receiving IRA in the following year.

The Custodian that held your IRA as of December 31 of 2012 is required to provide you with an RMD statement for 2013, which must include your calculated RMD amount or an offer to calculate the RMD upon request. The RMD statement requirement does not apply to Inherited IRAs.

Even if your Custodian calculates your RMD amount, you should have a professional double check the calculation, as your Custodian is allowed to make certain assumptions that could result in inaccurate results.

Schedule Your Required Minimum Distribution (RMD) Now

Even if you do not want to take your RMD now, you may still consider making arrangements to ensure it is distributed by the deadline. This can be accomplished by providing instructions to your IRA custodian now, to schedule your distributions for a future date. Alternatively, you may schedule amounts to be withdrawn periodically throughout the year. In such cases, care must be taken to ensure sufficient cash is available to cover scheduled distribution amounts.

 

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What to Do if You Missed Your Required Minimum Distribution (RMD) Deadline

Required Minimum DistributionIf you are subject to the required minimum distribution (RMD) for 2013 and do not take your RMD amount by the deadline, you will owe the IRS an excess accumulation penalty of 50% of the RMD shortfall. The good news is that the penalty can be waived if the right steps are taken. The following highlights the RMD rules and the steps that can be taken if you missed your RMD deadline due to reasonable cause.

When is the Deadline for Taking an RMD?

Let’s start by determining the deadline by which an RMD must be taken from a retirement account.

If you are the Retirement Account Owner

The deadline for taking a required minimum distribution (RMD) is usually December 31 of the year to which the RMD applies. However, there are two exceptions:

  • If you reached age 70½ during 2013, the deadline for taking your 2013 RMD is April 1, 2014. All subsequent RMDs must be withdrawn by December 31 of the year to which the RMD applies.
  • If you are older than age 70½ in 2013, and have assets in a retirement plan that allows RMDs to be deferred past age 70½ until you retire, your first RMD for those assets is due by April 1 of the year following the year that you retire. This option can apply only to qualified plans, 403(b) plans and 457(b) plans, and cannot be made available to individuals who own more than five percent of the business that sponsors the plan (5% owners).

If You are a Beneficiary

If you own an inherited retirement account, you are required to withdraw beneficiary-RMD amounts by the end of 2013, if any of the following applies:

  • You are subject to the life expectancy rule and the retirement account owner died before 2013.
  • You are subject to the five year rule and the five year period expires at the end of 2013.

Under the five year rule, distributions are optional until the end of the fifth year, at which time the entire balance must be withdrawn from the account.

What to do if You Missed Your RMD Deadline

If you missed your RMD deadline, you owe the IRS an excess accumulation penalty of 50% of the shortfall. For instance, if the RMD for 2013 is $10,000 and only $2,000 is withdrawn by the deadline, you will owe the IRS an excess accumulation penalty of $4,000 ($8,000 x 50%). In such cases, you have two choices:

  1. Pay the IRS the penalty. This is calculated on IRS Form 5329 (under the section labeled “Additional Tax on Excess Accumulation in Qualified Retirement Plans (Including IRAs)” and reported in the ‘other taxes’ section of your tax return (Form 1040). Important note: You cannot file Form 1040A or 1040EZ if you file Firm 5329. Instead, you must file Form 1040.
  2. Ask the IRS to waive the penalty. The IRS will waive the penalty, if you can show ‘reasonable cause’ for not taking the RMD. If you feel that you qualify for a waiver, you should File Form 5329 and attach a letter of explanation to the IRS.

When applying for the waiver, you need to take the missed required minimum distribution (RMD) amount as soon as possible.

Professionals Can Help

If you need help with your RMD, you should consult with a professional who is proficient in the area of distribution-planning for retirement accounts.  While the calculation of your RMD might seem simple, there are factors that must be taken into account to ensure the calculation is correct. Professionals will help to ensure that these are not overlooked when handling your case.

 

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Avoid Tax Traps for After-Tax Self-Directed IRA Funds

Self-Directed IRAGenerally, distributions and Roth Conversion amounts from your Traditional Self-Directed IRA are treated as taxable income to you. However, if you have after-tax amounts in your Traditional Self-Directed IRA, distributions and Roth conversion of these after-tax amounts should be tax-free. You could mistakenly pay income tax on these amounts if the proper tax filing and reporting is not done.

Where Do After-Tax Funds Come From?

Your Traditional Self-Directed IRA will include after-tax funds if you made contributions and did not claim a tax deduction for all or a portion of the amount on your tax return. The deduction may not have been claimed because you and/or your tax advisor simply chose not to, or because you were ineligible to claim the deduction because you received benefits under an employer plan and your income exceeded a certain amount.

Your after-tax funds may also be attributed to a rollover of after-tax amounts from an account under an employer plan, such as a 401(k) or 403(b) plan, to your Traditional IRA.

Ensuring After-Tax Funds are Not Taxed

The IRS provides Form 8606 in order to track and report after-tax funds in your Traditional Self-Directed IRA. To this end, Form 8606 must be filed for any year that you make nondeductible contributions to your Traditional IRA. Additionally, Form 8606 must be filed for any year that you take a distribution or convert funds to a Roth IRA if your Traditional IRA has after-tax funds the year that the distribution or Roth conversion is done. By accurately completing and filing Form 8606, you keep track of the after-tax balance and share the information with the IRS.

Balance Aggregated and Pro-Rated for Taxation

Distributions or Roth conversion amounts from your Traditional Self-Directed IRA will include a pro-rated amount of after-tax and pre-tax funds as long as your Traditional IRA includes an after-tax balance. As such, you cannot select only after-tax or pre-tax funds when performing such transactions. Furthermore, all of your Traditional IRAs, SEP IRAs, and SIMPLE IRAs are treated as one when determining how much of a distribution or Roth conversion amount is not taxable.

For instance, assume that you have two Traditional Self-Directed IRAs: Traditional IRA #1 has a balance of $10,000 all of which is after-tax funds. Traditional IRA #2 has a balance of $90,000 all of which is pre-tax funds. If you take a distribution (or Roth Conversion) of $10,000 from Traditional IRA #1, only $1,000 will be tax-free and $9,000 will be taxable. This rule applies because, for IRS purposes, you took a distribution of $10,000 from an aggregate Traditional IRA balance of $100,000.

Caution: Determine Balance Formula

When determining the ratio of the taxable vs. nontaxable portion of a distribution or Roth conversion, the balance as of the end of the year in which the transaction is done is used. If the transaction is done in January when you had only Traditional Self-Directed IRA #1 with a balance of $10,000, and you rollover a pre-tax amount of $90,000 from your 401(k) to Traditional Self-Directed IRA #2 in December of the same year, your account balance used in the formula would be $100,000 (plus or minus interest or losses) .

The year-end balance is also adjusted by adding the following amounts:

  • Distributions taken from your Traditional Self-Directed IRA during the year and rolled over the next year within 60-days of receipt. For instance, if you took the distribution in December and did a rollover of the amount in January.
  • Roth IRA conversions done during the year and re-characterized the following year. Under Roth conversion rules, you can reverse a Roth conversion by doing a re-characterization of all or a portion of the amount by your tax filing deadline plus extensions.

Other distributions and Roth IRA conversions done during the year may also need to be included in the calculation.

 

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Annual Check Up for Your Self-Directed IRA

Self-Directed IRAYour Self-Directed IRA should be given a check-up at least once per year. A complete Self-Directed IRA check-up requires the assistance of a financial advisor who is also an expert in the Self-Directed IRA field. A Self-Directed IRA check-up process covers areas such as: estate-planning review, RMD determination, contribution error detection, conversion suitability, and whether you need to file tax forms to receive certain tax benefits for your IRA. These are highlighted below.

Estate-Planning Review

Have your professional check to make sure your Self-Directed IRA agreement and documentation are consistent with your estate-planning needs. This is especially important for beneficiary designations, and more critically so if you need to make special provisions for any of your beneficiaries.

RMD Determination

If you are at least age 70½ this year, you must take a required minimum distribution (RMD) from your IRAs. You may also need to take RMD amounts from any retirement account that you have inherited. Failure to take your RMD amount could result in you owing the IRS an excess accumulation penalty of 50% of the RMD shortfall. have your professional check to make sure that your correct RMD amount is taken from your IRA, so as to prevent you from owing this penalty.

Contribution Error Detection

If you made ineligible contributions, including ineligible rollovers, these amounts will be subject to IRS penalties and possibly double taxation unless corrected in a timely manner. Have your professional check your Self-Directed IRA activity to determine if any such errors occurred and work with you to make any necessary corrections.

Conversion Suitability

If you converted amounts from another retirement account to your Roth Self-Directed IRA last year, have your professional review the Roth conversion to determine if it should be reversed for reasons such as significant market losses. They should look at other reasons why a Roth-conversion reversal may make sense, and help you to determine if any of those reasons apply to you. The IRS allows Roth conversions for the previous year to be reversed as late as October 15 of the current year, if you meet certain requirements. If it is determined that the conversion should be reversed, have your professional work with you to have it accomplished properly and in a timely manner.

Filing Tax Forms

There are certain tax forms that may need to be filed in order for you to receive certain tax benefits, or to correct reporting done by your Self-Directed IRA custodian. Have your professional review your transactions to determine if these forms should be filed on your behalf.

Let us Help You to Take Care Of Your IRA

There are instances in which more frequent check-ups may be required. For instance, if you experience a life-changing event, such as a death of one of your beneficiaries or a marriage or birth that affects your beneficiary designation, your professional may need to conduct a review to determine if and what changes should be made.

 

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The Fast Track To Wealth

A Full Day Seminar with Ron LeGrand
Saturday, March 22nd from 8:30 AM – 5:00 PM
Location: DoubleTree Hotel, 1075 Holcomb Bridge Rd in Roswell, GA

Ron LeGrandAtlanta REIA is very excited to announce that Ron LeGrand will be teaching his all-day Fast Track to Wealth Seminar in Atlanta on Saturday, March 22nd at 8:30AM at the DoubleTree Hotel located at 1075 Holcomb Bridge Rd in Roswell, GA for a full days’ worth of serious money making strategies for real estate investors.

Here’s a little of what Ron will be covering at the Fast Track to Wealth Seminar…

  • Session I. Making Big Money With No Money Or Credit
  • Session II. How To Make $5,000 Per House On Over-Leveraged Houses And Never Own Them And Do 4 A Month Part Time. Please Note: When you register for this event, you will be able to download a copy of Ron’s “Property Information Sheet”. Take this lead sheet, call a few sellers and get a few of these completed lead sheets to class and Ron will analyze the deals with you and try to help you close some deals in class. Ron will be giving out “I Buy Houses” T-Shirts to everyone who brings in some fully completed lead sheets!
  • Session III. Getting Rich In Your IRA Tax Free
  • Session IV. Where To Find The Best Deals Even With Hot Competition
  • Session V. Handling A Personal Financial Crisis

Ron will cover all this and much more! For much more detail on what Ron will teach you at the event, click here.

5 Factors of the Self-Directed Roth IRA Conversion Decision Process

Traditional IRA | Roth IRADeciding whether one should convert assets from a traditional retirement account to a Self-Directed Roth IRA is an important task, and in order to make a reasonable and educated decision, many factors must be taken into consideration. Still it is well worth the consideration since the account will grow tax-free forever after it is converted to a Roth IRA.

The following are only five of the many factors that should be taken into consideration.

1.     Current vs. Future Tax Rates

Many economists and tax professionals who have analyzed factors such as the historical changes in tax rates, the events that either cause or predict increases in tax rates, and the national debt, agree that significant increases in tax rates in future years is inevitable. Individuals who agree with these experts may feel that it is a smart tax move to convert to a Self-Directed Roth IRA now when tax rates are lower, rather than keeping assets in a Traditional IRA where they would be taxed at a higher rate when withdrawn later.

2.     Retirement Horizon

One of the factors to consider when deciding about whether a Self-Directed Roth IRA makes good tax sense is whether you will have sufficient time to accrue enough tax-free earnings that would, at a minimum, offset the tax-related cost of converting amounts to a Roth IRA.

Example: Assume that you convert $100,000 in pre-tax amounts from your Traditional IRA to your Roth IRA, and you owe income tax of $28,000 on the amount. This $28,000 will have to be taken from your retirement account or other sources, which means $28,000 that is no longer available for investing in your retirement nest egg.

A Roth conversion analysis would take the number of years you have until retirement into consideration, so as to determine whether the tax-free earnings that could be accrued during that time is sufficient to make the conversion worthwhile.

3.     Your Beneficiaries and Who You Want to Pay The Income Tax

If you will be leaving your retirement savings to a charity, a Traditional IRA may be a better choice since the charity will not owe income tax on the amount. On the other hand, if your beneficiary is someone like your spouse or child, converting the amount to a Self-Directed Roth IRA could allow him or her to inherit the amount tax-free.

4.     Source of Income Tax Payment

Generally, you are required to pay the income due on a Roth conversion by your tax filing deadline. If you do not have the amount available in non-retirement saving accounts, then the income tax can be paid from the conversion amount. If you choose to pay the income tax from the conversion amount, only the net amount would be converted, which means the income tax amount would not be available for tax-free growth in the Roth IRA.

Example: Assume you convert $100,000 and elect to have $20,000 withheld for federal income tax. Only $80,000 would be converted to your Roth IRA, with $20,000 remitted to the IRS as an income tax payment on your behalf.

A Roth conversion analysis would help to make a reasonable determination of whether a conversion would make sense in such cases.

5.    Investment Vehicles and Rate of Return

A critical component of a Self-Directed Roth IRA conversion analysis is the rate of return on your investments. If your investment portfolio includes stocks, bonds, mutual funds and other investments that do not offer a guaranteed rate of return, then the rate of return is based on assumptions and speculations. On the other hand, if your conversion amount is invested in a product that provides a guaranteed rate of return (such as an annuity), you might get a more realistic determination of the comparison between converting and not converting to a Roth IRA.

These are just a few of the many factors that should be taken into consideration, and what might apply to one person might not apply to another. As such, the Self-Directed Roth IRA conversion decision is often based on a customized Roth profile. Further, whether an outcome is considered favorable can be a matter of personal preference.

 

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