FP 105 CLASS 4

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FP 105 CLASS 4

• Individual Retirement Accounts

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Traditional IRAs

• An IRA is a type of retirement savings vehicle
  under which contributions may be tax deductible
  and the investment earnings are tax deferred.
• An IRA is just a shell not an investment by
  itself. There are many different kinds of funding
  vehicles that can be used.
• In order to contribute to an Traditional IRA, a
  person needs to be under 70.5 years of age by the
  end of the tax year and have earned income.
• Alimony is considered earned income.
• Typical funding vehicles are stocks, bonds,CDs,
  saving accounts, and annuities.
• Collectibles and life insurance are prohibited as
  investments in IRAs.
• Also, loans from a participant's IRA to the
  participant are prohibited.
• Traditional IRAs are subject to minimum
  distribution rules.

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Deductibility of IRAs?

• A person is an active participant in an
  employers retirement plan for a given year if
  the participant actually receives an employer
  contribution or accrues a benefit under an
  employers defined benefit plan for any part of
  that year. A person is an active participant in a
  defined contribution plan if any contribution or
  forfeiture is allocated to the participants
  account.

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Single Individuals

• If a single person is not covered under an
  employer sponsored retirement plan that person
  can contribute and deduct to the lesser of the
  IRA maximum contribution or earned income.
• If a single person does participate in an
  employer sponsored retirement plan, the person
  can contribute and deduct up to the lesser of the
  maximum IRA contribution or earned income if the
  persons AGI is below
• Year 2001- 33,000
• Year 2002- 34,000
• Year 2003- 40,000
• Year 2004- 45,000
• Year 2005- 50,000
• Year 2006-50,000

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Single Individual Continued...

• If a single person is an active participant in an
  employer sponsored retirement plan and has income
  above the initial threshold amount but below the
  upper limit, which is 10,000 above the initial
  threshold, then the individuals contribution
  can be partially deductible.
• Example Mary is an active participant in her
  employers retirement account and her AGI is
  47,000 in the year 2004. How much can Mary
  contribute and deduct in her IRA?

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Answer

• 2,000/10,000 .20 .20(3000) 600 non
  deductible. 2,400 deductible.
• Can contribute 3,000
• There is a 200 floor under the reduction
  formula. So as long as the taxpayer is below the
  AGI cutoff level, at least 200 can be
  contributed and deducted.

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More Examples

• Linda age 35 has an AGI of 55,000 in the year
  2004 and is an active participant in her
  companys SEP. How much can Linda contribute to
  her IRA? How much can she deduct?
• Linda AGI in the year 2004 is 54,999 and is an
  active participant in her companys SEP. How much
  can she contribute to her IRA? How much can she
  deduct?

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Maximum Annual IRA Contribution

• Year Dollar limit
• 2001 2,000
• 2002 through 2004 3,000
• 2005 through 2007 4,000
• 2008 5,000
• For individuals who have attained age 50 before
  the close of the tax year, an additional
  contribution is allowable
• Year
  Dollar Limit
• 2001 0
• 2002 -2004 500
• 2005 500
• 2006-2007 1,000
• 2008 1,000

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Deductibility Continued..

• Married people filing jointly that do not
  participate in an employer sponsored retirement
  account can contribute and deduct up to the
  lesser of earned income or the maximum IRA
  contribution.(regardless of income)
• If married people filing jointly both
  participate in an employer sponsored plan and the
  combined income is less than the initial
  threshold amount, both people can contribute and
  deduct up to the lesser of earned income or the
  maximum IRA contribution.
• If both married persons filing jointly
  participate in an employer sponsored plan and the
  combined income is in the phaseout range than a
  portion of the IRA contribution can be deductible.

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IRA Active Participant Phaseout Ranges. Married
Filing Jointly

• Year Phaseout Ranges
• 2001 53.000-63,000
• 2002 54,000-64,000
• 2003 60,000-70,000
• 2004 65,000-75,000
• 2005 70,000-80,000
• 2006 75,000-85,00
• 2007 and later 80,000-100,000

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Example

• Tim and Jennifer Daigle both participate in
  their employers retirement plan and Tim and
  Jenns AGI is 58,000 in the year 2004. How much
  can Tim contribute to his IRA? How much can Jenn
  contribute to her IRA? How much of Tims
  contribution is deductible? How much of Jenns
  contribution is deductible?

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One Spouse Participating

• If only one spouse participates in an employer
  sponsored retirement plan and their AGI is under
  150,000 , the non participating spouse can
  contribute and deduct the lesser of earned income
  or maximum IRA contribution for that year.
• Phaseout between 150,000-160,000 , the non
  participating spouse will get a partial deduction.

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Spousal IRAs

• The Spousal IRA was created by the tax reform act
  of 1997. The Spousal IRA allows the spouse of a
  wage earner to contribute up to the lesser of
  earned income not already contributed to an IRA
  by the wage earner and the maximum IRA
  contribution for that year.
• The same phaseout ranges apply.

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Example

• Mike earned 2700 in the year 2004 and his wife
  made 200.
• How much can Mikes wife contribute and deduct in
  an IRA? Assuming Mike contributed 1800 to his
  IRA.

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Non Deductible IRAs

• Any individual or married person can make non
  deductible IRA contributions subject to certain
  limits.(need earned income)
• The limit is the same regardless of income
  levels it is the excess of the maximum IRA
  contribution( lesser of earned income or the
  maximum IRA contribution for that year) less
  deductible IRA contributions made.

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Educational IRAs- Coverdell Education Savings
Account

• The Taxpayer relief act of 1997 created the
  Educational IRA designed to help certain people
  save for a childs education.
• Money contributed to an ED-IRA is non deductible.
• Earnings grow tax-deferred.
• Treated as nontaxable gifts to the beneficiary.
• If earnings are distributed to pay for qualified
  educational expenses, the earnings are excluded
  from the beneficiarys income.
• Qualified educational expenses are defined as
  tuition, fees ,books,supplies,room and board(some
  situations) and equipment required for the
  enrollment or attendance at a eligible higher
  educational institution.
• An eligible higher education institution is any
  college , university, vocational school or other
  post-secondary educational school described in
  section 481 of the Higher Education Act of 1965.
• After 2001. distributions can also be used for
  elementary and secondary , private or religious
  school expenses.

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Educational IRAs Continued..

• No limit on the number of beneficiaries for whom
  one contributor may set up an ED IRA.
• The contributor need not be related to the
  beneficiary.
• Maximum Contribution in 2001-500
• Maximum Contribution in 2002 and beyond -2,000
• Contributions must be in cash
• Made prior to the beneficiary turning 18
• Excess contributions are subject to a 6 per year
  penalty.
• No contribution to an ED IRA for a beneficiary
  during any year in which a contribution is made
  for a qualified state tuition program.(529 plan)
  Repealed for 2002 and beyond
• The contributor has to have income below certain
  AGI.(190-220)

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Educational IRAs Continued..

• Distributions from an ED IRA are considered part
  principal and part earnings. If distributions
  exceed qualified educational expenses, a portion
  of the distribution will be included in the
  beneficiaries income and subject to a 10
  penalty.
• If a beneficiary does not use the funds held in
  the ED-IRA, a new beneficiary can be named if the
  new beneficiary is in the same family and under
  30.
• If a beneficiary reaches age 30 and there are
  funds remaining in the ED IRA, the funds must be
  distributed and the growth will be subject to tax
  and the 10 Penalty.
• Ownership of assets for financial aid purposes?

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Roth IRAs

• A Roth IRA is a type of IRA which allows
  contributions up to the lesser of earned income
  or the maximum IRA contribution in that given
  year. The contribution is non deductible but the
  earnings grow tax free and withdrawals are tax
  free under certain conditions.
• Withdrawals are tax free if they are qualified
  distributions
• A qualified distribution is a distribution made
  after a five year waiting period, and which are
  made
• On or after the taxpayer reaches age 59.5
• Due to a taxpayers death
• Due to a total and permanent disability(social
  security definition)
• Made for a first time home purchase(10,000
  lifetime maximum but can be used more than once
  as long as the individual and spouse did not own
  a principal residence within the preceding two
  years.)

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Roth IRAs Continued...

• Distributions that are not qualified are subject
  to tax after all non deductible contributions
  have been received. In addition, a distribution
  that is not qualified and received before 59.5 is
  subject to an extra 10 penalty.(There are
  exceptions)
• Differences between a Traditional IRA and a Roth
• Contributions can be made after 70.5
• No minimum distribution required
• Roth IRAs have phase-outs due to income. Being a
  participant in an employer sponsored plan does
  not affect eligibility.

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AGI Phase Outs

• Unmarried individuals 95,000-110,000
• Married filing jointly 150,000-160,000
• Married filing separately 0-10,000
• The adjusted gross income used for these limits
  is modified AGI, which excludes taxable income
  from a conversion of a traditional IRA to a Roth
  IRA.

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Conversions and the Roth

• A Traditional IRA can be converted over to a Roth
  IRA provided that the IRA owners AGI does not
  exceed 100,000
• For tax years beginning 2005, the definition of
  adjusted gross income has been modified to
  exclude minimum distributions to IRA owners aged
  70.5.

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Annual Limits for a Roth

• Tax Year Dollar Limit
• 2001 2,000
• 2002-2004 3,000
• 2005-2007 4,000
• 2008 5,000
• For individuals who have attained age 50 prior to
  the close of the tax year, an additional dollar
  amount is available.
• Year Additional Limit
• 2001 0
• 2002-2004 500
• 2005 500
• 2006 and 2007 1,000
• 2008 1,000

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Time Limits for Traditional and Roth IRA
Contributions.

• Eligible persons may establish a Traditional or
  Roth IRA any time prior to the due date of their
  tax return, without extensions.

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Annuities

• An annuity is a periodic payment to commence at a
  stated or contingent date and to continue for a
  fixed period for the duration of a life or lives.
• The person whose life governs the duration of the
  payments is called the annuitant.
• If payments are to be continued for a specified
  period but not the life of the annuitant, this is
  called a temporary annuity.
• If payments are to be continued for the life of
  the annuitant, this is a life annuity.

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Annuities Continued..

• Annuities can either be immediate or deferred.
• Tax deferral during the accumulation stage is one
  of the biggest benefits.
• Annuities can be fixed or variable.
• Under a fixed annuity, the principal as well as
  the interest is guaranteed by the insurance
  company.(Low risk)
• Variable annuities are designed to provide
  protection from the effects of inflation. The
  assets are invested in separate accounts and the
  investment results are credited to the account.
• Contract owner bears the investment risk.

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Annuities Continued..

• Annuities can be purchased in a lump sum(single
  payment annuity) or on an installment basis.
• Annuities can be paid over one life(single life
  annuity) or over two or more lives. (joint and
  survivor annuity)

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Annuity Payout Options

• Pure Life Annuity Pays a sum of money for the
  life of the annuitant.(no refunds)
• Life Annuities With Period Certain A life
  annuity with period certain pays a sum of money
  for the life of the annuitant and if the
  annuitant kicks the bucket, payments are
  guaranteed for a certain period.(5,10,15,20)
• Installment Refund Annuity Pays a sum of money
  during the life of the annuitant and in the event
  of death, payments are continued to a beneficiary
  until the full purchase price is reached.
• Cash Refund Annuity Same as the installment
  annuity but if the annuitant dies prior to
  receiving the total purchase price, the
  beneficiary will receive a lump sum.

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Tax Consequences Of Annuities

• If the annuity is non-qualified, not inside the
  shell of a tax advantage plan, part of each
  payment during annuitization, is a return of
  basis and non taxable until all the basis is
  recovered.
• Exclusion Ratio Percentage of each payment that
  is non-taxable.
• Inclusion Ratio Percentage of the payment that
  is taxable.
• Ordinary withdrawals from an annuity will capture
  all earnings first and will be taxable before
  basis is received.(LIFO)
• Pre 8/14/82 contracts- FIFO
• Be aware that a premature distribution before age
  591/2 might incur a 10 penalty.

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Example

• John purchased an annuity for 60,000 in 1995.
  The annuity grew to 100,000 and wants to
  annuitize. He is going(expected) to receive 500
  per month for life . He is 65 years old with a
  life expectancy of 25 years.
• What is Johns annual payment?
• How much is taxed per year?

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Some Planning Opportunities with Annuities.

• Medicaid Planning.
• Income that you can not outlive.
• Shelter income and tax on money just accumulating
  and can reduce or eliminate taxes on social
  security payments.
• Supplemental retirement income with tax deferred
  growth.(ability to rebalance portfolio without
  taxes or charges)
• Death Benefit on some annuities.